1. Rates of return, time to doubleo Mutual fund returnso Holding period return = total return/beginning priceo HPR with reinvested dividends and capital gains = [(number of shares at the end of the period*ending price)-(number of shares beginning of period*initial price)] / (number of shares beginning period*initial price)o Measuring long term returns use internal rate of return p300o Returns on closed end funds used to be calculated with NAV, but now use market price to include discount/premium Substitute market value of stock for NAV in the HPR formula NAV measures are thought to be a better measure of how the fund is run (can’t control supply/demand)o Rule of 72: 72/ interest rate will approximately give you the time it would take an investment to doubleo Mutual fund risko More speculation leads to more change in NAV if downturno Affected by market risk, not business or financial risko All subject to inflation, interest rate, and market risks, but if the fund is conservative the risk is lower. o EPS = (net profit after tax – preferred dividends) / number of common stock shares outstanding2. Dividend yield compared to other investments• Dividends are expected to increase 3-5% per year. • Increasing streams of dividend s shores up stock returns in soft markets• Annual dividend received per share/current stock market price• Reinvestment plans availableo Dividends will automatically be reinvested in the shares of common stock (if it’s good enough to invest in, it’s good enough to reinvest in).o Convenient and inexpensive way to get capital (sometimes below market price)o Many times, you can buy more than what the dividend allows free of commissiono Still treated as taxable income though, the same as it would be if it wasn’t reinvested3. Common place aspects to stocks• Stockholders are residual owners in the company• Get capitals gains and/or dividendso Returns from capital gains vary much more than returns from dividendso Generally, positive returns over timeo Investing does include risk (2000-2008 had negative capital gain).• Advantageso High grade corporate bonds earned annual returns half as big as return on common stocko They avoid inflationo Liquid: easy to buy and sell with low transaction costso Can buy any amount (many are only $50), where bonds are expensive and mutual funds may have minimums.• Disadvantageso Risk: business and financial risk, market risk, purchasing power, and event risk.o Prices are volatile, so hard to value and buy top performerso Sacrifice in current income (bonds pay coupons).• Publicly traded issues: shares that are readily available to general public and bought and sold in the open marketo In 2008, the value of stocks was $12 trillion.• Classified common stocko Different people will get different rights (voting rights or dividend obligations)o Ford class A: owned by the publico Ford class B: Owned by Ford family. Class B gets 40% absolute control over the company.4. Rights offering• Two ways to issue new shareso Rights offering: new shares go to existing shareholders first. If I own 1%, I will be allowed to buy 1% of the new shares being issued. You can also sell your rightso Public offering: IPO available to all public5. Round lot (retail)• 100 shares of stock or multiples of 100• Odd lot: less than 100 shares boughto Odd lot dealer: charges high fees Odd lot differential: normal commission charge (10-25 cents per share)6. Par, book, market values• Par value: stated (face value) of the stocko Only really used for accounting purposes• Book Value: Represents the amount of stockholders equity in the firm.o Assets - (liabilities + preferred stock)o Book value per share: divide book value by common stock outstandingo Market price normally above book value per share• Market Value: prevailing market price of an issueo Market capitalization: (market value of stock)*(number of shares outstanding)• Investment value: What investors think the stock should be trading for.o Most important in analyzing stock. 7. Calculate dividend yield• Annual dividend received per share/current stock market price8. Processes of securities analysis• Security analysis consists of gathering information, organizing it into a logical framework, and then using it to determine common stock’s intrinsic value.o Intrinsic Value Estimates of stock’s future cash flows Discount rate used to convert to present value Risk associated with the future performance (helps to determine discount rate)• Satisfactory candidate offers a level of return proportionate to the level of risk9. Fundamental/technical analysis• Fundamental analysiso The top-down approach Economic analysis, then industry analysis, then fundamental analysis of a specificcompany in that industry• Fundamentals: investment decisions, liquidity, use of debt, profit margin, and earnings growth.• Fundamental analysis reasonable if not all market values reflect their stock’s intrinsic values and if investors can find those undervalued stocks. If the intrinsic value is greater than the market value, then buy the stock. If not, then sell the stock (or don’t buy it). • If the intrinsic value is greater than the market value, it is believed that the stock is underpriced in the market Company analysis helps to estimate a stock’s future cash flows.o Basically, try to figure out what you believe a company to be worth, and if it’s worth more than the stock is selling at, you can receive a gain. Gordon growth model is used• Technical analysiso Efficient market hypothesis Securities are rarely, if ever, substantially mispriced because the market is efficient in processing new information.• Therefore, no security analysis is capable of identifying mispriced securities more often than random chance can. If this is so, is security analysis a waste of time?• Financial analysts make the market as efficient as it is. Stocks trade at the proper intrinsic value because there are analysts who convey what that value actually is. • The stock market isn’t perfectly efficient. There are errors, and therefore some stocks in the market (for a short period of time) will not be trading at their intrinsic values. It’s hard to be the first investor to find that stock.o Because some investors believe the market to be efficient, analysts look at a company’s past performance. People tend to have the same behavior over time, so
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