How to Evaluate Stock Risks During Depressing Times

The stock market's recent gyrations have some mutual fund shareholders concerned about the potential for a more severe decline in prices. But even if that happens, there are ways to avoid the worst consequences without giving up your investment in stock funds.

One approach is to evaluate the different risks in your mutual fund portfolio, and then make adjustments if you think those risks are too high.

First, consider stock market risk - the risk that the stock market as a whole will decline sharply.

When that occurs, it's hard for any portfolio of stocks to avoid losses; thus, you can expect that most of your stock fund shares will lose value.

That said, some stock funds will lose more than others.

For example, funds most vulnerable to stock market risk include those that buy shares of high-flying technology companies or others that trade at very high levels. Such funds often decline considerably more than the stock market when a correction or bear market occurs.

Many funds that fall into the "aggressive growth" category used by fund monitoring newsletters and other services have high stock market risk.

You also can spot other funds that are especially vulnerable to stock market declines by calling the fund sponsor and asking some pertinent questions.

First, ask for the average price/earnings ratio of a fund's portfolio. If it exceeds the average for the S&P 500 that's a sign that the manager is paying high prices for the stocks in his portfolio. Such high-fliers can sink like stones when investors turn sour on stocks.

Also ask about the fund's beta, another measure of risk. If the beta is greater than 1.0, the fund generally is more volatile than the stock market. For example, a beta of 1.2 means the fund is likely to decline about 1.2 percent when the market falls 1 percent. Many aggressive growth funds have betas of 1.5 or higher.

The publication Morningstar Mutual Funds, available at libraries or brokerage firms, will tell you how volatile a fund has been relative to the average stock fund. For example, American Heritage has a Morningstar risk score of 3.24, which means it is 3.24 percent times as volatile as the average stock fund.

You can identify funds with low P/E ratios and low betas to reduce your stock market risk.

Low-risk funds often trail the market when prices are rising - but not always. Your best fund bets may include funds that have been less volatile than their peers and have outpaced the typical stock fund over time.

If you are persistent, the fund's sponsor might provide that information. Otherwise, check for a low risk score in Morningstar Mutual Funds at

morningstar.com and then consider the fund's returns vs. other stock funds over the past three, five and (if it's been around a full decade) 10 years.