Fundamentals of investing: Why invest? D. Scott Phillips Wells Fargo Advisors, LLC

The Value of Money  From Barter to Pay  We no longer trade beaver skins, we trade money.  Money has value  Supply and demand  Inflation never sleeps

Philosophy of money  Spend  Loan  Own

Based on 2% inflation and a 28% tax bracket. Figures are for illustrative purposes and are not intended to reflect actual investment performance. Your real return adjusted for inflation and taxes Taxable $10,000 bond investment x 4.5% interest $450 per year $450 -$200 (inflation) $250 -$126 (taxes) $124 return after taxes and inflation Real return

Where to invest  Stocks  Bonds  Mutual funds  Annuities and insurance  CDs Stocks offer long-term growth potential, but may fluctuate more and provide less current income than other investments. Bonds offer a fixed rate of return and investment principal if held to maturity. The investment return and principal value of mutual funds will fluctuate, and shares, when sold, may be worth more or less than their original cost. Annuities have certain limitations, can be subject to market risk and may be worth more or less upon redemption.

Easel Corporation  Charter authorizes 20,000 shares of common stock  Sells 10,000 shares at $10 per share  Raises $100,000 Need to raise another $100,000

Easel Corporation  Issue corporate bonds to “borrow” $100,000 – Secured bonds – Unsecured bonds

Interest versus dividends  Interest: Rent – Bonds – CDs  Dividends: Profits – Stocks – Stock mutual funds *Dividends are not guaranteed. A company can reduce or eliminate a dividend at any time.

Tracking a listed stock trade Client places order Financial Advisor enters order Order is received on exchange floor

Tracking a listed stock trade Floor broker executes order Execution report is generated. Electronic tape shows “Z2s40.38” Confirmation is printed and mailed to client Client places order Financial Advisor enters order Order is received on exchange floor

Three-day settlement rule  Keep money on deposit with brokerage firm

Money market funds  Liquid  Fluctuating interest  Check writing An investment in any of the money market funds is neither insured nor guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Although the fund seeks to preserve the value of your investment at one dollar per share, it is possible to lose money by investing in the fund

Asset allocation  The blending of stocks, bonds and cash in your portfolio

Simple interest $1,000 x 1.05 $1,050 $1,000 x 1.05 $1,050 Year 2 $1,000 x 1.05 $1,050 Year 1Year 3

Compound interest $1,050 x 1.05 $1,103 x 1.05 $1,158 $1,000 x 1.05 $1,050 Year 1 Year 2 Year 3 $1,158 x 1.05 $1,216 x 1.05 $1,277 Year 4 Year 5

For illustrative purposes only and not intended to reflect actual performance of any particular investment. This illustration does not include the effect that taxes and investment expenses may have had on the outcome. A dollar per day from ages 25 to 65 years old

72/5 = For illustrative purposes only and not intended to reflect actual performance of any particular investment. This is a general investment rule of thumb that assumes the investment’s principal value and rate of return remain constant and that all interest and/or dividends are reinvested annually at the same rate of return. Rule of yrs % 18%12% 9%7.2% 6%5% 4% 1.3% 1%

Stocks and Bonds: Risk Versus Return 1970–2009 Past performance is no guarantee of future results. Risk and return are measured by standard deviation and arithmetic mean, respectively. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. © 2010 Morningstar. All Rights Reserved. 3/1/ % Return Maximum risk portfolio: 100% Stocks 60% Stocks, 40% Bonds 50% Stocks, 50% Bonds 100% Bonds Minimum risk portfolio: 28% Stocks, 72% Bonds % 80% Stocks, 20% Bonds

Inflation’s powerful effects Source: Consumer Price Index One dollar todayFive years from nowTen years from nowTwenty years from now

Why invest in stocks?  Inflation hedge  Growth potential  May issue dividends  Total-return potential

Facts about stock ownership  Stock investors own shares of a company  Almost half (47%) of all U.S. households own individual stocks*  There are a number of ways to invest in stocks:  Individually  Mutual funds  Defined portfolios  Variable annuities  Private money managers *Source: “Equity and Bond Ownership in America, 2008”. Investment Company Institute and the Securities Industry and Financial Markets Association survey, 2008.

Dividends  Portion of company’s profits paid to shareholders  Income investors choose companies with consistent dividend payments

Yield = Current yield Annual cash dividend Current stock price

Yield

Earnings per share (EPS)  Key number in determining a company’s investment value = EPS Net income Common stock outstanding

Payout ratio  Important number for income investors  Dividend-to-EPS ratio

Ex-dividend date  Ex-dividend date means “without the current dividend” Ex-dividend

Ex-dividend date  Ex-dividend date means “without the current dividend”  If you buy stock after the ex-dividend date, the former owner will receive the current dividend Ex-dividend Bought stock without dividend Record date

Stock split  Before split: 100 shares at $100 = $10,000  After 4-for-1 split: 400 shares at $25 = $10,000

How to invest in stocks  Establish goals  Establish your risk tolerance  Determine what to buy

Bonds  You are a lender to the company  You earn interest on the money you lend

Bonds  Were first issued in coupon form

Bonds  Were first issued in coupon form  Moved toward issuing bonds registered with the owner’s name on certificate

Bonds  Were first issued in coupon form  Moved toward issuing bonds registered with the owner’s name on certificate  Finally, issued in book-entry form

Corporate bonds  Annual interest and yields Annual interest $1,000 x 5.50% $55 Annual interest

Corporate bonds  Annual interest and yields $55 ÷ $1,030 = 5.34% current yield $1,050 Annual interest $1,000 x 5.50% $55

Bond yields  Example:  10 years to maturity  5.50% coupon rate  Paid $30 premium over par $1,000  Callable in five years for $1,000  5.11% = yield to maturity  4.81% = yield to call

Government bonds  $5,000 and $10,000 denominations  Guaranteed by the U.S. government as to timely payment of interest and principal  State-tax-free

Municipal bonds  Free from federal taxes* and sometimes state taxes  $5,000 denominations * Subject to amount

Municipal bonds  General obligation  Revenue

Taxable investment vs. municipal bonds $10,000 x 4.5% $450 interest x 28% $126 taxes $ $324 after taxes Taxable

Taxable investment vs. municipal bonds $10,000 x 3.5% $350 interest x 28% $98 taxes $ $350 after taxes Municipal $10,000 x 4.5% $450 interest x 28% $126 taxes $ $324 after taxes Taxable

Taxable-equivalent yield 100 x Tax-exempt yield 100% - Investor’s tax bracket =Taxable-equivalent yield Example: 100 x 3.5% = % = 72 = 4.86%

Investment-grade bond ratings S&P (+ or -) Moody’s (1, 2 or 3) SuperiorAAAAaa ExcellentAAAa FavorableAA AverageBBBBaa

U.S. mutual funds  More than 8,000 funds available  More than $9.6 trillion in assets  92 million individuals and 52.5 million U.S. households owned mutual funds in 2008 Source: Investment Company Institute, 2009 Investment Company Fact Book

Mutual fund benefits  Professional management  Diversification  Pooled money  Liquidity

Did you know?  Mutual funds cannot hold money  Mutual funds cannot hold securities

Mutual fund pricing  Front-end load  Back-end load  No load  All funds have management fees

Fund families  Exchange privilege  Include funds managed to suit various investment risk and return objectives  Growth  Income  Conservative  Aggressive

Taxation of mutual funds  Dividends — taxed as they occur  Trading profits — taxed as they occur

Exchange-traded funds (ETFs)  Index fund  Track one specific index  Buy/sell like stocks  Price set by underlying index

Matching asset allocation with where you are:  Builders  Cruisers  Coasters

Builders 75% Equity common stocks, stock mutual funds 10% Cash Treasury bills, money market funds, CDs, checking and savings accounts 15% Fixed Income mutual funds, bonds, CDs This illustration is for informational purposes only, and is not intended to represent an actual investment allocation. We would need to review each individual’s unique situation before recommending any investment allocation to them.

Cruisers 40% Fixed Income intermediate-term Treasury securities, mortgage-backed securities, municipal bonds, etc. 50% Equity common stocks, stock mutual funds 10% Cash Treasury bills, money market funds, CDs, checking and savings accounts This illustration is for informational purposes only, and is not intended to represent an actual investment allocation. We would need to review each individual’s unique situation before recommending any investment allocation to them.

Coasters 60% Fixed Income intermediate-term Treasury securities, mortgage- backed securities, municipal bonds, etc. 30% Equity common stocks, stock mutual funds 10% Cash Treasury bills, money market funds, CDs, checking and savings accounts This illustration is for informational purposes only, and is not intended to represent an actual investment allocation. We would need to review each individual’s unique situation before recommending any investment allocation to them.

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