Savings, Investments

& the Stock Market

 What To Do With Income?
 Pay taxes
 Spend it (consume today)
 Save it (delay consumption to future)
 Invest it
 Using money you have saved to
purchase a product that will create
benefits in the future
 Saving and investing involves trade-offs
 Saving and Investment
 Saving
 Not consuming all current income
 Examples: Savings Account, Certificate of Deposit
 Business Investment
 Production and purchase of capital goods
 Examples: machines, buildings and equipment that
can be used to produce more goods and services in
the future
 Personal investment
 Purchasing financial securities
 Examples: stocks, bonds, real estate, mutual funds
 Pay a higher rate of return in the long run than the
interest paid on savings accounts.
 Return, Risk and Liquidity
 Rate of Return -Type of profit or loss you
are getting on your investment (Interest on
savings)
 Liquidity – ease of turning assets into
money
 Return and Risk (direct relationship)
 Greater risk, higher returns (NASDAQ stocks)
 Less risk, lower returns (CD)
 Return and Liquidity (inverse relationship)
 Greater liquidity, lower return (CD)
 Less liquidity, greater return (Bonds)
 How Liquid are the Following?
1. $20 Traveler’s Check 9. Share in money-
2. 30 Day Treasury Bill market mutual fund
3. Share of Microsoft 10. Credit card with
Stock $5,000 line of credit
4. $5,000 Savings 11. Eurodollar savings
Account account in a Swiss
5. Apartment Complex Bank
6. $1 (Dollar) Bill 12. Your House
7. Gold bullion 13. Oil painting by Monet
8. IBM 20-year Bond
Categorize as “very liquid,” “somewhat liquid” or “illiquid”
1. $20 Traveler’s Check 9. Share in money-
2. 30 Day Treasury Bill market mutual fund
3. Share of Microsoft 10. Credit card with
Stock $5,000 line of credit
4. $5,000 Savings 11. Eurodollar savings
Account account in a Swiss
5. Apartment Complex Bank
6. $1 (Dollar) Bill 12. Your House
7. Gold bullion 13. Oil painting by Monet
8. IBM 20-year Bond
Categorize as “very liquid,” “somewhat liquid” or “illiquid”
 Major Exchanges
 NYSE - New York Stock Exchange – “The Big
Board”
 NASDAQ - National Association of Securities
Dealers Automated Quotation System
 AMEX
 PSEi
 Blue Chips
 Largest
most consistently profitable
companies that usually pay dividends
 Ayala Corp. (Conglomerates)
 Ayala Land, Inc. (Property)
 Aboitiz Power Corp. (Power)
 Banco De Oro (Bank)
 Bank of the Philippine Islands (Bank)
 Int’l Container Terminal Services (Port
Operations)
 Jollibee Foods Corp. (Consumer)
 Blue Chips
 Largest
most consistently profitable
companies that usually pay dividends
 Metropolitan Bank & Trust Company /
Metrobank (Bank)
 Metro Pacific Investments (Infrastructure)
 SM Investments Corp. (Conglomerates)
 SM Prime Holdings (Property)
 TEL PLDT (Telecom)
 Universal Robina Corp. (Consumer)
 Types of Stocks
 Common Stock
 The most basic form of ownership that a corporation
issues.
 It designates that you own a fraction of the
company.(Fundamental Ownership Claim)
 The value of a common stock is directly influenced by
the successes and failures of the issuing company.
 It may or may not pay a dividend, which is the portion
of the company's profits paid out to its shareholders.
(Dividends are discretionary)
 Common stockholders control the firm’s activities
indirectly by exercising their voting rights in the
election of the board of directors
 Proxy Voting - a proxy allows stockholders
to vote by absentee ballot or authorizes
representatives of the stockholders to vote
on their behalf
 Preferred Stock
 They receive their dividends before common
stock owners (residual claim for common
stocks)
 If the company goes out of business,
preferred stockholders are paid back the
money they invested before the common
stockholders
 The main drawback of preferred stock is that
it cannot benefit as much from company
profits because it only pays a fixed dividend
 Hybrid security that has characteristics of both
a bond and a common stock
 Does not have voting rights unless dividend
payments are missed
 Preferred Stocks
 Nonparticipatingversus participating
 Cumulative versus noncumulative

 Example, Investors bought 1O,OOO preferred

stocks which is cummulative and 4%
participating from ABC Corp. ABC Corp was not
able to distribute stocks for the past 2 years. The
corporation decided to distribute P2.OO per
stock because its net income is 4OO,OOO.
 Total Outstanding Common Stock - 4O,OOO
 Capital Gains and Dividends
 Capital Gains
 A profit made when selling stock at a
higher price than they paid for it. Most
people buy stock to make money from capital
gains.
 For example, if you buy 100 shares of
Company XYZ at $100.00 a share (a total
$10,000 investment) and sold it for $125.00 a
share ($12,500), you’ve realized a capital gain
of $25.00 a share, or $2,500.00.
 Dividends
 Dividends are the distribution of profits
from a company to the stockholders
 Investors buy stock for the dividend
payments.
 Who Decides Dividends?
 A companies board of directors decides how
large a dividend the company will pay, or
whether it will pay one at all.
 Quarterly dividend payments are the most
common; annual and semiannual payments
are less common.
 Usually only large, established companies
pay dividends.
 This is because smaller companies need to
reinvest their profits to continue growing.
IPO – Initial Public Offerings
 Taking a company through a public
offering on the U.S. securities
markets is a major undertaking
 It is a source of pride, an
opportunity for business growth,
and a serious legal responsibility.
 Great way to get growth money for
expansion.
 Why Invest in Stock?
regular income – dividend
 Earn
payments
 Buy low, sell high…hopefully ☺
 Sell at higher price than you bought?
• Capital gain
 Sell at lower price than you bought?
• Capital loss
Stock Returns

 The returns on a stock over one period (Rt) can be divided

into capital gains and dividend returns:

Pt  Pt 1 Dt
Rt  
Pt 1 Pt 1
Pt = stock price at time t
Dt = dividends paid over time t – 1 to t
(Pt – Pt – 1) / Pt – 1 = capital gain over time t – 1 to t
Dt / Pt – 1 = return from dividends paid over time t – 1 to t
Stock Returns

 Suppose an investor buys 10 shares of

stock priced at $55.10 and sells the stock
one year later for $56.30 after collecting a
$0.30 dividend per share. What was the
investor’s pre-tax holding period return?
Stock Returns

 Suppose an investor buys 10 shares of stock priced at $55.10

and sells the stock one year later for $56.30 after collecting a
$0.30 dividend per share. What was the investor’s pre-tax
holding period return?

$56.30  $55.10 $0.30

R1    2.18%  .54%  2.72%
$55.10 $55.10
Stock Returns

 Ifdividend income is taxed at a 28%

rate and capital gains are taxed at
20%, what was the investor’s after-tax
holding period return?
HPR AT  2.18%(1  20%)  0.54%(1  28%)  2.13%
Primary Stock Markets
 Primary markets are markets in which
corporations raise funds through new issues of
stock, most of the time through investment
banks
 Investment banks act as distribution agents in
best efforts underwriting
 Investment banks act as principals in firm
commitment underwriting
gross proceeds – net proceeds = underwriter’s
spread
 A syndicate is a group of investment banks
working in concert to issue stock; the lead
underwriter is the originating house
 Primary Stock Markets
 An initial public offering (IPO) is the first public
issue of financial instruments by a firm
 A seasoned offering is the sale of additional
securities by a firm whose securities are already
publicly traded
 preemptive rights give existing stockholders the
ability to maintain their proportional ownership
 A red herring prospectus is a preliminary version
of the prospectus that describes a new security
issue
 Shelf registration allows firms to offer multiple
issues of stock over a two-year period with only
one registration statement
Secondary Stock Markets

 Secondary stock markets are the

markets in which stocks, once
issued, are traded among investors
 The seconday market in Philippines
is PSEi
 Flash Trading
 In flash trading, traders are allowed to see incoming buy
or sell orders milliseconds earlier than general market
traders
 Flash traders then use computerized statistical analysis to
generate high frequency trading strategies that are
executed by computer as well
 Pro: Flash trading creates more liquidity and the
possibility of price improvement
 Con: *Creates a disadvantage for regular traders and
investors who are not allowed to view incoming orders
*High volume of trading generated by multiple
computers can lead to events like the so called flash
crash
Naked Access and Dark Pools

 Naked access occurs when brokers and

exchanges allow some traders to engage in
high frequency trades anonymously using
the broker’s access code

 Dark Pools are trades that occur on

alternative trading platforms (such as
electronic communication networks) that do
not report the details of the trade on order
books
 Market Cycles
 Ups and Downs
 Throughout its history, the stock market has
tended to move in cycles of activity.
 The stock market is greatly affected by
economics, social, and political factors.
 While it's impossible to predict the
market's future activity, one thing is
certain: The stock market will continue to
experience ups and downs.
 Bull and Bear Markets
 Bull:
attacks by thrusting horns up
(positive)
 Optimistic outlook, investor confidence
 Prices rising or expected to rise
 Can apply to anything that is traded
 Bear:
attacks by swiping paw down
(negative)
 Prices falling or expected to fall
Facts on Stock Market
 The secondary market for corporate stock is
the most closely watched and reported of all
financial security markets.
 Daily television and newspaper reports
include recaps of the movements in stock
market values (both in the United States and
abroad).
 Stock market movements are sometimes
seen as predictors of economic activity and
performance.
Facts on Stock Market
 Corporate stocks may be the most widely
held of all financial securities.
 Corporations find preferred stock beneficial
as a source of funds because, unlike coupon
interest on a bond issue, dividends on
preferred stock can be missed without fear of
bankruptcy proceedings.
 Suppose an investor buys 10 shares
of stock priced at 26.50 and sells the
stock one year later for 28.40 after
collecting a 0.40 dividend per share.
What was the investor’s pre-tax and
after-tax holding period return,
provided that the CGT rate is 15%
and the Income Tax rate for dividends
is 125% of the CGT?
It is the
fundamental
ownership claim in
a public or private
corporation.
 TRUE OR FALSE
In the event of liquidation,
preference stockholders have
the lowest priority in terms of
any cash distribution, and this is
also known as the residual
claim.
Statement I : A partnership can be a
stockholder in a corporation.
Statement II : A corporation can be a
partner in a partnership.
Statement III : Only a domestic stock
corporation may be converted into a
one-person corporation.
Statement IV : All corporators are
incorporators.
Statement I : Release of dividends
are discretionary upon the decision of
the Board of Directors.
Statement II : Common stockholders
control the firm’s activities indirectly
by exercising their voting rights in the
election of the board of directors
Statement III : Ordinary Shares do not
have voting rights unless dividend
payments are missed
 TRUE OR FALSE
No matter what financial difficulties the
issuing corporation encounters,
neither it nor its creditors can seek
repayment from the firm’s common
stockholders. This implies that
common stockholders’ losses are
limited to the original amount of their
investment.
 ________ are financial intermediaries that
acquire funds by selling shares to many
individuals and using the proceeds to
purchase diversified portfolios of stocks
and bonds.
 a. Mutual funds
 b. Investment banks
 c. Finance companies
 d. Credit unions
 Philippine Treasury bills are considered
the safest of all money market instruments
because there is no risk of ________.
 a. defeat
 b. default
 c. desertion
 d. demarcation
A short-term debt instrument issued by
well-known corporations is called
 a. commercial paper.
 b. corporate bonds.
 c. municipal bonds.
 d. commercial mortgages.
 Bonds issued by state and local
governments are called ________ bonds.
 a. corporate
 b. Treasury
 c. municipal
 d. commercial
 TRUE OR FALSE
A bull market is a favorable
market normally associated
with rising prices, investor
optimism, economic recovery,
and governmental stimulus.
 TRUE OR FALSE
As residual owners of the
company, preferred stockholders
are entitled to dividend income and
a prorated share of the firm’s
earnings after all other obligations
of the firm have been met.
 Indexes
 Each exchange calculates an index, or
benchmark, based on the activity of its
member companies' stock prices.
 "The market's up" or “the market's down,"
refers to the Dow Jones Industrial
Average. It is considered a reliable
indicator of the strength - or weakness - of
stocks in general. Composite of 30
companies.
 Circuit Breakers

 After the 1987 stock market crash, the

NYSE instituted automatic thresholds
to reduce market volatility caused by
program trading.
 These thresholds, know as "circuit
breakers," are updated quarterly and
use the Dow Jones Industrial Average
as their benchmark. The current
thresholds are:
 Three Thresholds
 800 Point Drop
 An 800-point drop will halt trading for one hour if

it occurs before 2:00 pm; 30 minutes if between

2:00 pm and 2:30 pm; the drop will have no effect
between 2:30 pm and 4:00 pm

 1,600 Point Drop

 A 1600-point drop will halt trading for two hours if

it occurs between 1:00pm; one hour if it occurs

between 1:00 and 2:00 pm; and halt trading for the
day after 2:00 pm.

 2,350 Point Drop

 A 2350-point drop will halt trading for the

remainder of the day, regardless of the time it

occurs.
 Mutual Funds
 What is a mutual fund?
 Diversification of portfolio in one fund
 Several businesses to spread risk
 Not a traditional bank deposit
 NOT insured by FDIC
 NOT guaranteed by banks
 Mutual funds carry risk, including the
possible loss of principal.