Chapter 14: Investing in Stocks and Bonds

1. Chapter 14: Investing in Stocks and Bonds

2. Describe stocks and bonds and how they are used by corporations and investors. Define everyday terms in the language of stock investing. Classify stock according to their basic descriptive categories. Objectives

3. Describe the major characteristics of bonds. Differentiate among the four general types of bonds. Objectives

4. Describe what the investor should consider before investing in bonds, particularly the current yield and yield to maturity. List the advantages and disadvantages of investing in bonds. Objectives

5. Common stock Preferred stock Bonds Stocks and Bonds and How They are Used

6. Investing in Stocks • Why do corporations issue common stock? • Equity financing • To raise money to start, expand or help pay for ongoing business expenses • They don’t have to repay the money • Dividends are not mandatory • Stockholders have voting rights-proxy

7. Why Do Investors Purchase Stock? • Income from dividends • Dollar appreciationof stock value (averaged 10% since 1926). • Increased value from stock splits

8. Percentage of People in Different Age Groups That Own Stocks

9. Income from Dividends • Dividends can be paid in: • Cash • Additional stock • Company products • Who is entitled to the dividends? • Record Date • Ex-dividend Date

10. Dollar Appreciation of Stock Value 100 shares of common stock purchases January 5, 2007 and were sold January 5,2010; total dividends of $4.97 per share for the four years. Cost when purchased 100 shares @$57 = $5,700 Plus commission + 35 Total investment $5,735 Return when sold 100 shares @$71 = $7,100 Minus commission -35 Total return $7,065 Transaction summary Total return $7,065 Minus total investment - 5,735 Profit from stock sale $1,330 Plus dividends +497 Total return from the transaction $1,827

11. Stock Split • 2:1 • 3:1 • 3:2 • Firm’s management usually has a theoretical stock price range for the firm’s stock.

12. Common vs. Preferred Stock • Common stock • get dividends depending on profit the company makes • Preferred stock • receive cash dividends before common stock holders • pre-determined dividend rate • most preferred stock is callable

13. Features of Preferred Stock • Cumulative preferred stock • unpaid cash dividends accumulate and are paid before cash dividends to common stock holders • Conversion feature • can be traded for shares of common stock

14. Characteristics of Common Stock Blue Chip Cyclical Defensive Growth Income Large Cap Mid Cap Small Cap Micro Cap Penny Stock

15. Earnings per share (EPS) After tax earnings divided by the number of outstanding shares of common stock. Price/earnings ratio (P/E ratio) Price of a share of stock divided by the corporation’s EPS. Dividend payout ratio Annual dividend amount divided by EPS Language of Stock Investing Historical information

16. Price/Earnings to Growth Ratio: A Look to the Future Step 1: Determine the projected change Step 2: Use the PEG formula PEG = Price earnings ratio divided by annual EPS growth. Language of Stock Investing

17. Language of Stock Investing • Look at book value of one share • net worth of company divided by the number of outstanding shares • if a share costs more than the book value the company may be overextended or it may have a lot of money in research and development

18. Buying and Selling Stocks • Primary market • Initial Public Offering (IPO) • Secondary market • Security Exchange • New York Stock Exchange • Regional Exchange • Over the Counter Market • Nasdaq

19. Brokerage Firms • Full Service • Discount • Online

20. Completing Stock Transactions • Market Order • Limit Order • Stop Order • Day Order, Week Order, Month Order or Good Until Canceled (GTC) Order

21. Long-Term Investment Strategies • But-and-Hold • Dollar Cost Averaging • Direct Investment • Dividend Reinvestment Plan (DRIP)

22. Short-Term Techniques • Day Trading • Buying on Margin • Selling Short • Trading in Options

23. Make a Decision toSell Stocks • 1. Stock reaches target price. • 2. Favorable development temporarily push up price. • 3. Good profits unlikely to continue. • 4. Stock lags behind others in industry group. • 5. Company profits begin to fall short of projections. • 6. Industry/company prospects are deteriorating. • 7. Losses are moderate. • 8. Stock’s price/earnings ratio appears too high.

24. Language of Bond Investing • Registered and bearer • Callable • Warrants • Convertibility

25. Language of Bond Investing • Indenture • Face value, coupon rate, maturity date • Secured and unsecured • Senior and subordinated

26. Types of Bonds • Corporate bonds • U.S. government securities • Treasury bills, notes, and bonds • Federal agency issues • Municipal Bonds

27. Considerations Before Investing in Bonds • Susceptibility to certain risks • Credit • Callability • Inflation • Interest rate

28. Considerations Before Investing in Bonds • Premiums and discounts • Current yield • Yield to maturity • Tax-equivalent yields • When to sell

29. Formula 14.2

30. Formula 14.3

31. Advantages of Investing in Bonds • Pay higher interest rates than savings • Offer safe return of principle • Have less volatility than stocks • Offer regular income • Require smaller initial investment

32. Disadvantages of Investing in Bonds • No hedge against inflation • Can be quite volatile • Compounding is almost impossible • Subject to investors tax rate • Poor marketability