Vicentiu Covrig 1 Trading Strategies (“ chapter 10 in Strong) (“Picking the Equity Players”, chapter 10 in Strong)

Vicentiu Covrig 2 Stock Selection Philosophy Fundamental analysis Technical analysis

Vicentiu Covrig 3 Fundamental Analysis A fundamental analyst tries to discern the logical worth of a security based on its anticipated earnings stream The fundamental analyst considers: - Financial statements - Industry conditions - Prospects for the economy - Etc.

Vicentiu Covrig 4 Technical Analysis A technical analyst attempts to predict the supply and demand for a stock by observing the past series of stock prices Financial statements and market conditions are of secondary importance to the technical analyst

Vicentiu Covrig 5 Types of Dividends Cash dividends Stock dividends Spin-offs Rights

Vicentiu Covrig 6 Cash Dividends Cash dividends are distributions of the firm’s profits to the shareholders paid via a check from the company Cash dividends can sometimes be reinvested via dividend reinvestment plans (DRIPs) - Sometimes allow for purchase of additional company shares at a discount If shares are held in street name: - The brokerage firm receives the dividend check - The brokerage firm ultimately allocates dividends to the shareholders

Vicentiu Covrig 7 Stock Dividends Stock dividends are paid in additional shares of stock rather than in cash Typically announced as a percentage - E.g., 10 percent stock dividends Popular when a firm lacks the funds to pay a cash dividend Popular early in the firm’s life cycle

Vicentiu Covrig 8 Spin-Offs In a spin-off, a parent firm divests itself of a subsidiary and distributes all shares in the subsidiary proportionally to the parent firm’s shareholders The parent gives away the subsidiary

Vicentiu Covrig 9 Rights The preemptive right means shareholders have the ability to maintain the same percentage share of ownership in a corporation when the firm sells new shares Existing shareholders can buy new stock at a discount from market price Rights are actual securities that shareholders can buy or sell Rights have a limited life - Usually expire a few weeks after issued

Vicentiu Covrig 10 Chronology of Events Date of declaration - The day the board announces the dividend - Once declared, the dividend becomes a legal liability of the company Date of payment - The company mails dividend checks Date of record - Establishes who will receive dividend checks - Shareholders of record are listed on the company records as being owners of the company on the date of record

Vicentiu Covrig 11  Ex-dividend date Two business days prior to the date of record If you buy the stock before the ex-dividend date, you will get the next dividend If you buy the stock on the ex-dividend date, you will not get the next dividend Eliminates any ambiguity about who is entitled to the dividend

Vicentiu Covrig 12 Why Dividends Do Not Matter? Payment of dividends reduces the balance in the firm’s cash account - The firm should not be worth as much after paying a dividend The ex-dividend date determines whether or not you get the dividend - On the ex-dividend date, the price of a share of stock tends to fall by about the amount of the dividend to be paid

Vicentiu Covrig 13 Why dividend policy matters? Most firms increase their dividend annually, and the market expects this - If management does not increase the dividend as expected, the market views it as bad news Reducing or omitting a dividend is a very bad signal An increase in dividends above what the market expects is a good signal

Vicentiu Covrig 14 Stock Splits A stock split occurs when a firm changes the number of shares of its capital stock without changing the aggregate value of these shares A stock split is generally a neutral occurrence - The primary motivation is to reduce the price of shares to bring it into an optimal trading range

Vicentiu Covrig 15 Why Firms Split Their Stock Some literature supports the existence of an optimal trading range - A principal reason for splitting shares is “to broaden the ownership base” Reverse splits are sometimes used to reduce the number of shareholders - E.g., a 1-for-200 splits eliminates all shareholders holding fewer than 200 shares

Vicentiu Covrig 16 Value investing Value investors look for undervalued stock Value investors look for low price/ earnings and price/book ratios

Vicentiu Covrig 17 Growth Investing Growth investors look for price momentum - Look for stocks that are in favor and have been advancing - Look for stocks that are likely to be propelled even higher - Normally, they invest in stocks with high P/E and P/B ratios The market moves in cycles - Many investors own both growth and value stocks

Vicentiu Covrig 18 Capitalization Capitalization refers to the aggregate value of a company’s common stock Typical divisions are: - Large cap ($10 billion or more) - Mid-cap (between $500 million and $10 billion) - Small cap (less than $500 million) Many money managers distribute their assets across size and style spectrums

Vicentiu Covrig 19 Categories of Stock Blue chip stock Income stocks Cyclical stocks Defensive stocks Growth stocks Speculative stocks Penny stocks

Vicentiu Covrig 20 Blue Chip Stock Blue chip has become a colloquial term meaning “high quality” - Some define blue chips as firms with a long, uninterrupted history of dividend payments - The term blue chip lacks precise meaning, but some examples are:  Coca-Cola  Union Pacific  General Mills

Vicentiu Covrig 21 Income Stocks Income stocks are those that historically have paid a larger-than-average percentage of their net income as dividends - The proportion of net income paid out as dividends is the payout ratio - The proportion of net income retained is the retention ratio

Vicentiu Covrig 22 Cyclical Stocks Cyclical stocks are stocks whose fortunes are directly tied to the state of the overall national economy Examples include steel companies, industrial chemical firms, and automobile producers

Vicentiu Covrig 23 Defensive Stocks Defensive stocks are the opposite of cyclical stocks - They are largely immune to changes in the macroeconomy and have low betas Examples include retail food chains, tobacco and alcohol firms, and utilities

Vicentiu Covrig 24 Speculative Stocks Speculative stocks are those that have the potential to make their owners rich quickly Speculative stocks carry an above-average level of risk Most speculative stocks are relatively new companies with representation in the technology, bioresearch, and pharmaceutical industries

Vicentiu Covrig 25 Penny Stocks Penny stocks are inexpensive shares Penny stocks sell for $1 per share or less

Vicentiu Covrig 26 Learning outcomes: Know what are the fundamental and technical analyses Know about cash and stock dividends; spin-offs and rights Comment on the following statement: Dividends do matter; it is dividend policy that does not matter. Discuss the four dates in the life of a dividend payment Know about stock splits; Explain the differences between value and growth investing. Discuss the categories of stock mentioned in this slides.