Investing In Stocks
Introduction to Business
Objectives
Define Stock Explain how stock is bought and sold Identify the indexes that track stock prices over the long run
What is Investing?
Investing is putting your money to use in order to make money on it
Saving money in savings accounts is a form of investing Investing in stocks is also a form of investing and is quite different than savings accounts
What is a Stock?
A stock is a share of ownership in a business
When you buy stock, you receive a stock certificate indicating that you are now part owner of the company Corporations raise money to start or enlarge their business by selling stock
Return on Stocks
The return on an investment called yield, is the amount of money the investment earns. The return on a stock investment depends on:
The type of return The rate of return
The Type of Return
There are two ways you can make a return on stocks:
Dividends – Earning a share of profits through the distribution of profits among shareholders
Usually paid quarterly
Capital gain – Selling stock for more than you paid for it
Example: 100 stocks bought for $25 each = $2500 investment. Sold same 100 stocks for $35 each = $3500. Return ($1000) = $3500 - $2500. It is the difference between what you sold the stock for and your initial investment amount.
Things Do Not Always Go As Planned
Capital Loss – Selling stock for less than what you bought it for
You may suffer a capital loss if:
You are losing money on an investment when you have a capital loss
The company is doing poorly and you need the money at that time
Don’t forget about Uncle Sam
As with any form of income, the government taxes the amount you make in dividends or in capital gains
Rate of Return
Always expressed as a percent of the original investment It is figured on an annual basis It is figured by this formula
Earnings on investment during year/original investment amount = rate of return
$1000 savings account earns a $50 interest payment for one year The rate of return on the investment is 5 percent ($50/$1,000 = .05)
Example:
Types of Stocks
Two types of stocks include:
Common Stock –
Primary form of ownership in a corporation All corporations must issue common stock You get one vote for each share you own Gives you certain privileges that common stockholders don’t have
Preferred Stock –
Pays dividends to preferred stockholders first If company fails, get share of assets after debts are paid before common stockholders do
What is a Stockbroker?
Broker – A person who acts as a gobetween for buyers and sellers.
Brokers process the purchase and sale of stocks They charge a fee for their services by either:
Charging a percent of the value of the stock Charging a set amount for each transaction
Stock Exchanges
Stock exchange – A trading market where stocks are bought and sold
Provide a central place where traders meet to buy and sell stock Process of buying and selling stock is like an auction.
People tell broker – Broker tells their representative on the floor of the stock exchange – Representative sells or buys the stock you want for the best price
Best-Known Exchanges
New York Stock Exchange (NYSE) American Stock Exchange (AMEX)
Stock Exchanges continued
Only stocks listed on an exchange can be traded there
Example: If ABC Corporation is not listed on the NYSE then it cannot be traded there
Stock Indexes
An index is a measuring system that tracks stock prices over the long run
Most Common Indexes
The Dow Jones Industrial Average (DJIA)
Represents the 30 largest U.S. companies to measure the well-being of the stock market as a whole A change of 100 points in the Dow means that the average for 30 selected stocks listed on the NYSE that the Dow represents went up or down 100 points
Most Common Indexes continued
Standard & Poor’s (S&P) 500
Tracks how the top 500 companies are doing It is a gauge against which they compare their returns on stocks
Advantages and Disadvantages of Stocks
General Principle – The greater the risk, the greater the possibility of a larger return Disadvantage – You have much more risk of losing your investment when putting your money into stocks rather than savings accounts, certificates of deposits, or money market funds Advantage – Stocks generally carry more risk but they also carry the possibility of a better return
Long-term comparisons of returns on stocks compared to savings show that stocks do better over time
Blue-Chip Stocks
The safest investment is in blue-chip stocks
There is little likelihood you will lose your money The value of blue-chip stocks DO go up and down You could lose money if you sell them when the value is lower that what you paid for them
These stocks are in large-well established companies that have a good track record of profitability and success. Examples:
International Business Machines (IBM) General Motors (GM)
Speculative Stocks
Stocks in relatively new firms that do not have an established track record of success Often small firms that are developing new types of goods and services Example:
Technology stocks offered in the late 1990s and 2000s
A few succeeded and made big money for their owners Some failed and investors lost their money
Liquidity
Refers to how quickly an investment can be turned into cash Stocks are generally very liquid because they can be turned into cash quickly by selling them
You are not guaranteed to get all your money because the value may not be what it was when you bought the stock
If your stock is not listed on one of the exchanges liquidity may be a problem because you need to find a buyer on your own
Inflation Risk
Whether a rate of return on an investment keeps up with the rate of inflation Stocks have generally done very well in this category