VectorVest is pleased to announce the release of VectorVest Australia effective June 1, 2007. VectorVest Australia is similar to VectorVest Canada in that there are many exciting mining and resource stocks in the database, which have been providing tremendous returns to investors. Like Canada, Australia also hosts a broad range of outstanding companies in other areas.

For example, last week's Barron's Magazine headlined an article, "Australia's First $100 Stock." It was about CSL Ltd., a biopharmaceutical company that discovered Gardasil, a break-through product for cervical cancer which is being marketed in the U.S. by Merck. CSL Ltd is also the world's second largest maker of plasma-derived products behind the U.S.'s Baxter International. CSL Ltd closed yesterday at AUD$91.90, having gone up virtually in a straight line from AUD$65.41 on 01/02/07. It is rated a "B."

We are very excited about VectorVest Australia and hope you will be too. You are invited to a 30-Day Free Trial to VectorVest Australia beginning June 1, 2007. The tab for VectorVest AU will appear on the Homepage of VectorVest OnLine users on June 1st. Simply click on the tab and install the product. Users of VectorVest ProGraphics may install the product from our web-site, www.vectorvest.com.

RISK OF RUIN.
Two weeks ago I wrote about a guy who lost $500,000 on a question a fifth grader could answer. I called him a fool because he had no idea what his chances were of winning. Actually, he was an even bigger fool than that.

Tens of thousands of people gamble in Las Vegas every day, knowing full-well that they're probably going to lose. You might call them fools, but they went to Vegas to have fun and a big part of that fun is seeing how long their stake would last before it ran out. So they make relatively small bets, knowing that they could lose time and time again before going broke. If any one of them had $500,000, they wouldn't bet the whole wad on a single roll of the dice or turn of a card.

The first thing a reasonable person would do is estimate the odds of winning and compare the risk to the reward. Even with this information, he or she would still need to decide how much to bet. Let's suppose you had a trading system that went to zero value or doubled your money 50% of the time. How much of your stake would you place on a single trade? If you said 100%, your risk of ruin would be 50% because you have one chance in two of winning. At 20%, you would need to lose five times in a row to go bust and the chances of this happening would be approximately 3 in 100. Could you handle this risk? You might think so, but I wouldn't take the risk. I think a risk of one chance of being ruined in 100 is too high. That's why I would never put all of my liquid assets into stocks. See my essay of 02/07/03.

The simple example shown above assumed you were making only one bet at a time. What would you do if you were placing more than one bet at a time? Of course, you would be forced into allocating your funds among the bets. You would also want the bets to be independent of each other, i.e., diversified among stocks, bonds and cash, and you'd want to use controls such as stop-prices to mitigate the losses on any bet.

There's a whole lot more you could do to reduce risk that goes well beyond the scope of this essay, but I thought you would like to know at least a little about the Risk of Ruin.

P.S. See my essays of 09/01/06 and 08/25/06.

Wow! We had a great turnout here in Las Vegas this week, and I want to thank all of you who came to see us. Your wonderful support and kind expressions of praise for VectorVest are appreciated deeply. I also want to send a warm welcome to our Las Vegas User Group, coming very soon. If anyone has a suggestion as to where it can meet, please email Amy at amyo@vectorvest.com. Thank you for attending The Las Vegas Money Show.

RISK, REWARD AND PROBABILITY.
Last week I wrote about a guy who lost $500,000 on a question a fifth grader could answer. I called him a fool because he had no idea what his chances were of winning. As investors, how can we assess our chances of winning?

Statistical theory tells us that stock prices are just as likely to go down as they are to go up. So our chances of winning, without any other considerations, are 50%. OK, but this answer says nothing in regard to risk and reward. The character I referred to last week, at least knew he could win $1,000,000. So how can we determine the probable risk and reward of a given stock purchase?

This is where volatility comes into the picture. Everyone knows that risk increases with higher volatility, but it's hardly ever mentioned that reward also increases with higher volatility. Risk and reward change to the same degree given a normal distribution of statistical probability. One must specify a time period, however, to determine the probability of the occurrence of a given price change. And the Option Pricing Model is the perfect tool for making this assessment. So let's see how it's done.

Please access Stock Viewer and set the Drop Down Calendar to 05/17/07. Find First AmerCorp., FAF. (I picked this stock because it closed at $50.01 per share.) Right click anywhere on the FAF row and select "Calculate Option Price." The Option Pricing Model pops up, complete with the results of its computation. At the top of the screen, note that the Statistical Volatility for the last 50 trading days was 17.43%. This volatility is pretty low and suggests that there would be low risk in buying this stock. Unfortunately, the reward would also be low. The item labeled "Delta" on the Call side of the screen says that there was only a 4% chance of this stock closing at or above $55.00 by June 15, 2007.

If you click on the little box labeled "Use Implied Volatility," enter 100 in the box labeled "Implied Volatility" and click on the "Calculate" button, you'll see that the Delta or probability of FAF closing at or above $55.00 by June 15, 2007 increased to 43%. This is much better, but the chances of the stock falling to or below $45.00 have also increased to 43%. Pretty neat, huh? Yes, if that were all there was to picking stocks.

Let's set Stock Viewer back to 12/14/06 and find FAF again. FAF closed at $41.06 on that day. The Option Pricing Model said that there was only a 3% chance of it closing at or above $50.00 by the end of trading on March 16, 2007. It did, however, on 03/07/07. Does this mean that the Option Pricing Model is no good? Not really. It just means that there is a whole lot more to picking stocks than a cold, hard statistical assessment of Risk, Reward and Probability.

As we prepare to participate in next week's Las Vegas Money Show, I can't help but compare investors and gamblers to fools. Investors are generally viewed as those people who are willing to accept some risk but clearly want the odds of winning to be in their favor. Gamblers are seen as risk takers, but they are not fools. Good gamblers figure the odds of winning; then decide whether the reward is worth the risk. Fools are individuals who bet their money on the thrill of the moment without proper risk/benefit analysis.

Take, for example, the contestant who reached the $500,000 level on last night's "Are You Smarter Than a Fifth Grader?" show. He was only the third contestant to have reached this lofty level. One of the previous contestants took the money and ran. The other went for the $1,000,000 and lost. Last night's contestant decided to go for the $1,000,000. He's a Yale University graduate and was president of the math club. Obviously he's a pretty smart guy, but he's still a fool. Why would he bet $500,000 when he had no way of knowing what his chances of winning were?

In this regard, I call your attention to Mr. John Campbell's thoughtful analysis illustrated in his April 20th "Strategy of the Week," "To Straddle or Not to Straddle." As you may recall, one of our subscribers made $6,000 in a few days on an option straddle based upon a preliminary FDA committee giving Dendreon's prostate cancer drug, Provenge, a thumbs up. Subsequently, John learned that the FDA might not be so inclined. Indeed, the FDA asked for more data and the price of Dendreon's stock fell $11.41 per share, or 64.3%. Even so, John showed that placing an option straddle on the occurrence of such an event made no sense because the options were too expensive. It's this kind of analysis that distinguishes investors and gamblers from fools.

One of the most important things we try to do in VectorVest is put the odds of winning in your favor. We advocate that you buy safe, undervalued stocks rising in price when the market is rising. We have run thousands of tests showing that this is a highly reliable system of investing with a high probability of success. But even that isn't enough. You need to diversify your portfolio, always have a clearly defined exit strategy for every stock, and constantly assess risk and reward. Don't Be A Fool.

P.S. The Yale graduate lost his $500,000.

The big news today is that Microsoft is moving to acquire Yahoo!. Yahoo!'s stock price is up. Microsoft's price is down. So why would Microsoft want to spend $50,000,000,000 to buy Yahoo!?

Companies engage in mergers and acquisitions for strategic reasons: they want to grow sales and earnings, gain new technology, eliminate a competitor, strengthen a position and so on. In Microsoft's case, it is being driven by fear of Google, which has emerged as a major threat to Microsoft. Google originally focused on providing internet advertising and search capabilities. Its approach was novel, software sophisticated and management creative. It made a lot of money and extended its technology into many new areas, such as Google Docs and Spreadsheets, which compete directly with Microsoft's bread and butter products. Moreover, Microsoft wants to grow its business in internet advertising and it has been losing the battle for internet eyeballs. This is really why Microsoft wants to buy Yahoo! So what would a Microsoft/Yahoo! merger look like?

A VectorVest comparison of MSFT and YHOO shows that MSFT is undervalued, and YHOO is overvalued. MSFT has a better financial track record, higher earnings per share, higher forecasted earnings growth and it pays a dividend while YHOO does not. In fact, Microsoft is superior to YAHOO! by every key indicator and parameter that VectorVest provides. So how could this acquisition possibly help Microsoft's stock price go up?

That's a very good question and I can't answer it. First of all, MSFT's EPS would go down by about $0.13 per share. Earnings growth will go down unless someone lights a fire under Yahoo!, and I don't think that's going to happen. Microsoft has a crummy management team and so does Yahoo!. How can two crummy management teams mate to produce a creative, dynamic, entrepreneurial team? I don't know. So if the merger does go through, I won't be calling Microsoft Microsausage anymore. I'll be calling it Microhoo!

P.S. Maybe Microsausage should buy Apple; then they could put Steve Jobs in charge.