Investment Decision

Introduction

The investment world is complex and rarely can decisions be made with absolute certainty. To be successful in finance the practitioner must develop a plan for each specific goal. He analyzes different investment options to determine which product is best suited to help reach that specific goal. There are many statistics that can be used to analyze stocks. We can use Price to Earnings to determine whether a stock is expensive or cheap. We can determine what the average gains have been for a particular stock for the past one, two, or three-year period. There are many different statistics we can look at when analyzing a stock but one of the most important statistics that few investors pay attention to outside of the investment world is standard deviation. Standard deviation helps us determine the riskiness in a particular investment.

Concept Methodology

According to Investopedia, “Standard deviation is a statistical measurement that sheds light on historical volatility. For example, a volatile stock will have a high standard deviation while the deviation of a stable blue chip stock will be lower” (Standard Deviation, 2011). What this means is that when comparing two stocks or mutual funds we not only need to consider their average return, we also need to consider how their annual returns vary over time. For long term investments, more than five years, we are not so concerned about volatility because we know that over time investments perform according to their historical averages. However, when we are investing for short term goals we need to consider volatility more closely because one or two bad years in a row, and we will not have time to recover our losses in time to meet the goal. We will consider a goal and analyze two mutual funds to determine which of the two is most suited to meeting our investment need.

Concept Application

For our example we will be trying to determine the best investment to save for a new car. We want to...