Chapter 12 Investing in Stocks

Evaluating Stocks  Characteristics of stock Public corporation – company whose stock is traded openly Stockholders (shareholders) – owners of corporations Stockholders benefit:  Dividends – corporate profits paid to stockholders  Capital gains – increase in stock’s value above price paid (realized only when stock is sold)

Evaluating Stocks  Characteristics of stock (cont) Common stock – pays variable dividends, gives voting rights Dividends are paid per share Proxy – stockholder’s written authorization to transfer voting rights Preferred stock – pays fixed dividends, no voting rights Dividends are paid as a percent of original cost Dividends are guaranteed (less than common stock)

Evaluating Stocks  Classifying stock investments Income vs. growth stocks Income stocks – history of paying high dividends Popular among retirees Growth stocks – companies reinvest profits to grow the business Less-established vs. blue chip stocks Less-established – young, small corporations (risky) Blue chip stocks – large, well-established corporations with solid record of profits (conservative)

Evaluating Stocks  Determining a stock’s worth Stock value Par value – artificial dollar value assigned to the stock Market value – current price stock is being bought and sold for in the marketplace

Evaluating Stocks  Determining a stock’s worth (cont) Factors affecting stock price 1. The company 2. Interest rates 3. The market 4. Earnings per share – after tax earnings divided by the number of shares of common stock outstanding

Evaluating Stocks  Determining a stock’s worth (cont) Return on investment (ROI) Profit earned on stock as a percentage of the cost to buy (including broker commission) Dividends plus capital gain Computing a stock’s ROI Figure 12-1, page 285

Buying and Selling Stock  The securities market Securities exchange – marketplace where brokers buy and sell securities New York Stock Exchange (NYSE) – largest exchange in the United States American Stock Exchange (AMEX) Corporations must meet minimum number of shares and market-value requirements Floor brokers – buy and sell stocks

Buying and Selling Stock  The securities market (cont) Over-the-counter market – network of brokers who buy and sell securities not listed on exchange NASDAQ – corporations must have at least 100,000 shares of stock worth at least $1 million

Buying and Selling Stock  The securities market (cont) Bull and bear markets Bull market – prolonged period of rising stock prices (investor optimism) Bear market – prolonged period of falling stock prices (investor pessimism) On average bull market last 3-4 times longer than bear market

Buying and Selling Stock  Investing strategies Short-term techniques – playing the market Buying on margin – borrow money from broker to buy stock (margin agreement) Leverage – using borrowed money to buy securities Must establish margin account ($2,000 minimum) Betting stock price will increase Must consider interest cost and commission in computing ROI Figure 12-2, page 290

Buying and Selling Stock  Investing strategies (cont) Short-term techniques (cont) Selling short – borrow stock from broker and sell it Must replace stock at a later date Betting stock price will decrease Must consider commission in computing ROI Figure 12-3, page 291

Buying and Selling Stock  Investing strategies (cont) Long-term techniques Buy and hold Allows you to ride out down times Earn dividends while you own stock Stock split – increase in the number of shares outstanding Reduces the price of the stock encouraging investors to buy

Buying and Selling Stock  Investing strategies (cont) Long-term techniques (cont) Dollar-cost averaging – systematic purchase of equal amounts of stock at regular intervals Lowers average cost per share Recommended technique Direct investment Buying stock directly from corporation Avoid brokerage fees Reinvesting dividends Using dividends earned to purchase additional stock Avoids brokerage fees

Buying and Selling Stock  Reading the stock listings