1. Personal Finance
SIXTH EDITION
Chapter 15
Investing in Stocks

2. Chapter Objectives
15.1 Identify the functions of stock exchanges 15.2 Describe how to interpret stock quotations 15.3 Explain how to execute the purchase and sale of stocks 15.4 Explain how to analyze a stock 15.5 Explain how investing in stocks fits within your financial plan

3. Stock Exchanges (1 of 4)
Stock exchanges: facilities that allow investors to purchase or sell existing stocks
New York Stock Exchange
Most popular organized exchange in U.S.
Floor traders: traders at a stock exchange who execute trades to fulfill orders placed by other investors

4. Stock Exchanges (2 of 4) Other stock exchanges
Specialists: traders who help to make a market in one or more stocks by taking the position opposite of orders placed by clients
A typical stock transaction on the NYSE is submitted through a brokerage firm and executed by a specialist
Other stock exchanges
American Stock Exchange
Other regional exchanges in large U.S. cities

5. Stock Exchanges (3 of 4)
Over-the-counter (OTC) market: an electronic communications network that allows investors to buy or sell securities
Market makers: traders who execute trades on the OTC market and earn commissions in the form of a bid-ask spread
Less stringent listing requirements than for NYSE

6. Stock Exchanges (4 of 4)
Electronic Communication Networks (ECN): computer systems that match up desired purchases and sales of stocks
Allow for after-hours trading
No person needed to perform the exchange

7. Stock Quotations (1 of 2)
Price quotations readily available from the Internet, stock brokers or financial newspapers
Provide information about the price of each stock over the previous day or a recent period

8. Stock Quotations (2 of 2)
EXHIBIT 15.1 Example of a Daily Stock Quotation
52-Week Hi Lo
Stock (Div.)
Yield (%) PE
Vol. (100s)
Close
Net Change
62.10
49.40
Zugle ($1.00) 14
9000
50.00
+.27

9. Purchasing and Selling Stocks (1 of 7)
Selecting a broker
Analyst recommendations
May be overly optimistic
Must disclose ownership of stocks they recommend
Individual broker skills
Information available on the Internet

10. Purchasing and Selling Stocks (2 of 7)
Brokerage commissions
Discount brokerage firm: a brokerage firm that executes your desired transactions but does not offer investment advice
Full-service brokerage firm: a brokerage firm that offers investment advice and executes transactions

11. Financial Planning Online (1 of 5)
Go to the finance section of Yahoo.com
Click “Get Quotes” after typing the symbol of a stock in which you are interested
This site gives analyst recommendations about a stock that you specify

12. Purchasing and Selling Stocks (3 of 7)
Placing an order
Name of the stock
Ticker symbol: the abbreviated term that is used to identify a stock for trading purposes
Buy or Sell—specify what you want to do
Number of shares
Round lot: shares bought or sold in multiples of 100
Odd lot: less than 100 shares of stock

13. Purchasing and Selling Stocks (4 of 7)
Market order or limit order
Market order: an order to buy or sell a stock at its prevailing market price
Limit order: an order to buy or sell a stock only if the price is within the limits that you specify
Stop orders
Stop order: an order to execute a transaction when the stock price reaches a specified level; a special form of limit order

14. Purchasing and Selling Stocks (5 of 7)
Stop orders
Buy stop order: an order for a brokerage firm to buy a stock when the price rises to a specified level
Sell stop order: an order for a brokerage firm to sell a stock when the price falls to a specified level
Placing on order online
Low commission

15. Financial Planning Online (2 of 5)
Go to
This Web site provides information that you can use when making investment decisions. It also illustrates how you can trade stocks online, which typically reduces your transaction costs.

16. Purchasing and Selling Stocks (6 of 7)
Buying stock on margin
On margin: purchasing a stock with a portion of the funds borrowed from a brokerage firm
Federal Reserve limits margin to 50 percent
Margin call: a request from a brokerage firm for the investor to increase the cash in the account in order to bring the margin back up to the minimum level

17. Purchasing and Selling Stocks (7 of 7)
Short selling stock
Short selling (shorting): a process by which investors sell a stock that they do not own
Borrow stock from another investor and will have to return it
Investor hopefully sells high and buys low (in that order)

18. Analyzing Stocks (1 of 11)
Technical analysis: the valuation of stocks based on historical price patterns
Fundamental analysis: the valuation of stocks based on an examination of fundamental characteristics such as revenue or earnings, or the sensitivity of the firm’s performance to economic conditions

19. Analyzing Stocks (2 of 11) Analyzing a firm’s financial condition
Balance sheet: a financial statement that indicates a firm’s sources of funds and how it has invested its funds as of a particular point in time
Income statement: a financial statement that measures a firm’s revenues, expenses, and earnings over a particular period of time

20. Analyzing Stocks (3 of 11)

21. Analyzing Stocks (4 of 11) Analyzing economic conditions
Accounting fraud
In the early 2000s many firms used fraudulent financial statements
Enron and WorldCom are the most prominent examples
Motivation for fraud
Manager compensation
Analyzing economic conditions
Economic growth: a measure of growth in a country’s economy over a particular period

22. Analyzing Stocks (5 of 11)
Gross domestic product (GDP): the total market value of all products and services produced in a country
Fiscal policy: the means by which the U.S. government imposes taxes on individuals and corporations and by which it spends its money
Impact of international economies
One country’s strong economy can improve another’s and the opposite is also true

23. Analyzing Stocks (6 of 11) Interest rates
Stocks perform better when interest rates are low
Some stocks are more sensitive to interest rates than others
The Federal Reserve uses monetary policy to influence interest rates
Monetary policy – policy established by the Federal Reserve to adjust the supply of funds in the financial system in order to influence interest rates

24. Analyzing Stocks (7 of 11)
Inflation: the increase in the general level of prices of products and services over a specified period
Consumer price index (CPI): a measure of inflation that represents prices of consumer products such as groceries, household products, housing and gasoline
Producer price index (PPI): a measure of inflation that represents prices of products used to produce other products, such as coal, lumber, and metals

25. Analyzing Stocks (8 of 11)
EXHIBIT 15.3 Sources of Economic Information
Published Sources
Federal Reserve Bulletin: provides data on economic conditions, including interest rates, unemployment rates, inflation rates, and the money supply.
Federal Reserve District Bank publications: provide information on national and regional economic conditions.
Survey of Current Business: provides data on various indicators of economic activity, including national income, production levels, and employment levels.
Online Sources
Bloomberg ( provides reports on interest rates, other economic conditions, and news announcements about various economic indicators.
Federal Reserve Meeting Information is also available online at
Federal Reserve District Bank publications are also online at
Federal Reserve System ( provides detailed statistics on economic conditions.
St. Louis Federal Reserve District ( provides updated information about U.S. economic conditions.
Survey of Current Business is also online at
Yahoo! Finance: provides information and news about economic conditions.

26. Financial Planning Online (3 of 5)
Go to
Click on: OECD Economic Outlook
This Web site provides information about economic conditions that can affect the values of investments.

27. Analyzing Stocks (9 of 11) Industry conditions
Stock prices susceptible to industry conditions
Industry indicators
Integrating your analyses
Analyzing the firm, the economy and the industry allows assessment of future performance

28. Analyzing Stocks (10 of 11)

29. Analyzing Stocks (11 of 11) Limitations of stock analysis
Difficulty in forecasting future conditions
Favorable attributes are reflected in the stock price

30. Financial Planning Online (4 of 5)
Go to
Click on: Market Data
This Web site provides a summary of recent stock performance.

31. Financial Planning Online (5 of 5)
Go to the finance section of Yahoo.com
This Web site provides recent quotations of indexes that can be used as benchmarks when assessing your investment portfolio’s performance. Click on “Charts” to review historical movements in any specific index

32. How Stock Investment Methods Fit Within Your Financial Plan (1 of 3)
Key decisions about investing in common stock for your financial plan are:
Should you consider buying stock?
What methods should you use for investing in stocks?

33. How Stock Investment Methods Fit Within Your Financial Plan (2 of 3)
EXHIBIT 15.5 How Stock Investment Methods Fit Within Stephanie Spratt’s Financial Plan
GOALS FOR INVESTING IN STOCK
1. Determine if I could benefit from investing more money in common stock.
2. If I consider investing in stocks, determine how to execute stock transactions.
ANALYSIS
Type of Brokerage Firm
Full-service
Guidance on stock selection; higher commissions charged on transactions.
Discount
No guidance on stock selection; lower commissions charged on transactions.
Type of Order When Purchasing Stock
Market Order
A buy order is executed at the market price.
Limit Order
A buy order is only executed if the price is at or below a price that I may specify.
Buy Stop Order
A buy order is executed if the price rises to a price that I may specify.
Whether to Borrow
Pay with Cash
Need cash to pay for the entire investment. My return will be equal to the return on the stock itself.
Buying on Margin
Can make investment with less money (by borrowing a portion of the funds needed). My return will be larger than the return on the stock itself. My return (whether it is a gain or loss) is more pronounced if I borrow to buy the stock, which increases the risk of my investment.

34. How Stock Investment Methods Fit Within Your Financial Plan (3 of 3)
EXHIBIT 15.5 How Stock Investment Methods Fit Within Stephanie Spratt’s Financial Plan
DECISION
In the future when I invest in stocks, I will use a discount broker instead of a full- service broker because I prefer to make my own investment decisions and the commissions charged by a discount broker are low. I will use only limit orders to buy stocks, so that I can set the maximum price that I am willing to pay. I will only invest in a stock if I have sufficient funds to cover the entire investment because it is a less risky method of executing a stock transaction. Buying on margin magnifies the return (whether positive or negative) on the stock, and causes the investment to be more risky than I desire.