Investing 101 : Investing 101 Kentucky Council on Economic Education
08/22/06
Power of Compounding : Power of Compounding Interest on principal
plus interest earned
Rule of 72
Penny a day…or $1million?
The power of compounding was said to be deemed the eighth wonder of the world - or so the story goes - by Albert Einstein.
Stocks : Stocks A share in the ownership of a company. 100,000 shares outstanding in company You own 1,000 shares (100,000/1000) = 1% ownership.
Types of Stock
Common Stock
Entitles the holder to one vote in the affairs of the company and one vote to elect the board members.
Preferred Stock
Usually doesn't come with the same voting rights as common stockholders.
Receive a share of profits before common stockholders.
In the event of company dissolution, preferred shareholders have a prior claim to assets ahead of common shareholders, but behind creditors.
Stock Classifications : Stock Classifications Blue-Chip Stocks biggest companies in the country
Growth Stocks A growth company usually spends a lot of money on research and puts all its profits back into the company instead of paying dividends
Income Stocks stable companies that pay higher-than-average dividend
Cyclical Stocks move up or down in sync with the business cycle, i.e., automobile, housing, etc.
Defensive Stocks unaffected by changes in the business cycle,i.e., food, utilities. Etc.
Value Stocks considered undervalued by investors
Penny Stocks - low-priced, speculative stocks
Industries and Sectors : Industries and Sectors Industries - Companies are grouped by industry, based on the products or services they offer. Companies in the airline industry would be Delta, TWA, Southwest, etc.
Sectors are broad groupings of similar industries. The airlines industry would be part of the transportation sector.
Industries/sectors are used by investors to compare similar companies
Dividends : Dividends
Offered by well established companies
Paid to investors
As cash or stock (usually quarterly)
Decided by the Board of Directors
Record Date/Distribution Date
Stock Splits : Stock Splits 2 for 1, 3 for 1
Reverse splits, i.e., 1 for 2
Example:
Johnny holds 100 shares of GTD, currently valued at $60/share, so he has a $6,000 investment.
GTD announces a stock split of 2 for 1.
After the stock split, Johnny will hold 200 shares of stock, and those 200 shares will be valued at $30/share. 200 shares X $30 share = $6,000. (Same value!)
IPO – Initial Public Offerings : IPO – Initial Public Offerings First sale of stock by a company to the public.
Distributed through investment bankers in the "primary market”
Buyers (usually institutional investors) of these new shares of stock will sell to the public
Mutual Funds : Mutual Funds
Mutual fund company
Manager
Pooled money of investors
Investors buy shares of the mutual fund
Good way to get started in investing
In the Stock Market Game simulation, students can buy mutual funds in addition to stocks.
Bonds : Bonds IOU issued (debt securities)
Issued by governments and corporations to raise money
Investor is the lender
Company/Govt repays principal plus interest (generally quarterly)
Students cannot invest in bonds in the Stock Market Game.
Forms of Business : Forms of Business Sole proprietorship
Partnership
Corporation
Public or Private Company? : Public or Private Company? Private company does not issue stock to the public, only privately.
Public company is a corporation that has "gone public“.
How do businesses raise capital? : How do businesses raise capital? Three major sources of financial capital for companies
Retained earnings
Debt (loans, corporate bonds, etc.)
Equity (stock)
Parent Companies, Brands, Subsidiaries : Parent Companies, Brands, Subsidiaries Parent Company - A company that exercises control over one or more subsidiary enterprises.
Subsidiary - a wholly or partially owned company which is part of a large corporation (parent).
Brand - A name, term, symbol, design, or combination of these that identifies a seller's products and differentiates them from competitors' products, i.e., Taco Bell, Lands’ End, etc.
Mergers and Acquisitions : Mergers and Acquisitions A merger is a form of corporate acquisition in which one firm absorbs another and the assets and liabilities of the two firms are combined.
An acquisition is when one business takes possession of another business. This is also called a takeover or buyout.
Mergers are a way for a company to grow faster, to become more efficient, to acquire new product lines, to change its image, or to eliminate a rival.
In many corporate mergers or acquisitions, the shares of one company are converted to shares of the other company. In other cases, one company simply buys all of the other company's shares. It pays cash for these shares.
Market Exchanges : Market Exchanges New York Stock Exchange NYSE
Oldest stock market in US
Auction market (with brokers on trading floor)
American Stock Exchange (AMEX)
NASDAQ (National Association of Securities Dealers Automated Quotation System), is an electronic market
Over the Counter Bulletin Board (OTBB) for companies that don't qualify to list on the major market exchanges because they are too small or their stock prices too low.
History of Stock Market : History of Stock Market May 17, 1792
Buttonwood Tree Agreement
NYSE – 1817
Curb trading – AMEX
Securities Exchange Act of 1937
Stock Market Crash : Stock Market Crash October 29, 1929 - Black Tuesday
Set off the Great Depression
NPR Audio http://www.npr.org/templates/story/story.php?storyId=4134779
Indices : Indices A stock index is a measure of average stock prices in a group of individual stocks.
Reflect how the market is doing as a group
Examples:
Dow Jones Industrials - which tracks 30 blue chip stocks (of well-known companies)
Standard & Poor's 500- which tracks 500 stocks from industrial, transportation, utility and financial companies
Russell 2000- which tracks 2000 smaller company stocks
NASDAQ Composite Index - which tracks all the stocks listed on the NASDAQ, almost 4,000 in all.
The DOW : The DOW Dow Jones Industrial Average
30 blue chip stocks
A stock market index
Most-quoted market indicator
Bull and Bear : Bull and Bear Bear market describes a period of time when stock prices are falling.
Bull market is a period when stock prices are generally rising.
Factors Affecting the Stock Market : Factors Affecting the Stock Market Health
company
industry
economy
Global
Good News/Bad News
Microeconomic variables - factors that can affect companies or industries
Macroeconomic variables - factors that affect the economy
Consumer confidence
Investor perception
Diversification "Don't put all your eggs in one basket." : Diversification "Don't put all your eggs in one basket." Strategy of spreading your investment dollars across various types of securities, i.e.,
several industry sectors (e.g., transportation, technology, airlines, retail, etc.)
large and small companies,
growth and income stocks,
cyclical and non-cyclical stocks,
blue chip companies, and
international companies.
In the Stock Market Game,
5 stock minimum rule
30% maximum equity
Supply and Demand : Supply and Demand Stock prices change because of supply and demand
more buyers than sellers – price goes up!
More sellers than buyers – price goes down!
Reading an Annual Report : Reading an Annual Report Get from company website or call/write company
Chairman of the Board Letter
Sales and Marketing
10 Year Summary of Financial Figures
Management Discussion and Analysis CPA Opinion Letter
Financial Statements
Subsidiaries, Brands and Addresses
List of Directors and Officers
Stock Price History
from Annual Report Library (http://www.zpub.com/sf/arl/)
Fundamental Analysis : Fundamental Analysis Thorough review of company
Product
Operating efficiency
Management
Financial performance
Profit/Loss, EPS, P/E, etc.
Position in Industry
Technical Analysis : Technical Analysis
Used to evaluate the worth of a stock by studying market statistics.
Stock and stock market trends
Charting
Crunching the Numbers : Crunching the Numbers Book value - This represents the different between the company's assets and liabilities. A low book value (from too much debt) could mean that the company's profits will be limited. However, a low value may also indicate that the assets are underestimated, and that the stock is a good value for potential investors.
Earnings Per Share (EPS) - This represents the company's net profit divided by the number of shares outstanding. Analysts typically look for steadily increasing EPS, which shows a pattern of consistent growth.
Crunching the Numbers : Crunching the Numbers Price/Earnings (P/E) Ratio - company's stock price divided by its 12 month EPS.
High P/E means high projected earning
If a company has a PE of 10, that means that investors are willing to pay $10 for every $1 of last year's companies earnings.
Compare the PE ratios of other companies in the same industry, or to the market in general, or against the company's own historical P/E ratio.
Beta – quantifies how volatile a stock is compared to the overall market
A stock that rises or falls in value at the same rate as the market has a beta of 1.0.
Beta below 1 - less volatile -- and potentially less risky
Beta above 1 - more volatile, meaning that investors might expect its price to rise or fall more quickly.
Margin : Margin Going on Margin" borrowing money to invest
In SMG – pay 7% interest (per annum) for any money spent over initial $100,000 cash.
Very Risky – not suitable for a long-term, buy-and-hold investor.
Minimum Maintenance If the Total Equity in your portfolio falls below 30% of the value of your long and short positions, your team will receive a margin call. (Note: In a margin call, the computer will automatically sell shares of stock in the portfolio to recoup its losses.)
Short Selling : Short Selling Way to make money in the stock market--particularly during a Bear market when prices are dropping. It can also be effective if you know a company is headed in a downward spiral.
Brokerage loans you stock from inventory
You sell the stock you “borrowed”
When stock value drops, you “short cover” – buy the stock on the market
You give brokerage back their stock you borrowed, and
You profit from the difference
Short Sell 100 shares @ $50.00 (you borrow 100 shares of stock and sell it at $50/share and get credited with $5,000)
Short Cover 100 shares @ $30.00 (you buy the stock at $30/share and your account is charged $3,000
You return this stock to the broker Your profit is $2,000.
You can lose more than you put in!
Students can short sell in the Stock Market Game.
Investing for the Long Term : Investing for the Long Term 1) start with a plan
2) understand your risk tolerance
3) diversify
4) keep track of your investments
5) invest for the long term