1. 1 Essential Characteristics of Common Stock Common stock are shares in a firm’s ownership Stockholder is a residual claimant Limited liability Measuring Stock Market Performance The Dow Jones Industrial Average The Standard & Poor's 500 Index Nasdaq Composite index Wilshire 5000

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3. 3 Fundamental Value: The Dividend-Discount Model

4. 4 Valuing Stocks

5. 5 Assume the firm pays dividends forever

6. 6 But you won’t hold stock forever … Return after holding stock one year: Since the ultimate future sale price is unknown the stock is risky the investor will require compensation in the form of a risk premium Required Stock Return (i) = Risk-free Return (rf) + Risk Premium (rp)

7. 7 Dividend Discount Model With Risk Stock Prices are High When Current dividends are high (Dtoday is high) Dividends are expected to grow quickly (g is high) The risk-free rate is low (rf is low) The risk premium on equity is low (rp is low)

8. 8 The Theory of Efficient Markets – –Prices of all financial instruments, including stocks, reflect all available information – –Future price movements are unpredictable. If you could reliably predict a stock’s price will rise in the future, you would try to buy so much of it now that its price would rise now … and there would be no above-normal gain in the future

9. 9 Jeremy Siegel: Investing in Stocks For the Long Run

10. 10 The Stock Market’s Role in the Economy Stock prices tell us the market value of companies, which determines the allocation of resources. –Firms with a high stock market value are the ones investors prize, so they have an easier time garnering the resources they need to grow. –In contrast, firms whose stock value is low have difficulty financing their operations

11. 11 The Stock Market and the Economy Bubbles: persistent and expanding gaps between actual stock prices and those warranted by the fundamentals. –Bubbles inevitably burst, creating crashes.