STOCKSChapter 9

Study Guide Answers

Common Stock Vs. Preferred Stock

Securities – all the investments, including stocks, bonds, mutual funds, options and commodities that are traded – on the securities exchanges or the over the counter market

Private corporation- shares are owned by small group of people – not traded on the stock market. Ex. VonMaur)

Public corporation –shares are traded on the open markets- anyone can buy them (ex. IBM, Deere)

Stock split –your profits will increase.

The company divides the number of shares outstanding into a larger number of shares –

Usually 2 for 1 split (if you owned 100 shares before – you now will have 200) The value of the shares reduces in ½ also. They do it b/c they want to make it more attractive and affordable for others to buy.

Par value- an assigned dollar value that is printed on the stock certificate (par value * dividend rate= dividend in dollar form per share)

Bull Market – a market that is rising – people are optimistic- buy stocks- the overall stock market value increases.

Bear Market- a falling market – people are generally pessimistic that the economy is doing poorly, earning are down, etc.- people are selling stocks

Earnings per share- Measures the amount of corporate profit assigned to each share of common stock- shows profitability (see pg 289)

Dividend-distribution of money, stock or property a corporation pays to stockholders (not guaranteed – based on corporate earnings)

Price-earnings ratio (P/E)- used frequently to compare companies in the same industry (ex. Compare Wells Fargo to Bank of America) Low PE indicates a good investment – the company has lots of earnings per share of stock.

Initial Public Offering (IPO)- occurs when a company sells shares of stock for the first time to public investors. Used to fund new start up companies

Over-the-counter market- a network of dealers who buy and sell securities not listed on the exchanges. (must match the buyer and seller) NASDQ

STOCK TYPESBlue Chip

Description attracts conservative investors- issued by

strong/respected companies (GE, AT&T)Advantage relatively safe / stable earnings /consistent

dividendsDisadvantage Can still lose money. (amount invested) / Slower

growth

INCOME

Description Good for investors looking for income producing

investments / Pays steady dividends / Drug and G&E companies

Advantage Pays higher than average dividends / Predictable

dividendsDisadvantage Not a ton of growth- but consistent

GROWTHDescription Issued by a company whose potential earnings

may be higher than average than for all firms in the U.S. / Tech stocks/ companies

Advantages Potential for growth in value/price of stock and

can sell for quick profitDisadvantages Generally do not pay dividendsPotentially more risky

CYCLICAL

Description Stock reflects the state of the economyJohn Deere, Auto makersAdvantagesWhen economy is good – stock value is up Disadvantage When economy is bad – stock value is downPotential for economy to remain poor

DEFENSIVE

Description One that remains stable during declines in

economy(many blue chip and income stocks fall in this

category – Proctor & Gamble and Kellogg)Advantages Steady earnings / Continue to pay dividends even

if decline in economyDisadvantages Growth is slower than that of “growth stocks”-

LARGE CAP

Description Stock of a company that has issued a large

number of shares of stock and has large capitalization / Typical DOW 30 stocks

Advantages For conservative investors - more secure/ less riskDisadvantages Steady growth – not a quick money maker

SMALL CAPDescription Stock issued for companies with less that $150

million in capitalizationAdvantages Value may appreciate fasterDisadvantages Higher risk investment – may be newer companies

– not a proven track record

PENNY STOCK

Description Typically sell for less than $1Advantages Cheap investment – low money inDisadvantages Very risky/ No track record of performance

LONG TERM STRATEGIES

Buy-and-Hold- long tern investment strategy, buy and hold for a number of years- generally increase in value over time.

LONG TERM STRATEGIES

Dollar cost Averaging – put an equal amount of money into an investment an equal period of time. Example: Buy 100 shares of IBM at $50 per share January 1st and put in $5000 each month into IBM stock – theory is that over time the price you pay will average out over time- see top of pg 299

LONG TERM CONT…

Direct Investment and Dividend Reinvestment- buy directly from the company and use DRIP (dividend reinvestment plan)- dividends paid from the company will be used to purchase more shares of the stock. Good plan for those that don’t have a lot of $$ to invest

SHORT TERM STRATEGIES

Buying Stock on Margin- borrow money against your other investments from the brokerage house to buy more stocks – can be risky – if the overall market value of your investments goes down – you may have a “margin call” and be expected to put in cash to cover the declining value.

SHORT TERM STRATEGIES

Selling Short selling of stock that you have borrowed from the brokerage house – you are betting against or for the market. Make money if stock price goes down – you can buy the stock you need to replace back at a cheaper price and you keep the difference. See page 301 for steps. Very risky – if stock price increases – you must replace it at a higher price and therefore lose money.