There’s a chance you may not actually know what a stock is which is ok most people don’t. However, knowing what a stock is gets you to the first step to stock market greatness. A share of stock is a small unit of ownership in a company. If you own a share of a company’s stock, it essentially makes you a partial owner of that company. It is kind of neat how you can just purchase a percentage of a company to claim as your own.
If the company happens to distribute profits to shareholders, you will likely receive a proportionate share. There is the notion of limited liability which is a unique feature of stock ownership. For example, let’s say the company loses money because of a lawsuit and must pay out a huge settlement. In this scenario the worst thing that could happen to you is that your stock becomes worthless. The creditors however can NOT come after your personal assets. Which is not necessarily true when it comes to private held companies that are not publicly traded.
Something to note as well is that there are two separate kinds of stocks. The first kind of stock which is one that individuals tend to hold is called common stock. While the other is known as preferred stock. Both are similar in ways but also have gigantic differences.
Common Stock:
Common stock represents the majority of stock held by the public. Along with it comes voting rights within the company. You have the right to vote on members of the board of directors and other important matters that may arise within the company. Along with these rights comes the right to share in dividends. If you have ever read or possibly heard about ‘stocks” being up or down, it is refereeing to common stocks.
Preferred Stock:
Despite the name making it sound more preferable than common stock, preferred stock actually comes with fewer rights than common stock especially when it comes to voting on company matters. However, there is a benefit in one important area known as dividends. Companies that issue preferred stock usually pay consistent dividends and preferred stock has first call on dividends over common stock.
Investors tend to purchase preferred stock for its current income from dividends. Therefore, it’s a smart move to look for companies that make large amounts of profit and use preferred stock to return some of those profits to shareholders through dividends.
The Difference Between Stocks and Shares
The terminology used in the stock market world can be quite confusing. You may have heard people use the terms stocks and shares before. The difference between a stock and a share is very small and they’re the practically the same thing. A stock is a broad term used to describe the ownership certificates of any company. Whereas a share is a term that is used to describe ownership certificates of a specific company.
When an investor says they own stocks they are generally referring to their overall ownership of one or more companies. If an investor says they own shares, then that likely means they’re referring to partial ownership of one specific company. There’s no real difference between shares and stocks they’re just interchangeable terms that refer to the pieces of paper that denote ownership to a company. The only difference comes from the context in which the two words are used.
Now that we’ve gone through the basics of what a stock/share actually is let’s begin to dig deeper. The game of investing is one of the most complex structures you may ever be associated with. Don’t be afraid to reread any of the information provided within this book about them. Now it’s time to learn about liquidity though.
Liquidity:
Liquidity is a term that is used to describe how easy it is to exchange an asset for another type of asset. Cash would be the most liquid asset that you have the ability to acquire. For example, if you’d like to purchase a $400 television you can easily go to a store and trade said store $400 cash for that television with ease. However, if you had $400 of baseball cards you’d likely not be able to trade them to a store for a television. You would need to sell those baseball cards first obtain cash and then finally buy the television making your baseball cards an illiquid asset. Cash allows you to have the ability to instantly perform a financial transaction for a product. Whereas selling your baseball card to obtain cash may take weeks or even months to do.
The quicker an asset can be sold without influencing the price the more liquid that asset is. The issue with having an asset like an automobile is you can’t instantly exchange it for cash. If you’re put in a situation where you need to obtain cash in a few days it’s highly likely you’ll be stuck giving out a discount rather than waiting for someone to come around willing to pay full price.
Common stocks are highly liquid for the most part. This is another benefit to owning common stock. Small and/or obscure companies might not trade on a frequent basis. Most larger companies however tend to trade daily creating multiple opportunities to buy or sell shares. Luckily thanks to the stock markets, you’re able to buy and sell shares of most publicly traded companies almost any day the markets are open. Let’s move onto some more terminology and getting you to become a stock market master though.
Stock Market Terminology:
For you and any other investor you need to know certain terms to be able to make informed choices. Not all shares match up in equality with some different kinds of shares being more worthwhile than others. The terms that are about to be explained will be seen and used in financial ratios. There are authorized, restricted, float, outstanding and unissued shares all different from the other. To begin let’s start by defining these terms.
Authorized Shares- These shares represent the total number of shares authorized to be issued when the company was created. Only a vote by the shareholders can increase this number of shares. However, just because a company authorizes a specific number of shares to be issued doesn’t mean that all of these shares will be issued to the public. A large percentage of companies tend to retain shares for use later on in the company’s lifetime which is referred to as unissued shares.
Unissued shares- These are the kinds of shares that are saved within a company’s treasury. Unissued shares are NOT issued to the public or to employees of said company.
Float shares- The float is the kind of shares you’ll be buying and have access to. The float is the number of shares that are being traded in the open market.
Restricted Shares- Owning restricted shares means you’re inside the company and are likely an employee for said company. Meaning that there are strict regulations to follow when handling said shares. Companies tend to use these shares as an incentive for employees and compensation plans. Before I go any further though I should describe what the SEC is.
SEC- The SEC is a federal agency responsible for regulating the securities industry and enforcing federal securities law. it is meant to protect the public against fraudulent and manipulative practices in the securities market. The SEC is an acronym that stands for The Securities and Exchange Commission.
Restricted Shares Part 2- Owners of Restricted shares need the permission of the SEC to sell those shares. When a company first goes public, insiders who own restricted shares have those frozen for a waiting period. Insiders who want to sell their shares, must file a form with the SEC declaring their intention. There is no exception even insiders of established companies must file with the SEC before selling.
Outstanding Shares: This is the number of restricted shares plus the float. Outstanding shares are the shares issued by the company.
Yes, I know for the first read it seems complicated to say the least. You should probably read it over again as these are IMPORTANT terms to know. To attempt to help you grasp a bit more understanding of these different types of shares let’s draw up an example with some numbers. Good old math every bodies best friend.
Ok so let’s say a company has Authorized 500 shares. 100 of these are unissued shares, with another 200 restricted shares. The above information means that there would be 200 shares in the float with 300 outstanding shares.
Authorized Shares- 500
Unissued Shares- 100
Restricted Shares- 200
Float- 200 (500 authorized shares minus 100 unissued shares minus 200 restricted shares) (500-100-200=200)
Outstanding Shares- 400(Restricted shares plus the float) (200+200=400)
There’s lots of information to be learned from knowing how these different share types stack up in relation of each other:
First of all, let’s look at the relationship of unissued shares and restricted shares to the float. By identifying this you can see where the companies controlling interest resides. Most companies will hold a large percentage of the authorized shares in their treasuries. These companies may also keep shares in the hands of management through restricted shares. This is done to prevent other companies or individuals from stealing control of a company in an unfriendly/hostile takeover.
It is also a good idea for companies to keep stock for the future as a method to raise capital. This prevents a company from using debt to buy more assets or for other major expenditures. However, when the controlling interest is held in unissued shares it means that outside shareholders will have little say when it comes to making choices in the company.
Some companies may have small floats, when the stocks of those companies attract investors it can become volatile. The reasons for this is because of supply and demand imbalances. The more buyers there are the more the price of said stock will be driven up. If you already own stock in the company, it’s always good to see it’s worth increased. This isn’t all cupcakes, sunshine and walks in the park however. The stock may become overpriced when compared to its actual earnings or other fundamental measures used to determine share prices.
Sellers may have a lot of issues unloading their shares if the price point becomes too high. This in turn tends to decrease the share’s worth further and more quickly than fundamentals may indicate. A small supply of shares and a high demand for them can be fantastic but it may also be destructive.
Luckily, we live in the brilliant age of technology and the internet. Obtaining information has never been easier than it is right now. Looking something up is as simple as a few touch’s or asking SIRI, Google or some other voice activated assistant directly. This means that it is easier for us investors to see what restricted shareholders are up to. Knowing the most recent and planned sales by insiders or major shareholders may help when it comes to making our own choices with the shares we own. However, much of the time these sales signal nothing for investors to be interested in. Sometimes though when high units of shares are filed to be sold especially in young companies could signal big trouble.
Hopefully you’re able to keep with all of this but just remember this information is well worth knowing. There are many little things worth taking notice to and paying attention to. One of these noteworthy things are seeing whether companies are using float or outstanding shares in calculations of financial ratios. These being included or not have the ability to make a giant difference in the outcome.
With the information above you will already know more than I did when I started investing my money into the stock market. However, there is much more to learn on the road to being amazing at investing. Knowledge is power and the more we know helps us make informed decisions. Even if your financial situation seems hopeless you can find a way out the night is darkest before the dawn. So, let’s move on to a little something I and many others like to refer to as offensive and defensive stocks.
Cyclical and Non-Cyclical Stocks also referred to as Offensive and Defensive Stocks:
Whether it be hockey, football, war or investing to win big you need offence and defense. Just like in the things listed above it’ll be impossible to find success using one without the other. Having both offence and defense in your bag of tricks is a must. There are multiple means to apply both to your investing, including:
Mix of stocks, bonds and cash
Diversification by size and industry
Mix of value and growth stocks
Counteract a changing business cycle in your portfolio by mixing Cyclical(offensive) and Non-Cyclical(defensive) stocks. As the economy takes a turn for the worse which we should be well aware does tend to happen even in this day and age. Leading us to pick the better choice of moving toward defensive stocks and separating ourselves from Cyclical issues. Prices of offensive and defensive stocks relate to how the business cycle changes. Offensive stocks have more dramatic issues than soap opera characters. Meaning that Offensive stocks will move more drastically both up and down depending on the business cycle. However, defensive stocks show little movement up or down relative to the cycle.
Now let’s break this down and try to make up a general summary of the idea behind offensive and defensive stocks. Let’s say for instance that you want to purchase a new car, but money is tight. If you don’t have room in your budget, you’ll probably wait until you have more money to purchase that new vehicle. When it comes to things like toiletries, toothpastes, food, and electricity though you’re probably going to do your best to buy those things no matter how tight money is. I don’t know about you but a life without toothpaste and toilet paper would be pretty rough in my opinion. Cyclical stocks represent things that people would buy at a time while the economy is thriving. Whereas Non-Cyclical stocks represent items that no matter how the economy is performing people will keep buying said items.
Before we get into the multiple kinds of stock sectors though let’s go a little more in depth on defensive and offensive stocks. Considering how important these are it’s good to make sure you have a full grasp on them. It’s necessary to maintain good offense and defense unless for some reason you feel like losing.
Non-Cyclical Stocks(Defensive):
These kinds of stocks tend to do well in economic downturns which are never fun. However, since demand for these kinds of products and services continue on no matter how broke consumers are it helps soften the blow. For example, utilities such as electricity, gas and water are defensive stock areas. (There are also the classic examples of toothpaste, toilet paper, and cleaning materials.) When the economy is growing, these stocks tend to fall behind the group though. In economic downtimes their steady returns tend to look pretty good on your portfolio.
Cyclical Stocks(Offensive):
These stocks thrive when consumers and businesses have and spend money. For example, things like iPads and luxury cars are pretty awesome to have but you’re not going to purchase them with a tight budget. If there are lots of layoffs though or high interest rates people may decide on purchasing these excess items at a later date.
When times are good money wise businesses like to try and expand as much as they are able to. Construction and equipment sales are Cyclical stocks that will thrive when the economy is boosted. When businesses are expanding that means great things for these equipment and construction companies. Cyclical stocks such as steel manufacturing and sales will suffer alongside with the economy. If consumers aren’t purchasing product then there’s no reason for a business to expand.
Overall:
Make sure to keep an eye on the business cycle, know where it is and know where it’s heading. It pays to keep up with this kind of information. For investors establishing a conservative posture should make up part of your portfolio. Many Non-Cyclical stocks also tend to pay out nice dividends. You should understand though this relative safety comes with a price like everything else does in the market and in life in general. This cost includes missing out on growth opportunities in a rising market.
Sectors:
Let’s go over a list of sectors to help you get a better grasp on them. Personally, I’m very fond of Standard and poor’s sectors list. However, after doing a google search don’t be shocked if you find differences on a different site like MorningStar. Here is S&P’s sector list though:
1. Consumer Discretionary
2. Consumer Staples
3. Energy
4. Financials
5. Health Care
6. Industrials
7. Information Technology
8. Materials
9. Telecommunication Services
10. Utilities
Classifying Stocks or Stock Sectors:
One method to classify a stock is by the type of company. Classifying and putting stocks into categories simply makes said stocks easier to follow and gain information on. Putting stocks into sectors also really helps us decide whether they are Offensive or Defensive stocks. Partially we have went over whether sectors fall under Cyclical or Non-Cyclical stocks. Let’s start a little more in depth with Non-Cyclical because it is much shorter of a list.
Stock Sectors under Non-Cyclical Stocks:
As previously read we know that defensive stocks are great to have while the market is plummeting. They offer protection and create a balance in your portfolio. We also went over how these stocks do not thrive in a climbing market because people tend not to have a significant increase in the use of necessities. They’re exactly what the name implies though a nice fusion to give you a soft landing in a rough market setting. One of the two sectors classified under defensive stocks would be utilities such as water, gas and hydro. With the second sector being consumer staples, which are essential products such as household items, beverages, food and tobacco. Consumer staples are just goods that people are unable or in the case of tobacco unwilling to cut out of their budgets.
Stock Sectors under Cyclical Stocks:
Now as for offensive stocks these cover all the rest of the sectors out there. These sectors react harshly to market conditions whether they be up or down. However, just because one of these sectors goes up doesn’t essentially mean that so others will as well. One sector could sky rocket while the other has a catastrophic downturn.
Here’s a list of said sectors under Offensive stocks:
1. Basic Materials- Companies that deal in the handling of raw materials whether for development, discovery or processing. Basic materials include things like the mining and refining of metals, chemical producers and forestry products.
2. Capital Goods-Aerospace, defense, construction and machinery businesses make up most of the capital goods sector. These capital goods represent a serious expense for businesses.
3. Communications- This one is pretty self-explanatory things like telephones, walkie talkies, cellphones and just about everything else we use on a daily basis to communicate amongst each other.
4. Energy- This sector remains dominated by oil or gas reserves. However, in recent years people like the amazing Elon Musk have presented products that stray away from oil consumption.
5.Consumer Cyclical- This stock sector relies heavily on the state of the economy. Some consumer cyclicals include industries such as automotive, housing, entertainment and retail.
6. Health Care- This sector is all about health anything from vitamins, hospitals, narcotics and herbal remedies.
7.Financial- This sector involves financial institutions, banks, investment funds, insurance companies and real estate.
8. Technology- This sector has really been on the rise in the past 20 years with computers, the .com boom, Google, Apple, Samsung, Sony, LG, Microsoft, Facebook, Twitter and many others it’s clear why that rise is happening. However, these stocks can be unpredictable and create anxiety.
9. Transportation- This includes things like taxi services, air lines, railroads and trucking companies.
The but of stock sectors:
There are many different opinions of how many and what kind of stock sectors are out in the world. Be sure not to take the ones in this book to heart as your solid sectors. Don’t be afraid to do some exterior research online and see what other information is available. Also, when you own a stock in a specific sector it’s good to know how other stocks in the same sector are doing as well. If your stock is up 9% while a similar stock is down 5% or vice versa you should investigate as to why that is. Having the ability to make comparisons helps let us learn about our own stocks and is helpful when confused about a certain change in our stocks.
Dividends:
Now you may remember previously in this book a word called dividends. A way to make money investing in stocks is by buying stocks that pay out dividends. What are dividends you may decide to ask. Well dividends are a portion of a company’s profits that is distributed to shareholders. This is not because companies have a soft spot, it’s because a company’s job is to make money for the owners. Also remember that dividends usually don’t represent all of a company’s profits.
In most cases dividends are paid out by the company to the shareholder in cash. However, there is sometimes instances of a company using more stocks to pay out dividends instead of cash. Stocks with a history of paying out good dividends will attract lots of investors. These companies tend to be well established and profitable, but don’t always offer much in the way of potential stock growth.
It is important to note that companies are under no obligation whatsoever to pay out dividends. At quarterly meetings the board of directors of the company will set the number of dividends paid out. The dividend rate will be set out share by share. Ergo let’s say that you own 10000 shares paying out 10 cents of dividends each, then you will have made $1000. Also note that if a company starts to struggle financially or is concerned about the future it may stop paying out dividends to make some extra cash.
Types of Dividends:
There are only two types of dividends you’ll ever be dealing with. The two types of dividends are referred to as fixed and variable. Fixed rate dividends go to owners of preferred stock. Whereas variable rate dividends go to people who own common stock.
Important Dates:
Now when it comes to dividends there are 4 important dates to remember. These dates are as follows:
1. The Declaration Date: On this day the board of directors shall set the dividends and make shareholders aware of when they will receive payment. The board will also announce when the Ex-Dividend Date shall be.
2. Record Date: This is day that the company sets the list of shareholders who will receive dividends. You must own the stock before this date to receive a dividend.
3. Ex-Dividend Date: This date is the most important out of all the above dates. This date usually happens about 2 to 4 days before the record date. This day allows all pending transactions to be completed, considering it usually takes 3 days to settle a regular stock sale.
4.Payment Date: Everybody’s favorite day it’s the date the payments are received by the person collecting dividends. This tends to happen about 2 weeks after the record date.
Stock Splits:
This is where most people get pretty confused about the market because of fractions and other math related complications. I always found when I was in school that there was a mutual hatred for fractions amongst students. Now stock splits can seem like a blessing but there’s little evidence that supports it helps anyone at all. Here’s an explanation of a classic stock split scenario.
Let’s say for example a company is currently priced at $100 a share and that you own 100 shares of said company. So, the owner of this company now announces that there will be a 2 for 1 stock split effective immediately. Right now, you have 100 shares valued at $100 a share leaving you with $10000 worth of shares total. However, after the stock split you will have 200 shares worth $50 a share but still coming to the same grand total of $10000. The price of the stock is knocked down by the divisor of the split. 2 for 1 is the most common type of split however, there are also 3 for 1 splits, 3 for 2 splits, 1 for 2 reverse splits and so on.
Why Companies Choose to Split:
There are two major reasons for a company to decide to split their stock. The first of those reasons are good old perception. A lot of companies worry that high share prices will scare off investors especially smaller investors. Splitting the stock makes shares more affordable for people who don’t have a high level of financial freedom.
The second reason for a company to split a stock is to increase the liquidity of their stock. When a stock’s price raises into the hundreds of dollars mark, it may reduce the trading volume. Increasing the number of outstanding shares while lowering the price of said shares aids liquidity heavily. You might be wondering now ok are stock splits good or bad for investors?
How this Effects Investors:
Some people tend to say that a stock split is good news and that it means it’s time to buy this stock that it’s doing well. Personally, I don’t recommend reading too much into a stock split. Using splits as a marker for stock performance is a decent idea, but don’t cut your research short. ALWAYS look at the whole picture before investing this is real money you can lose this is a game filled with grave financial consequences if played incorrectly. However, there is one kind of stock split that may have potential danger involved with it. This warning signal is called a reverse split and can be frightening.
In a reverse split, the company reduces the number of outstanding shares and the price of said shares increases. If a company has a 1 for 2 reverse split that means you lose half your shares, but they double in price. Most of the time this is done to keep the company from falling below the minimum listing price set by the exchange it’s under. If a company can’t keep the price of their stock above the minimum listing price it is obviously a sign that something is terribly wrong.
In conclusion if you are paying your stock broker based on the number of shares you purchase it’s smart to buy them before a split. However, most brokers these days tend to charge a flat rate fee instead of by number of stocks you purchase. If you’re still being charged by the number of stock purchased there are a number of great split calendars online to view when and what stocks will be splitting soon.
Market Indexes…….
In my opinion this is where the stock market becomes complicated like trying to solve a Rubik’s cube that is locked in a safe that was tossed in the ocean kind of complicated. There are many different indexes and also different ways to use them. So first off let’s get into what an index really is. I’m sure you’ve heard of them before the big 3 are The Dow Jones Industrial Average, S&P 500, and The Nasdaq
What an index is:
An index is a tool used by investors to help them describe how the market is performing in a broad sense. Indexes are highly used numerical values that illustrate how a portfolio of stocks is performing. The Dow Jones Industrial Average tracks 30 well-known companies such as Apple, Microsoft and Visa. The S&P 500 is broader and tracks the top 500 U.S. based companies meaning it’s a far better indicator of how the economy is performing.
It’s the index number that people tend to fixate on. There are multiple ways to calculate the index number but what you need to remember is that, the numbers show a change from the base value or original number. What’s important however, is whether the index is up or down. The percent change will give an approximate estimation of how the index is performing. The index number being up is good news but when it’s down it’s bad news. Indexes are like markets but not the entire market. You can’t base how the entire market is doing just because the S&P 500 is performing well. These indexes will only represent a portion of the entire market.
The Pro’s behind Indexes:
Good information can be obtained from knowing how to read an index. For one indexes are able to show us trends and also make us aware of changes in investing patterns. Indexes provide a meter stick for us to use for comparison. It’s like an out of focus snapshot.
The Con’s behind Indexes:
Firstly, indexes have serious design flaws which make it hard to say that it really represents anything. People tend to do a thing called making mistakes which also doesn’t help. Sometimes a stock will be included into the index when it shouldn’t be. There also may be additions to the index which are also not supposed to be there. As well all it takes is one large company to have a bad day to completely rattle the index.
What can be used from indexes?
Plain and simple indexes are not the entire market no matter what the 3 big indexes say. You need to make sure to stay focused on your own stock and stock you may potentially purchase. Indexes are completely mathematical and should not be treated any differently. This is the stock market emotions have no use here. Don’t waste all of your precious time by keeping minute by minute index reports around. Indexes are also alright for spotting historical trends but do not provide enough information to make solid forecasts of the future.
So now that you have some information about indexes I think it’s important that you understand at least the big 3 indexes. The big 3 indexes are: The Dow Jones Industrial Average, S&P 500, and The Nasdaq Stock Market Composite. The big 3 indexes should serve most investors well. Make sure you understand how an index is weighed.
The Dow Jones Industrial Average:
This is the most popular, oldest, and the index that most people are aware of. At this moment in time the Dow only consists of 30 stocks. These stocks however, represent one of the most influential companies in the United States of America. This is also the only major index that is price weighed. In turn meaning that a 1$ change has the same effect on the index regardless of it’s a $20 stock or a $80. This market tends to indicate big change considering it represents about 25% of the market. Being such a high-profile index though it does not represent small or even mid-sized companies whatsoever.
The Nasdaq Stock Market Composite:
This index unlike the Dow has over 5000 stocks listed on it. Most of the stocks that are part of this index are technology based. This index does not do a great job of reflecting an image of what the market is like. However, it can give some insight on the direction that technology is heading. The Nasdaq also tends to be heavily influenced by tech giants such as Microsoft.
S&P 500:
Financial Professionals tend to look at this as a representation of the market. This is done because this index lists 500 of the most widely traded stocks and leans towards some of the world’s biggest companies. It covers approximately 70% of the markets total worth which is more money than anyone could ever dream of spending. Examining The S&P 500 will give you a much broader understanding of the market than any other index could provide. If you’re going to be using indexes in your investment research this will be your goldmine.
Now that you have a grasp on how the market and stocks work you may want to give investing a try. One thing that hasn’t been gone over is how to physically purchase a stock.
How to actually Trade aka Buy and Sell Stocks:
Trading stocks means buying or selling stocks
There are two basic forms of purchasing and selling stocks available to be used. These two ways to trade stocks include Electronically and on the exchange floor. In the past few years there has been a push to do more things electronically to make the trading floor less hectic. Although it has been met with resistance it is making head way.
On the Floor Trading Process:
First off, you’d make an order for your stock broker to process. Let’s say you’re buying 5 shares of a company. Your broker’s order section would send the order to their clerk on the floor. The floor clerk would then find another floor clerk who is looking to sell 5 shares of said company. Then the two will agree on a price and strike up the deal. It goes back up the line and your broker will contact you with a final price. A few days later and you shall receive a confirmation notice in the mail. Be aware that some trades may be more complex and take much more time. The key to this method is locating a stock broker who won’t eat up any profits you may make.
Electronically:
This method won’t have all the pretty chaos of a trading floor like you’re used to seeing in movies and on TV. This system is a much quicker and efficient method that involves using computer networks to match buyers and sellers sometimes instantly. Sadly, though you will still need a broker because you don’t have direct access to the market. However, this is personally my favorite way of trading. Several banks have fantastic trading systems and are very easy to open a brokerage account with.
Final Thoughts on Stocks:
Well you now know everything you need to start investing. So, put some money together and start trading! There is nearly an endless supply of money just waiting to be earned. Stay safe do lots of research and enjoy everything the market has to offer.
Believe, Focus and Execute.
Results for the LFA 181: Siqueira vs. Hernandez event, which occurred on April 5, 2024.