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An industry risk analysis is one performed by an investor or a investment professional determined to show the risks involved with investing in a specific industry. The idea behind such an analysis is that different companies in the same industry are often linked in terms of their stock performance and the risks that their particular industry holds. Performing an industry risk analysis involves looking for real-world events that could damage a particular industry and charting price performance to watch for any significant downward trends. In addition, analysis can focus on the portfolio of an investor to makes sure it is well-diversified and immune to most industry risk.
Many people study their stock selections by analyzing each potential stock and the companies that issue them. Such a strategy might overlook the kind of risks that a company assumes just based on the industry it inhabits. This is known as industry risk, and it is significant enough that it can alter the fortunes of any company. Since that is the case, it is wise for investors to consider an industry risk analysis when composing their portfolio.
As an example of how industry risk works, imagine a company in the technology industry that is devoted to one specific product. If another company comes along with improved technology that makes this product obsolete, the company could be in serious financial trouble and their stock price would reflect that. A solid risk analysis would take that kind of risk into consideration when performing valuation of that company.
Industry risk analysis can be done with technical analysis techniques that are similar to those used for individual stocks. The only difference would be that these techniques, such as price charts and moving averages, would be applied to industry averages. In this way, price trends can show if an industry is headed for a decline. Using this type of analysis in conjunction with qualitative analysis of current events that could cause tumult in certain industries will provide a complete overview of an industry's risk factors.
One way that an industry risk analysis can help an investor is by showing if his or her portfolio is too heavily skewed to a single industry. Such a scenario could be damaging if the industry risk surrounding that industry comes to fruition and stock prices plummet. Balancing out a portfolio with stocks from various industries with different risk levels can help prevent such a calamity from occurring.