Investments - Mba 825 - Chapter 3

Front 1

Pros and Cons of Using the Internet as an Investment Tool

Back 1

- Exercise same cautions as regular investing

- Remember: there is no live broker to act as a “safety net”

- Be skeptical of “free” advice online

- Know what you are buying and from whom
- Watch out for frequent trading
*High transaction costs
*Higher taxes on short-term gains

- Beware of the risks of margin trading

Front 2

Types of Investment Information

Back 2

- Descriptive Information – factual data on past behavior of economy, market, industry company or given investment

- Analytical Information – available current data in conjunction with projections and recommendations about potential investments

- Economic and current events
- Industry and company information
- Information on alternative investments

- Price information

- Information on personal investment strategies

Front 3

Protect Yourself by Asking Three Key Questions:

Back 3

- Is the investment registered?

- Is the person licensed and law-abiding?

- Does the investment sound too good to be true?

Front 4

Understanding Market Averages and Indexes

Back 4

- Reasons to use market averages and indexes
*Gauge general market conditions
*Compare your portfolio performance to large, diversified portfolio
*Study market cycles, trends and behaviors to forecast future market behavior

Stock market averages and indexes measure the general behavior of stock prices over time
*Averages reflect the arithmetic average price behavior at a given point in time
*Indexes measure the current price behavior relative to a base value set at an earlier point in time

Dow Jones Industrial Average
* Most popular average
* Comprised of 30 high quality, diversified stocks
* Tracks overall market activity
* Stock makeup can change to better reflect the broader stock market

- Dow Jones Transportation Average

- Dow Jones Utilities Average
Comprised of 15 public utility stocks

- Standard & Poor’s 500 Composite Index
Comprised of 500 stocks from major industry sectors
More broad-based and representative of overall market than DJIA
True index calculated from 1941–1943 base period closing market values
Standard & Poor’s provide seven other indexes for tracking specific industry sectors

- NYSE Composite Index
Includes all stocks listed in NYSE

- AMEX Composite Index
Includes all stocks listed on the NYSE Amex

- Nasdaq Composite Index
*Includes all stocks traded on the Nasdaq stock market
*Often used to track technology companies’ behavior due to large technology companies listed with Nasdaq

- Value Line Composite Index
Includes all stocks tracked by Value Line
Uses equal weighting to eliminate the bias of stocks with large total market values

- Wilshire 5000 Index
Includes 5,000 stocks traded on the major exchanges

- Russell 1000 Index
Includes 1,000 largest companies

- Russell 2000 Index
Includes 2,000 small companies

- Europe/Australia/Far East (EAFE MSCI)
Tracks stocks trade on foreign exchanges

Front 5

Bond Market Indicators

Back 5

- Bond Yields
Total return on bond purchased at current price and held to maturity
Interest +/– changes in bond value
Reported as annual rate of return

- Dow Jones Corporate Bond Index
Calculated for utility bonds, industrial bonds and a composite bond average

Front 6

Role of Stockbrokers

Back 6

- Stockbrokers
Act as intermediaries between buyers and sellers of securities
*Typically paid by commissions
*Must be licensed by SEC and securities exchanges where they place orders
*Client places order, stockbroker sends order to brokerage firms, who executes order on the exchanges where firm owns seats

- Brokerage Services
*Primary service is to executive clients’ purchase and sale transactions at the best possible price
*Client’s security certificates often held in street name
*Street name: stock certificates issued in brokerage firm’s name, but held in trust for the client who actually owns them
*Research information is often provided on specific stocks or economic conditions
*Statements showing detailed account transactions are provided

Front 7

Types of Brokerage Firms

Back 7

- Full-Service Broker
*Offers broad range of services and products
*Provides research and investment advice
*Examples: Merrill Lynch, A.G. Edwards

- Premium Discount Broker
*Low commissions
*Limited research or investment advice
*Examples: Charles Schwab

- Basic Discount Brokers
*Main focus is executing trades electronically online
*No research or investment advice
*Commissions are at deep-discount

Front 8

Types of Brokerage Accounts

Back 8

- Custodial Account: brokerage account for a minor that requires parent or guardian to handle transactions

- Cash Account: brokerage account that can only make cash transactions

- Margin Account: brokerage account in which the brokerage firms extends borrowing privileges

- Wrap Account: account that shifts investment decisions to a professional money manager and charges a flat annual fee

Front 9

Basic Types of Orders

Back 9

- Odd-lot Orders
*Orders for less than 100 shares of stock
*Round-lot Orders
*Orders for a 100-share unit or multiples thereof

- Market Orders
*Orders to buy or sell stock at best price available when order is placed
*Fastest way to fill order

- Limit Orders
*Order to buy at or below a specified price or to sell at or above a specified price
*If price limits are not met, order is not filled

- Fill-or-Kill Orders
*Limit orders which is canceled if not filled immediately

- Day Orders
*Limit orders that expires at end of the day if not filled

- Good-’til-Canceled (GTC) Orders
*Limit orders that remains in effect for six months unless filled, canceled, or renewed

- Stop-Loss (Stop) Orders
*Typically used to protect investors from stock price declines
*“Suspended” order is placed to sell a stock if price reaches or falls below a specified level
*Orders can be day orders or GTC orders
*Once activated, becomes a market order
*Can also use stop orders to buy stocks, such as to limit risk on short sales

- Stop-Limit Orders
*Orders to sell stock at or better than specified price
*Prevents sales at undesirable price
*No sale may occur if prices continues to decline

Front 10

Day Trader

Back 10

- an investor who buys and sells stocks quickly throughout the day in hopes of making quick profits

- Highly risky, especially if used with margin trading

- High brokerage commissions due to frequent trading

Front 11

Trading Considerations

Back 11

- Transaction Costs
*Fixed commissions used on small trades
*Negotiated commissions may be used on large trades

- Securities Investor Protection Corporation (SIPC)
*Protects against broker financial failure
*Limits up to $500,000 for securities and $100,000 for cash
*Does not guarantee against churning or bad broker advice

- Mediation
*Informal, voluntary dispute resolution process between a customer and a broker
*Nonbinding if parties cannot agree

- Arbitration
*Formal dispute resolution process that requires customer and broker to present arguments before a panel
*Binding arbitration requires customer to accept arbitration panel’s decisions and give up right to sue broker

Front 12

Using an Investment Advisor

Back 12

- Advisors are required to be registered with SEC
*No law or regulatory body guarantees competence

- Look for advisors with experience

- Look for advisors with professional designations
*Chartered Financial Analyst (CFA)
*Certified Investment Management Analyst (CIMA)
*Chartered Investment Counselor (CIC)
*Certified Financial Planner (CFP)
*Chartered Financial Consultant (ChFC)
*Chartered Life Underwriter (CLU)
*Certified Public Accountant (CPA)

Front 13

Paying an Investment Advisor

Back 13

- Typical professional investment advice fees
*Small portfolios: annual fees between 2% and 3% of funds under management
*Large portfolios: annual fees between 0.25% and 0.75% of funds under management

- Check the track record and reputation of advisor

- Expect lots of questions from good advisor to assess your investing expertise