Basic Risk Management

(Try to avoid risk, Take Risk, Manage Risk)

When investors decide to put their money in the stock market, there is only one rule that
should be remembered: Always expect the unexpected. (Stock Market Cash Flow by Andy
Tanner)

Thats why investors should take the time to learn about the different potential risks they
might face when putting money into an investment. Most people have no idea how risky it can
be in the market. If they dont know how to identify and neutralize those risks, it might be just a
matter of time until they end up losing all their investments in the market.

Non-Systematic Risk and Systematic Risk

Non-systematic risks are the things that can happen to affect the price of an individual stock
without impacting the overall market.

For example, the Megaworld decreased income from 21.29B in 2014 down to 10.21B
during 2015. Megaworld stock price went down from 5.88 pesos on April 2015 until 3.27 pesos
on January 2016. Notice also that the price fell down in the month of April which is the usual
releasing of Financial Statements.

Figure: Non-Systematic Risk

Systematic Risk is the risk inherent to the entire market or an entire market segment. Systematic
risk, also known as undiversifiable risk, volatility or market risk, affects the overall
market, not just a particular stock or industry. This type of risk is both unpredictable and
impossible to avoid completely.

For example, the fall down of US Economy during the year 2007 to 2008 that affects the global
market including the Philippine Stock Market. As shown in the charts of Ayala Land, Robinson
Land, Megaworld and Philippine Stock market Index, the behaviour of their price actions are
almost identical. The Prices of these stocks fell down continuously from November 2007 until
January 2016.

Ayala Land Robinsons Land

Megaworld Philippine Stock Exchange Index

Figure Systematic Risk

What is diversification?

Diversification is the process of allocating capital in a way that reduces the exposure to
any one particular asset or risk. A common path towards diversification is to reduce risk or
volatility by investing in a variety of assets.

Can Diversification lessen the impact of the Risk?

Investors may protect their investment from non-systematic risk through diversification,
however, this strategy can actually be dangerous if systematic risk is involved, because the
overall market during this time is really bearish. Therefore, the more investment on the market
in different Industry the more losses by the investor will be incurred.

Risk/Reward Ratio

According to the study of Andy Tanner in his book entitled Stock Market Cash Flow,
they learned a little about how to look at the price movements of a stock on a chart to set a price
target, an entry point, and an exit point. To help investors evaluate the potential attractiveness of
one trade over another investors so that they can use these price targets, entry and exit points a
way to measure each trade. They call this measurement the risk/reward ratio. Shown in the
figure are the suggested entry and exit price of Ayala land and Megaworld.
Ayala land Megaworld

Figure

Ayala Land and Megaworld Risk/Reward Ratio

Ideally, the entry price of Ayala land and Megaworld should be at some price near the
support (the green line in figure) and the target price is at price near the resistance (the blue line
in figure). If the price breaks above resistance level then the investor may establish another
target price or take the reward to make profit.

However, if the price breaks below support level (the green line in figure) after buying
the stocks then the investors should exit or sell their shares to minimize the losses. Most of the
professional investors cut their losses at a maximum of 2% net of all charges to protect their
investment and to avoid huge loss.

It should be noted that the entry and exit strategy of every investor mostly varies
accordingly to their rule and condition based on their experiences and knowledge.