Chapter 12 Personal Finance Investing in Stock Chapter 12 Personal Finance

12.1 Characteristics of Stocks Common Stock – A type of stock that pays a variable dividend and gives the holder voting rights. Preferred Stock – A type of stock that pays a fixed dividend and carries no voting rights.

12.1 Classifying Stock Investments Income versus Growth Stocks Income stocks have a consistent history of paying high dividends. Growth stocks are incorporations that reinvest their profits into the business so that it can grow.

12.1 Classifying Stock Investments Less-Established versus Blue Chip Stocks Less-Established have higher overall risk that stocks of companies that have been successful for many years. Blue Chip Stocks are stocks of large, well-established corporations with a solid record of profitability.

12.1 Classifying Stock Investments Defensive versus Cyclical Stocks A defensive stock is one that remains stable and pays dividends during an economic decline. Cyclical stocks do well when the economy is stable or growing but often do poorly during recessions, when the economy slows down.

12.1 Determining a Stock’s Worth Stock Value Par Value is an assigned (and often arbitrary) dollar value. Par value is an artificial number. Market value is the price for which the stock is bought and sold in the marketplace.

12.1 Determining a Stock’s Worth Factors Affecting Stock Price The Company – how well is the company performing Interest Rates – low rates, encourage investing The Market – does the product sell Earnings per Share – how much is the stock worth

12.1 Questions P. 285 In what two ways can you make money from owning stock? Stockholders profit through dividends and through capital gains (gain in value over time)

12.1 Questions P. 285 2) How is an income stock different from a growth stock? Income stocks are stocks that have a consistent history of paying high dividends. Growth stocks are stocks in corporations that reinvest their profits into the business so that it can grow.

12.1 Questions P. 285 3) Why do stockholders want to know a corporation’s earnings per share? Stockholders reinvestment avoids a broker fee as well as the tax consequences of receiving cash dividends on the stock.

12.2 The Securities Market Securities Exchange is a marketplace where brokers who are representing investors meet to buy and sell securities. Floor brokers buy and sell stocks on the exchange. The exchange of the auction market where buyers and sellers are brought together to trade securities.

12.2 The Securities Market Over-the-Counter Market is a network of brokers who buy and sell the securities of corporations that are not listed on a securities exchange. Brokers in the OTC market do not deal face-to-face. Bull market is a prolonged period of rising stock prices and a general feeling of investor optimism. Bull market is a prolonged period of falling stock prices and a general feeling of investor pessimism.

12.2 Investing Strategies Short Term Techniques Buying on Margin allows you to borrow money from your broker to buy stock if you open a margin account and sign a margin contract. Short Selling is selling stock borrowed from a broker that must be replaced at a later time.

12.2 Investing Strategies Long Term Techniques Buy and Hold Dollar-Cost Averaging Direct Investment Reinvesting Dividends

12.2 Reading the Stock Listings

12.2 Reading the Stock Listings Columns 1 and 2 – show the highest and lowest price this stock sold for this year Column 3 – lists the stocks alphabetically by name Column 4 – shows the cash dividend per share for the year Column 5 – percent yield

12.2 Reading the Stock Listings Column 6 – price/earnings ratio Column 7 – shows sales in hundreds of shares from the previous day Columns 8, 9, and 10 – highest, lowest and closing price for this stock on the previous day Column 11 – net change

12.2 Stock Indexes A stock index is a benchmark that investors use to judge the performance of their investments. The Dow Jones Industrial Average (the Dow) is one widely followed stock index. The Standard & Poor’s 500 and the NASDAQ Composite Index are other commonly used indexes.

12.2 Questions P. 296 What are two kinds of markets where securities are bought and sold? Securities are bought and sold in a security exchange or in the over-the-counter market.

12.2 Questions P. 296 2) Why is buying on margin risky? With a margin purchase, you are betting that the stock will increase in value. It may or may not.

12.2 Questions P. 296 3) How do you save money by reinvesting dividends? Dividend reinvestment avoids a broker fee as well as the tax consequences of receiving cash dividends on the stock.

Review Facts and Ideas Page 300 1) How would you earn a capital gain on your stock? Capital gain is an increase in the value of the stock above the price initially paid for it.

Review Facts and Ideas Page 300 2) How is common stock different from preferred stock? Common stockholders vote to elect the board of directors and are entitled to a vote on major corporate issues at the annual stockholder meetings. They share in the profits of a corporation; however, dividends are not guaranteed. If there are no profits, there are no dividends.

Review Facts and Ideas Page 300 2) How is common stock different from preferred stock? Preferred stock has guaranteed dividends stated either as a percentage of the par value or a stated amount of money for each share of stock. This dividend is paid before any dividend payments are made to common stockholders.

Review Facts and Ideas Page 300 3) What type of investor should purchase income stocks? Growth stocks? Income stocks are purchased by people such as retirees who are seeking a monthly income. Growth stocks are purchased as a long-term investment by people not desiring regular income but seeking dollar appreciation of stock value.

Review Facts and Ideas Page 300 4) Which involves the greatest risk – stocks of young businesses or blue chip stocks? Explain the differences between the two types of stocks. Young businesses have less-established stock which are more risky because they represent companies that are small with no track record. If the companies succeed, the potential return is very high.

Review Facts and Ideas Page 300 4) Which involves the greatest risk – stocks of young businesses or blue chip stocks? Explain the differences between the two types of stocks. A blue chip stock is a very safe investment that generally attracts conservative investors.

Review Facts and Ideas Page 300 5) Why are defensive stocks not subject to the usual ups and downs of business cycles? Defensive stocks usually remain stable during declines in the economy. Companies in this category typically have stable earnings and continue dividend payments to stockholders during periods of economic decline.

Review Facts and Ideas Page 300 6) Explain the relationship between par value and market value. Par value is the stated value of a stock when it is issued. Market value is what the stock is selling for in the securities marketplace. There is no relationship between par (stated) value and market value.

Review Facts and Ideas Page 300 7) What causes stock prices to rise and fall? List four factors that affect stock prices. Stock prices rise and fall based on: How the company is doing (financial condition) Current interest rates The market for the product or service provided by the company The earnings per share of the company

Review Facts and Ideas Page 300 8) What is the largest stock exchange in the United States? How does a company get listed on this exchange? The New York Stock Exchange is the largest in the United States. Before a company is listed on the exchange, certain criteria must be met. A total of at least 1.1 million shares of its common stock must be publicly owned with a market value of at least $9 million.

Review Facts and Ideas Page 300 9) Why would a stock be listed on the NASDAQ rather than the NYSE or American Stock Exchange? A stock would be traded on the NASDAQ (over-the-counter) if the stock issued was under the dollar amount and publicly held shares requirements for stock listed on the New York or American exchanges.

Review Facts and Ideas Page 300 10) What characterizes a bull market? A bear market? A bull market develops when investors are optimistic about the overall economy and purchase stocks. A bear market develops when investors are pessimistic and sell stocks.

Review Facts and Ideas Page 300 11) Explain two short-term strategies for investing in the market. Buying stock on margin – an investor borrows part of the money necessary to buy a particular stock. Short selling – selling stock that has been borrowed from a broker and must be replaced at a later date.

Review Facts and Ideas Page 300 12) Explain four techniques for long-term investing. Holding stocks for a long time (buy and hold) Dollar-cost averaging (lowering the average price of stock purchases) Direct investment (buying stock directly from the corporation) Dividend reinvestment (buying additional shares with cash dividends.

Review Facts and Ideas Page 300 13) Why do investors use dollar cost averaging? Dollar cost averaging allows steady investing without regard to current market price and over the long run, usually nets the lowest possible average purchase price. This way, the investor does not have to try to guess when stocks are at their lowest to time the purchase.

Review Facts and Ideas Page 300 14) In stock listings, what do these symbols stand for P/E, s, pf? P/E means price-earnings ratio ‘S’ indicates a stock split ‘pf’ stands for preferred stock

Review Facts and Ideas Page 300 15) How do investors use stock indexes? A stock index is a benchmark that investors use to judge the performance of their investments. The most widely followed stock index is the Dow Jones Industrial Average.