How
Identifying Economic Links can Prove Rewarding for Your Portfolio
By Anthony Rhodes
As
intelligent readers of How To Invest,
I’m sure that you are all familiar with the phenomenon known as The Butterfly
Effect: an understanding that seemingly insignificant details can have
serious and dramatic influence on complex systems. This comprehension reflects
itself more broadly in the sayings “An
apple a day keeps the doctor away”, or “An
ounce of prevention beats a pound of cure”, but the premise behind these
catchphrases are all identical, in that they describe an undeniable connection
between causes and effects, be it in matters of science, or health, and believe
it or not, in matters of economics, as well.
Interpreting
the economic consequences of this dynamic, and converting it into worthwhile investment
opportunities, is one of the characteristics which distinguishes great portfolio
managers, from good ones. Just about anyone can deduce that an accident at a
prominent oil refinery will have a negative impact on short-term oil prices,
but recognizing that an unexpectedly violent volcanic eruption in the Arctic, can
cause soft drink prices to fall half
a world away, is one of the observations reserved only for the conscientious; who
are able to follow these unseen links to their profound and rewarding economic
conclusions. So this week, we’ll discuss the importance of honing your skills
in this particular area, with the ultimate goal being, to get you to understand
that noticing the connections which align situation to location to industry to
product, is far more than a mere intellectual exercise, but that it holds
significant implications for your portfolio, whether you choose to acknowledge
them or not.
Simplifying Complexity
It’s
nearly impossible for the novice to completely understand the interconnectivity
of all the ingredients, goods, products and services which amalgamate into the
system we call economics, let alone the vast network and influence of outside
forces, which can place this system in a state of flux. So, without attempting
to guide you in this direction, perhaps it’d be best to focus on the areas of
our economy, in which you find
interest, which is more likely where you’d also invest. If you enjoy athletics,
it’s not a far reach to assume that you might also own an athletic apparel
stock. If retracing the supply line of the products of such a company, you’ll
discover a listing of specific materials which are essential to their creation.
Once these items are identified, begin to think of all of the conditions which
could have an adverse effect on their production; which will, in turn, potentially
impact company earnings. This knowledge will provide you with a first mover
advantage when or if such incidents occur, and provides a rudimentary introduction
to the basis of this weeks’ topic.
Universal Links
This
exercise is easy to perform when dealing with companies within similar sectors,
but as the complexities of groupings increases, so too must the ability to identify
the connections between them. Just as chess Grand masters can anticipate an opponents’
reactions multiple moves ahead, elite practitioners of this craft can
identify the underlying fundamental links which connect multiple sectors
together, and more importantly, how individual actions can affect them all. For
example, a hurricane in the pacific, whose activities disrupt sugar cane
production, will obviously affect sugar producing companies. But what might not
be known, is the multitudes of other sub-sectors, whose products indirectly require
glucose as a source material, will also be affected. Using this method of correlation
will provide you with informative insights into the potential movements of
various companies. And although I don’t expect you to become an expert on this discipline after reading this post, understanding the basic processes by which it
works, will most certainly place you on the right path.
The
statement “No man is an island” emphasizes
the important, and necessary dependency which we all have towards one another. It
implies, for good or bad, the undeniable truth that we are all interconnected,
and that no single person, regardless of talent or resource, is free from
this entanglement. But such a declaration can also be made of corporations, as they also
require one another to maintain their survival. And that by applying
capitalistic principals to these perceived associations, allows individuals to profit
from their interactions, long before others begin to realize that they even exist.
(Anthony
Rhodes is the President and owner of wealth management firm
The Planning Perspective www.theplanningperspective.com )
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