Chapter14:

InvestinginStocks

Objectives
Describe stocks 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.

StocksandBondsandHowTheyare
Used
Common stock
Voting rights
Proxy Vote

Preferred stock
Cumulative
Convertible

Investing in Stocks
Why do corporations issue common
stock?
To raise money to start or expand a
business
To help pay for ongoing business
expenses
They dont have to repay the money
Dividends are not mandatory
Stockholders have voting rights

WhyDoInvestorsPurchaseStock?
Income from dividends
Record Date
Ex-dividends

Dollar appreciation
of stock value
Increased value from
stock splits

ReturnonInvestment
Assumptions:
100 shares of common stock purchased April 18, 2014,
sole April 18, 2015; total dividends of $2.21 per share for
the investment period.
Cost when Purchased

Return when Sold

100 shares @ $42.75 = $4,275

100 shares @ $56.25 = $5,625

Plus commission

+ 29

Minus commission

Total investment

$4,304

Total return

Transaction Summary
Total return

$5,591

Minus total investment

- 4,304

Profit from stock sale

$1,287

Plus dividends

+ 221

Total return for the transaction

$1,508

- 34
$5,591

Commonvs.PreferredStock
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

FeaturesofPreferredStock
Cumulative preferred stock
unpaid cash dividends accumulate and are
paid before cash dividends to common stock
holders
Participation feature
rare form of investment
can share in earnings beyond stated dividend
amount
Conversion feature
can be traded for shares of common stock

ClassificationsofCommonStock
Income stocks
Growth stocks
Cyclical stocks
Defensive stocks
Large cap stocks
Capital > $5 billion
Mid cap stocks
Capital between $1 billion and $5 billion
Small cap stocks
Penny stocks

TypesofStockInvestments
Blue chip stock
low risk
consistent dividends
ex. AT&T, Kellogg's, General Electric
Income stock
higher than average dividends
ex. utility stock

TypesofStockInvestments

(continued)

Growth stock earns above average profits

low or no dividends
Profits reinvested in
company, so...
Stock price
should go up
ex. Microsoft or Intel

TypesofStockInvestments
(continued)
Cyclical stock
follows business cycles of advance and
declines in the economy
ex. new construction, cars, timber
Defensive stock
remains stable even if the economy is
declining
ex. food and utility stocks

StockAdvisoryServices
A good supplement to information in
newspapers
Charge a fee
Hundreds to choose from
Standard and Poors reports
Value Line
Moodys Handbook of Common Stock

On-line services allow access to web sites

such as quote.yahoo.com and
smartmoney.com

NumericMeasurestoConsider
WhenEvaluatingaStock
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

NumericMeasurestoConsider
(continued)
WhenEvaluatingaStock

Look at the price earnings ratio

also called the P-E
price of one share of stock divided by the
earnings per share of stock over the last 12
months
a low number means could be a good time to
buy it, however many technology stocks have
high P-Es
Look at the beta for the stock
stock with a beta >1.0 means more volatility

EarningsPerShare
Earnings Per Share are a corporations after-tax income
divided by the number of outstanding shares:
Assume XYZ Corporation has after-tax earnings of
$2,500,000. Also assume that XYZ has 1,000,000 shares of
common stock. This means their Earnings per share would
be $2.50:
After-tax income
Earnings per share = Number of shares outstanding
$2,500,000

PriceEarningsRatio
The price of a share of stock divided by the corporations
earnings per share of stock.
Using the example in the last slide, the Earnings Per Share
were $2.50. Assume that XYZs stock is selling for $50 per
share. Their P/E Ratio would be 20:
Price per share
Price-earnings (P/E) ratio = Earnings per share
=

$50.00
$2.50

= 20

DividendPayout
Dividend payout is the percentage of a firms earnings paid
to stockholders in cash. Assume Ford Motor Company paid
out an annual dividend of $0.40 per share. Also assume
Ford Motor Company earned $1.44 share. The Dividend
Payout would be 28%:
Dividend payout =
=

Dividend amount
Earnings per share
$0.40
$1.44 = 0.28 = 28%

CurrentYield
Current yield is the yearly dollar amount of income
generated by an investment divided by the investments
current market value. Assume Ford is currently selling for
$10 per share. The current dividend yield is 4%:
Annual income amount
Current yield =
Market value
$0.40
Current yield = $10.00 = 0.04 or 4%

BuyingandSellingStocks
Primary Market
Initial Public Offering (IPO)
Secondary Market
Security Exchange
New York Stock Exchange (NYSE)
American Stock Exchange (AMEX)
Regional Stock Exchanges (Chicago, San
Francisco, Philadelphia, Boston, etc.)
Over-the-Counter Exchange
NASDAQ

ASampleStockTransaction
Market Order
Day Order
Week Order (Good This Week, GTW)
Month Order (Good This Month, GTM)
Limit Order
Stop Order

LongTermInvestmentStrategies
Buy-and-Hold Technique
Dollar Cost Averaging
Value Cost Averaging

DirectInvestmentandDividend
ReinvestmentPlans
Direct Investment Plan allows you to purchase stock directly
from a corporation without having to use an account
executive or a brokerage firm.
Dividend Reinvestment Plans (DRIP) allows you the option
to reinvest your cash dividends back into your portfolio to
purchase additional shares of stock.