1. Chapter 14: Investing in Stocks

2. 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.

3. Stocks and Bonds and How They are Used
Common stock
Voting rights
Proxy Vote
Preferred stock
Cumulative
Convertible

4. 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 don’t have to repay the money
Dividends are not mandatory
Stockholders have voting rights

5. Why Do Investors Purchase Stock?
Income from dividends
Record Date
Ex-dividends
Dollar appreciation of stock value
Increased value from stock splits

6. Return on Investment 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 $42.75 = $4,275
100 $56.25 = $5,625
Plus commission
Minus commission
Total investment $4,304
Total return $5,591
Transaction Summary
Total return
$5,591
Minus total investment
- 4,304
Profit from stock sale
$1,287
Plus dividends
Total return for the transaction
$1,508

7. Common vs. Preferred Stock
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

8. Features of Preferred Stock
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

9. Classifications of Common Stock
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

10. Types of Stock Investments
Blue chip stock
low risk
consistent dividends
ex. AT&T, Kellogg's, General Electric
Income stock
higher than average dividends
ex. utility stock

11. Types of Stock Investments
(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

12. Types of Stock Investments
(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

13. Stock Advisory Services
A good supplement to information in newspapers
Charge a fee
Hundreds to choose from
Standard and Poor’s reports
Value Line
Moody’s Handbook of Common Stock
On-line services allow access to web sites such as quote.yahoo.com and smartmoney.com

14. Numeric Measures to Consider When Evaluating a Stock
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

15. Numeric Measures to Consider When Evaluating a Stock
(continued)
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

16. Earnings Per Share
Earnings Per Share are a corporation’s 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
1,000,000 = $2.50

17. Price-Earnings Ratio
The price of a share of stock divided by the corporation’s earnings per share of stock.
Using the example in the last slide, the Earnings Per Share were $2.50. Assume that XYZ’s 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
= $ = 20

18. Dividend Payout
Dividend payout is the percentage of a firm’s 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 amount
Dividend payout = Earnings per share
$0.40
= $ = 0.28 = 28%

19. Current Yield
Current yield is the yearly dollar amount of income generated by an investment divided by the investment’s 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 = $ = 0.04 or 4%

20. Buying and Selling Stocks
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

21. A Sample Stock Transaction
Market Order
Day Order
Week Order (Good This Week, GTW)
Month Order (Good This Month, GTM)
Limit Order
Stop Order

22. Long-Term Investment Strategies
Buy-and-Hold Technique
Dollar Cost Averaging
Value Cost Averaging

23. Direct Investment and Dividend Reinvestment Plans
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.