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Finance Chapter 9. Common and Preferred Stocks  Learning Targets Learn how to explain the reasons for investing in common stock Learn how to explain.

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Presentation on theme: "Finance Chapter 9. Common and Preferred Stocks  Learning Targets Learn how to explain the reasons for investing in common stock Learn how to explain."— Presentation transcript:

1 Finance Chapter 9

2 Common and Preferred Stocks  Learning Targets Learn how to explain the reasons for investing in common stock Learn how to explain the reasons for investing in preferred stock  Why do you think many people are reluctant to invest in stocks?  What might you need to know to make sound stock investment decisions?

3 Common and Preferred Stocks  Common Stock Securities ○ All of the investments (stocks, bonds, mutual funds, options and commodities) that are bought and sold on the stock market. ○ Why Corporations issue Common Stock To raise money to start up their business and to pay for ongoing activities Private Corporations -Issues stock to a small group of people. Not traded openly on the stock markets. 9-1

4 Common and Preferred Stocks ○ Public Corporations Sells it shares openly on stock markets, where anyone can buy them ○ A Form of Equity Corporations do not have to repay the money a stockholder pays for stock. -Use this money to fund ongoing activities Stockholders make money by selling stock to another investor Demand for the stock sets the price News on expected sales revenue, earnings, expansions or mergers can make demand go up or down.

5 Common and Preferred Stocks ○ Dividends not mandatory It is up to the corporate board of directors to decide whether any profits will be paid to the stockholders Can reinvest profits into the company Why Investors Purchase Common Stock ○ To make money - 3 Different ways: Income from Dividends -An equal amount per share -Paid quarterly Appreciation of Stock Value -Selling your stock for a higher price than you bought it for Increased Value from Stock Splits -Stocks are divided into larger number of shares -Why split? Management believes stock should be within an ideal price range. Split the stock to get back in that range -More appealing to new investors

6 Common and Preferred Stocks Voting Rights and Control of the Company -Stockholders get a vote for every stock they own in a company. -They get to vote on Company business -Usually at the annual stockholders meeting  Preferred Stock Should know the amount of dividends you should receive Par Value – Assigned dollar amount that is printed on the stock certificate Par Value x Dividend Rate = Dividend

7 Common and Preferred Stock  Why Corporations Issue Preferred Stock  Way to raise money  Method of financing  Attract more conservative investors  Why Investors Purchase Preferred Stock  Considered a middle investment  Safer investment than common stock, but not as safe as bonds  Steady source of income  Lacks the potential growth that common stock offers

8 Common and Preferred Stock ○ Cumulative Preferred Stock Stock whose unpaid dividends build up and must be paid before any cash stock is paid to common stockholders ○ Convertible Preferred Stock A stock that can be exchanged for a specific number of shares of common stock Provides safety of preferred stock but the possibility of greater returns by converting to common stock ○ Participation Feature Allows preferred stockholders to share in corporate earnings with common stockholders Any remaining earnings after all dividends have been paid Very Rare 9-1

9 Evaluating Stocks  Learning Targets Identify the types of Stock investments Identify Sources of information to evaluate stock investments Discuss the factors that affect stock prices  Types of Stock Investments Blue-Chip Stocks ○ Considered a safe investment that generally attracts conservative investors ○ Issued by the strongest and most respected companies ○ Companies that show leadership in an industry, a history of stable earnings, and consistency in the payment of dividends 9.2

10 Evaluating Stocks Income Stocks ○ Pays higher than average dividends compared to other stock issues ○ Buyers of preferred stocks are attracted to these common stocks ○ Pharmaceutical, chemical, gas and electric companies

11 Evaluating Stocks Growth Stocks ○ Issued by corporations whose potential earnings may be higher than the average earnings predicted for all the corporations in the country ○ Generally do not pay dividends ○ Look for signs that the company is engaged in activities that pay higher earnings and ales revenue: Building new facilities; introducing new, high quality products; or conducting recognized research and development

12 Evaluating Stocks Cyclical Stocks ○ Has a market value that tends to reflect the state of the economy ○ Products and services are directly linked to the activities of a strong economy ○ Should buy these stocks when they are inexpensive just before the economy starts to improve ○ Ex. Ford or Real Estate Companies and Home Builders

13 Evaluating Stocks Defensive Stock ○ A stock that remains stable during declines in the economy. ○ Stocks that have steady earnings and pay dividends even when the economy is down ○ Many of the Blue Chip stocks Large Cap ○ A stock from a corporation that has issued a large number of shares of stock and has a large amount of capitalization. Capitalization – The total amount of stocks and bonds issued by a corporation. ○ Most companies on the Dow Jones Industrial Avg.

14 Evaluating Stocks Small-cap Stocks ○ A stock issued by a company with a capitalization of $500 million or less. ○ Smaller, less established companies ○ Considered high risk Penny Stocks ○ Typically sells for less than a dollar a share, but can sell for up to $5 a share ○ Stocks issued by new companies or whose companies sales are very unsteady ○ Can go up and down wildly ○ Should be purchased by investors who understand the risk.

15 Evaluating Stocks  Sources for Evaluating Stocks Newspaper (Wall Street Journal) Internet Stock Advisory Series ○ Standard and Poor’s, Moody’s Corporate News Publications ○ Annual and Quarterly Reports from companies

16 Evaluating Stocks  Factors that Influence the Price of Stock Must consider the overall condition of the market Bull Market ○ Market condition that occurs when investors are optimistic about the economy and buy stocks. ○ Greater demand increases stock prices Bear Market ○ Market condition that occurs when investors are pessimistic about the economy and sell stocks ○ Demand goes down, stock prices go down

17 Evaluating Stocks  Numerical Measures for a Corporation Current Yield – Used to track value of Investments ○ = Annual dividend / Current Market Value ○ An increase is a healthy sign for any investment Total Return –Shows increase or decrease ○ = current return + capital gain ○ Current return = Dividend x # of shares x years held ○ Capital gain = (Selling price – Purchase price) x # of shares

18 Evaluating Stocks Earnings per share – Measures the amount corporate profit assigned to each share. ○ = Corporate net earnings / outstanding # of shares Price-Earnings (PE) Ratio – Used to compare the corporate earnings to the market price of a corporations stock. ○ = Market price per share / Earnings per share

19 Evaluating Stocks  Investment Theories The Fundamental Theory ○ Assumes that a stock’s real value is determined by looking at the company’s future earnings. The Technical Theory ○ Based on the idea that a stock’s value is really determined by forces in the stock market itself Look at number of stocks bought, sold or traded over a certain amount of time The Efficient Market Theory ○ Argument that stock price movements are purely random.

20 Researching Stocks  Find 2 different stocks that would fit into each of the following stock categories: Explain!  This will take some research! Blue Chip Stock Income Stock Growth Stock Cyclical Stock Penny Stock Large Cap and Small Cap Stocks 

21 Buying and Selling Stocks  Markets for Stocks Primary Markets ○ Market in which investors purchase new security issues from a corporation through an investment bank or a rep. from the company. ○ Investors are commercial banks, insurance companies, mutual funds, and the general public. ○ Initial Public Offering (IPO) Occurs when a company sells stock to the general public for the first time. 9-3

22 Buying and Selling Stocks  The Secondary Markets Once a companies stock is sold on the primary market, it can then be sold on the secondary market. Secondary Market ○ Market for existing financial securities currently traded among investors ○ There are two types of secondary market Securities Exchange Over-the-Counter Market

23 Buying and Selling Stocks Securities Exchange ○ A marketplace where brokers who represent investors meet to buy and sell securities. ○ New York Stock Exchange (NYSE) One of the largest in the world 3000 corporations total market value of about $16 billion A corporation must have a very large capitalization and trade many shares ○ AMEX is now NYSE Amex Equities Positioned to be a premier market for listing and trading of small and micro cap companies

24 Buying and Selling Stocks Over-the-Counter Market ○ A network of dealers who buy and sell the stocks of corporations that are not listed on a security exchange. ○ NASDAQ (National Association of Securities Dealers Automated Quotation System) Electronic marketplace for over 4000 different stocks Handles trades from forward thinking companies, usually small Microsoft and Intel are traded on it

25 Buying and Selling Stocks  How to Buy and Sell Stock Brokerage Firms ○ Company who handles your stock transactions ○ Full Service Charge the highest commissions in exchange for personalized service and free research information ○ Discount Brokerage Firms Charge less commissions but charge for all of your research information ○ Online Firm Charge less, a fee per transaction, and charge for information ○ Discount and Online firms generally believe that you alone are in charge of your investment plans

26 Buying and Selling Stocks  Account Executives/Stockbrokers Licensed professionals who buy and sell securities Handle your entire portfolio: a collection of all of the securities held by an investor Paid on Commissions ○ Brokerage Firms: $25 - $55 per transaction ○ Discount/Online: As low as $10

27 Buying and Selling Stocks  Types of Orders Orders: Buying or selling a stock Market Orders ○ Request to buy or sell stock at the current market value Limit Orders ○ Request to buy and sell stock at a certain price ○ Not guaranteed, filled in the order they are recieved Stop Orders ○ Used for selling stock ○ Type of limit order to sell a particular stock at the next available time when the market price reaches a specified amount

28 Buying and Selling Stocks  Investment Strategies Long Term (10 or more years = Investor) ○ Buy and Hold Technique Have the stock for a number of years Paid dividends and stock splits ○ Dollar Cost Averaging You buy an equal amount of stock at equal intervals Protects investors from buying at high prices and selling at low prices. Price averages out over time ○ Direct Investment and Dividend Reinvestment Direct – Buying stock directly from the company (No brokers and commissions) Dividend – Automatically reinvests dividends into buying more stocks

29 Buying and Selling Stocks Short Term (1 year or less, trader) ○ Buying on Margin Investor borrows through the brokerage firm part of the money (50%) needed ton purchase stock. -As long as you have $2000 in your account Do this to buy more shares Stock goes up = more money / Down = lose more ○ Selling Short Selling a stock that has been borrowed from a brokerage firm and that must be replaced at a later date Steps on next slide

30 Buying and Selling Stocks  How to Sell Short 1. Arrange to borrow a certain number of shares of a particular stock from a brokerage firm 2. Sell the borrowed stock, assuming that it will drop in value in a reasonably short period of time 3. Buy the stock at a lower price than the price it sold for in step 2 4. Use the stock you purchased in Step 3 to replace the stock that you borrowed from the brokerage firm in Step 1


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