Investing 101

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Investing 101

• Kentucky Council on Economic Education
• 08/22/06

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Power of Compounding

• Interest on principal
• plus interest earned
• Rule of 72
• Penny a dayor 1million?
• The power of compounding was said to be deemed
  the eighth wonder of the world - or so the story
  goes - by Albert Einstein. 

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Stocks

• A share in the ownership of a company. 100,000
  shares outstanding in companyYou 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.

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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

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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

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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

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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!)

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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

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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.   

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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.

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Forms of Business

• Sole proprietorship
• Partnership
• Corporation

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Public or Private Company?

• Private company does not issue stock to the
  public, only privately.
• Public company is a corporation that has "gone
  public. 

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How do businesses raise capital?

• Three major sources of financial capital for
  companies
• Retained earnings
• Debt (loans, corporate bonds, etc.)
• Equity (stock)

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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.

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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.

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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.

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History of Stock Market

• May 17, 1792
• Buttonwood Tree Agreement
• NYSE 1817
• Curb trading AMEX
• Securities Exchange Act of 1937

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Stock Market Crash

• October 29, 1929 - Black Tuesday
• Set off the Great Depression
• NPR Audio http//www.npr.org/templates/story/story
  .php?storyId4134779

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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.

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The DOW

• Dow Jones Industrial Average
• 30 blue chip stocks
• A stock market index
• Most-quoted market indicator

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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.

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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

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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

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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!

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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/s
  f/arl/)

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Fundamental Analysis

• Thorough review of company
• Product
• Operating efficiency
• Management
• Financial performance
• Profit/Loss, EPS, P/E, etc.
• Position in Industry

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Technical Analysis

• Used to evaluate the worth of a stock by studying
  market statistics.
• Stock and stock market trends
• Charting

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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.

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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.

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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.)

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Short Selling

• Way to make money in the stock market--particularl
  y 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 _at_ 50.00       (you borrow
  100 shares of stock and sell it at 50/share
  and get                                          
              credited with 5,000)
• Short Cover 100 shares _at_ 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.

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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