Economics Stocks and Bonds

Securities refers to bonds, stocks and other documents that are sold by corporations and governments to raise large sums of $$$$. These investments are commonly divided into 2 major categories: 1 2 Equity Securities: (stock) shows ownership Debt Securities: when companies borrow $

Debt Securities When a company borrows money. Examples of debt securities are US Savings Bonds Municipal Bonds (from town/city) Government Bonds (from federal government) Corporate Bonds (sold by companies) Mutual Funds (both debt and equity because they are a combination of stocks and bonds) Treasury Bills (from government) Bondholders are creditors of an organization that he/she bought the bond from.

Equity Securities: Investing in Stocks You become part owner of a business Stock certificate represents ownership in a company. Dividends = profit. It’s the money paid to investors from a portion of the company’s profits. Equity Securities have High risk …High return potential. Bond holders are paid first in good times or bad times. Stockholders may not get paid at all in bad times/bankruptcy

Investing in Stocks (cont). Publicly held Corporation – anyone in public can purchase stock of the corporation. Privately Held Corporation – only a select group of people can buy stock of the corporation. IPO – Initial Public Offering – formal name for going public. Company puts up it’s stock for sale.

Stocks (cont) Market value – price that is bought and sold on the market at one particular time – this is determined by how well the business is doing. Investor- someone who makes an investment (buys stocks, bonds, puts $ in savings accounts, etc) Portfolio- a collection of stocks owned by an investor.

Preferred stock vs. Common stock PS owners get paid dividends first. Less risk than common stock No voting rights in a corporation. CS owners are invited to shareholder meetings. Are paid dividends after preferred stock holders. CS holders have more potential to make money – higher risk … higher earnings.

Stockbrokers Stockbroker – licensed specialist in the buying and selling of stocks and bonds Commission- fee for selling stocks and bonds. Full service broker – provides you with information about securities you may want to buy. Discount broker – places orders only. Charges lower commission. Full service broker charges higher commission than a discount broker but provides more services to investor.

Stock Exchange Brokers work through stock exchanges – business organizations that accommodate the buying an selling of securities. NYSE – New York Stock Exchange Mainly large companies AMEX – American Stock Exchange Medium size companies NASDAQ – National Association of Securities Dealers Automated Quotation smaller companies

Averages used to Measure Stocks Dow Jones Industrial Average - average value of 30 large, industrial stocks. Big companies like General Motors, Goodyear, IBM and Exxon are the kinds of companies that make up this index. Today, the 30 Dow Jones Industrial Average stocks are all top companies in their industries. The average is calculated second-by-second throughout the U.S. trading day, giving investors an idea of how the market is trading at any point in time.

Averages to Measure Stocks (con’t) S & P 500- is the average value of 500 different large companies including industrial, transportation, utility, and financial sectors. The S&P 500 is a market value weighted index - each stock's weight in the index is proportionate to its market value.

Averages to Measure Stocks (con’t) Russel 2000 -tracks the average of 2,000 smaller companies. The Russell 2000 Index measures the performance of the small-cap segment of the U.S. equities.

Bull vs. Bear Market Bull Market- a period when overall prices of stock are rising-optimism is occurring-economy is up Bear Market – a period when overall prices of stock are declining-pessimism is occurring-economy down SEC- Securities and Exchange Commission –agency that regulates companies and stocks to protect investors.

What do you look for in choosing a stock? Company’s net worth Amount of debt Sales revenue (how much $ they bring in) Profits Dividend history Current outlook for the company’s product and service. Have students go to edgar-online.com to look up company history. SEC requires companies to file detailed reports electronically. 14

If you are considering investing in a company, you should ask the following questions … Has the company been profitable over a period of years? Have the company’s managers made good business decisions? Does the company have growth potential in coming years? Does the company have an unusually large amount of debt? How does the company compare with others in its industry.

You should also consider … The yield of a stock Dividend = Dividend per share Market Price p/share The higher the better Investors who depend on regular income will look at the yield.

The lower ratio the better And … Price Earnings Ratio The ratio of a stock’s selling price to its earnings per share. It gives you an indication of whether the stock is priced too high or low in relation to its earnings per/share. Think of this sort of like inflation. The lower the better. Earnings per Share (EPS): the amount of net income after Federal Income tax belonging to a single share of stock. It is one of the most widely recognized measurement of a company’s financial information. The ratio is calculated by dividing the net income after fed income tax by the number of shares outstanding EPS cannot be compared by industry standards. It is compared to prior year’s EPS or the market price of the stock Investors looking for growth in a company will look at the P/E Ratio The lower ratio the better 17

Price-Earnings Ratio (P/E Ratio) Price-earnings ratio is the relationship between the market value per share and earnings per share of stock. It’s calculated as market price per share divided by earnings per share. Investors use this ratio to determine the price of stock relative to the earnings. Low P/E ratios typically mean a company has slow growth. High P/E ratios typically mean that a company will have high growth in future earnings. PE Ratio= Market value per share Earnings Per Share (EPS)

Example Company ABC reported earnings of $10 per share, while company XYZ has reported earnings of $20 per share. Each is selling on the stock market for $50. What does this mean? Company ABC has a P/E ratio of 5 (50/10), while Company XYZ has a P/E ratio of 2 ½ (50/20). This means that company XYZ is much cheaper on a relative basis. For every share purchased, the investor is getting $20 of earnings as opposed to $10 in earnings from ABC. All else being equal, an intelligent investor should opt to purchase shares of XYZ; for the exact same price ($50), he is getting twice the earning power.

PE Ratio Example: A stock is currently trading at $43 and the earnings over the last 12 months $1.95 per share PE Ratio=43/1.95=$22.05

FINANCIAL RATIOS Earnings per Share = Number of Shares Outstanding ÷ page 459 Earnings per Share Earnings per Share = Number of Shares Outstanding ÷ Net Income after Federal Income Tax $32.13 $80,313.95 ÷ 2,500 = Price-Earnings Ratio Price Earnings Ratio = Earnings per Share ÷ Market Price per Share $345.00 = 10.7 ÷ $32.13

What do you look for in choosing a stock? Company’s net worth Amount of debt Sales revenue (how much $ they bring in) Profits Dividend history Current outlook for the company’s product and service. Have students go to edgar-online.com to look up company history. SEC requires companies to file detailed reports electronically. 22

Low Risk ... Low Return!! High Risk . . . High Return!! For someone who is starting to save for retirement … 25 years old .. Should they choose low or high risk? For someone who is ready for retirement maybe 1-5 years should be in _____. Why. For someone who still has 15 years ready for retirement, what should they be in? Diversify?????

What is a bond? A bond is a certificate representing a promise to pay a definite amount of $ at a state interest rate on a specified maturity date. By buying a bond, you become a creditor of the organization and in return your $ is used to help build the company.

More about Bonds Corporate bonds – bonds issued by a corp. Government bonds - bonds issued by the government. Face value – AKA maturity value – the amount you buy the bond for. Bonds are sold in Bond Markets Some risk (more in corporate bonds) Bond prices are determined by buyers and sellers in the bond market.

Government Bonds Municipal Bonds US Savings Bonds Exempt from Federal and most state income taxes. Low/no risk Interest usually not as high as corp. bonds. Can invest small amounts Usually sold in amounts of $1,000 or more. Series EE savings bonds Very low risk $50 – 10,000 Payroll deductions Tax deferred

Bonds cont. Interest earned = purchase price – redemption (payoff value) The time it takes for a bond to mature will be determined by the economy and current interest rates. Purchase limit $20,000 (face value) as of January, 2008 Pays interest when bond is cashed Can be purchased at any financial institution. Denominations Available:  $50 , $75 , $100 , $200 , $500 , $1,000 , $5,000  and $10,000. (Note: Because of the $20,000 bond limitation which began Jan. 2008 - you can now only purchase a maximum face value of $10,000 [$5,000 purchase value] in paper EE bonds a year) Issued:  January 1980 to present. Purchased for 1/2 of face value. An Example:  a $100 bond in the past would have cost $50 at the time of purchasing it. EE Bonds will earn interest for 30 years from issue date.  Series EE bonds are issued only in registered physical form and are not transferable. There is a 3 month penalty for cashing in an EE Bond before it is five years old. You can purchase up to $5,000 worth of EE Bonds annually (each calendar year). NOTE: You can purchase up to $5,000 in I Bonds as well, totaling $10,000 max annually in paper bonds as of January 1, 2008. An individual may also purchase $5,000 in ELECTRONIC EE Bonds as well as an additional $5,000 in ELECTRONIC I bonds; for a grand total of $20,000 in savings bonds per calendar year. This number is down from the limit of $60,000, prior to January 1, 2008.

Bonds (cont) Bonds pay interest when the bond is cashed in or periodically depending on the type of bond purchased. (Ex. Series EE pays interest when the bond is cashed in) Bonds can be purchased at any financial institution. Bonds continue to earn interest after the maturity date. Series EE bonds replaced Series E bonds in 1980 Notice: August 31st, 2004 was the last issue date for HH/H Bonds. After August 31, 2004, the government discontinued the exchange of bonds for HH/H bonds. Current holders of HH/H Bonds will not need to do anything different than they normally would have. Series HH bonds are not subject to a purchase limitation. Holder receives interest payments every six months since the date of issue.

Mutual Funds Consist of buying and selling a variety of stocks and bonds in one family. Less risk because where one stock goes down another may go up and it offsets the loss.

Investment Tradeoffs Investment Safety Liquidity Rate of return Savings acct $ market CD Gvt bonds Corp bonds Pf stock Cm stock Mutual funds When deciding where to invest you money you need to take three factors into consideration. Denpending on where you are in your life, the answers will vary. 30

Online Investing Becoming a standard practice for many individual investors Get quotes for companies Buy and sell stocks Maintain a portfolio of your investments Learning tips for new investors Research company news, income statements, annual reports, and stock performance histories.