Investing: Properly Defining Risk

Many in the financial world define risk using some sort of variance measure, like beta. This, in my mind, is a foolish attempt to quantify something that can only loosely be quantified. Finance is not a hard science.

Warren Buffett often points out the absurdity of using beta as a measure of risk with the following example: if KO were to decrease in value by 50% tomorrow, is it a better buy or a worse buy? It is a better buy, of course...you are buying the same thing for less. However, a 50% decrease in value in one day would lead to a high beta for the stock.

A much better definition of risk is one articulated by Ron Muhlenkamp in his book Harvesting Profits on Wall Street. Ron defines risk as the possibility of a long-term, permanent reduction of purchasing power due to 1) taxes, 2) inflation, and/or 3) capital loss. Individual investors can outpace taxes and inflation buy making sure they invest in equities instead of bonds, providing of course they have a long enough investment time horizon that they can ride out the volatility. Minimizing capital loss, then, simply means buying stocks trading with sufficient margins of safety. No regard for beta is necessary.

Global Trading at ETrade

E-Trade is rolling out a platform whereby American investors can exchange currencies and invest directly on foreign stock exchanges: Canada, UK, Germany, France, Japan, and Hong Kong.

Time will tell if this will actually be a profitable activity for investors given the fees likely involved in exchanging currency and actually trading, but it's a great step in the right direction.

E*trade Global Trading

BofA $50 Statement Credit Amex Card

The offer:

Bank of America currently has a promotion for its Worldpoints cards providing $50 cash-back (via a $50 credit to your credit card) 8-12 weeks after your first purchase.

The fine print:

§§§ To qualify for this offer, your new account must be used to make any purchase or cash advance transactions (including balance transfers; which may include transaction fees within 45 days of the account open date). Limit one (1) item per new account. The Bank of America WorldPoints™ Platinum Plus™ MasterCard® Credit Card offer is subject to application approval by FIA Card Services, N.A.. Upon qualifying, a $50 credit will appear on your Bank of America WorldPoints™ Platinum Plus™ MasterCard® Credit Card statement. Allow 8-12 weeks from qualifying to receive the promotional credit.

The link:

http://www.bankofamerica.com/creditcards/

BofA $0 Equity Trades Not Free!

Bank of America has been heavily marketing it's new $0 trades, but it's important to pay attention to the fine print.

In order to qualify for the free trades you need to have $25,000 in combined accounts with Bank of America. This $25,000 could be yielding ~5% in an internet savings bank like Emigrant Direct for you today. At Bank of America it will be yielding substantially less.

If we optimistically assume that your money will be earning 1% at Bank of America (based on some mix of checking/savings/cd deposits), you will be foregoing 4% of interest income every year, or $1,000 pretax. That is a lot more than free!