February 21st, 2012
Learn The Stock Market Lesson - Stocks VS. Bonds! Which one should YOU choose?
Stocks are equity investments. What does equity mean? Equity is a term that simply means ownership or having a stake in something. Therefore, this would mean that one share of a stock would give you ownership in the corporation that issued that stock. You now own a percentage of that company.
Bonds, also known as fixed income investments or debt securities, are a form of debt in which an investor loans money to an entity, such as corporate or governmental. A bond is like an “IOU” (I owe you) from the issuer (borrower) to the bondholder (lender), which indicates that the issuer will repay the bondholder over time for the loan, with a fixed interest rate. Unlike stocks, bonds are not only issued by corporations, as they are also issued by the federal government, state government, and municipal government. In summary, bonds allow people to invest their money as a loan to an entity in return for a stable rate of interest. The main categories of bonds are corporate bonds, municipal bonds (which are issued by cities), and U.S. Treasury bonds, notes and bills. Simply think of bonds as loans.
Another difference between stocks and bonds is that the owner of a corporate bond is among the first to receive any assets (their investment) from the dissolution of a company, should the company go bankrupt. In this sense, bonds are safer investments than stocks, particularly common stocks (as mentioned in my previous blog that common stock holders have last priority). Meanwhile, this also means that bonds do not receive a share in the wealth generated by a fast-growing company. Safer investments mean less risk, which means their potential of receiving high profits are lower compared to investments that are riskier. In other words, investments with higher risk have the potential for greater rewards. Why else would anyone take on risky investments, right?
So, now that you know the differences, which one should YOU choose? This is where the issue of risk VS. reward comes into battle. Do you to be a bondholder and have a better chance of getting a piece of your investment back if a company goes bankrupt? (Common stockholders usually lose their entire investment after the company pays back all their creditors, which includes bondholders and preferred stockholders.) OR are you willing to take on that risk in hopes of receiving high profits and nice rewards?
Tags: bonds, bonds vs. stocks, common stocks, equity, greater profit, high risk, municipal bond, stock market, treasury bonds
Posted in Learn The Stock Market | Comments Off
February 20th, 2012
Learn the Stock Market Lesson — What is Fundamental Analysis?
Fundamental analysis is the study of economic forces that cause prices to move higher, lower, or stay the same. This method is different from technical analysis, which concentrates on the study of market action. In other words, fundamentalists study the causes of market movement, while technicians study the effect. However, both help you determine the direction that prices are likely to move and it is recommended that you study both methods.
The main idea of fundamental analysis is to find out the company’s intrinsic value by studying qualitative and quantitative factors. Quantitative factors are numerical and can be measured. Such factors include a company’s financial statements. As a fundamentalist, you need to know the company’s expenses, revenues, assets, and liabilities. Questions to keep in mind when studying fundamental analysis are:
-Is the company actually making profit?
-Are the company’s sales increasing?
-Is the company’s revenue growing?
-How much does the company own in debt?
-Are they able to repay its debt?
This means you should be spending a lot of time studying the company’s balance sheets, income statements, and cash flow statements to gain insight on the company’s future performance.
Qualitative factors are based on the quality of the company that are impossible to quantify, such as its quality of management. Other factors to consider are its organization, competition, and regulation (certain regulations might limit potential profits).
How does fundamental analysis compare to technical analysis? Which method should you use?
Many traders believe that technical analysis is a more effective approach because, by definition, the technical approach includes the fundamental. Technicians believe that anything affecting the price, such as fundamentally or psychologically, will be reflected on charts. Thus, they believe that the study of fundamental becomes unnecessary. However, the reverse is not true.
Again, this is not as to say that technical analysis is better than fundamental analysis, or vice versa. Keep in mind that there are times when there are conflicts between the charts and fundamentals, causing discrepancies. Some traders choose to use only one approach and if you don’t want to use both approaches, make sure you try both of them first and find out the one that works better for you.
Tags: asset, balance sheets, cash flow statements, expenses, financial statements, fundamental analysis, fundamentalist, income statements, liabilities, qualitative quantitative factors fundamental analysis, revenue, Technical Analysis, technician, the stock market
Posted in Learn The Stock Market | 1 Comment »
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February 16th, 2012
Moody’s Investors Services, one of the big three credit rating agencies, is currently reviewing 17 global and 114 European financial institutions, signaling a warning that they might cut their ratings because of their inherent risk. The credit ratings of banks such as UBS AG, Credit Suisse Group AG, and Morgan Stanley may be downgraded by as many as three levels. Other banks, such as Goldman Sachs Group Inc., Deutsche Bank AG, Credit Agricole, Barclays, BNP Paribas, HSBC Holdings, JPMorgan Chase & Co. and Citigroup Inc. may be cut by two levels. Bank of America, Nomura Holdings Inc., and Royal Bank of Scotland, may be lowered by one grade. This is another sign of the impact of the eurozone government debt crisis on our global financial system.
Moody’s argue that capital markets activities create “complex, highly leveraged” balance sheets that are “typically laden with opaque risk exposures that can change rapidly.” Since attempts to manage risk can’t be measured, it’s hard to known how a bank is doing.
It hasn’t actually downgraded any rating yet. Exactly what is the impact of the potential? If the credit ratings of these banks get downgraded, it may raise borrowing costs and force banks to increase collateral. It is already hard for banks to raise capital today. With the increased regulation, the profitability and growth prospects of banks have weakened. The downgrade would just make raising capital even more expensive and difficult. However, similar to the response in August when Standard & Poor’s downgraded the United States from its AAA status, the threat of downgrades has not prevented investors from buying financial debt.
Tags: credit rating downgrade, debt of the usa, moody's, moody's rating, ratings agencies, s&p rating
Posted in News Analysis | Comments Off
February 14th, 2012
Learn The Stock Market Lesson – Futures Trading – What are Futures?
Futures are not “direct” securities like stocks or bonds. They are examples of derivatives. Dr. Alexander Elder wrote in his second book, “Come Into My Trading Room,” that nine out of ten traders go bust in their first year. Futures offer traders some of the best rewards, but of course, with high risk to them. Like options, beginners tend to avoid futures because of its risk. Although futures might look dangerous at first, the actual danger lies within the people who trade them. As Elder states, “futures do not kill traders—poor money management kills traders.”
When you buy a stock, you own a part of the company. With futures, you do not own anything, but rather you enter into a contract for a future purchase of merchandise. These contracts deliver a specific quantity of a commodity by a certain date.
What is the difference between a futures contract and an options contract?
A futures contract is binding on both buyer and seller as opposed to options, where the buyer has the right but is not obligated to take delivery.
In futures, if the market goes against you, you have to keep adding money to your margin or get out of your trade at a loss. In order to exit the commitment before the futures contract’s delivery date, the holder of a futures position has to offset his/her position by either selling a long position or buying back a short position. This would close out the futures position and its contract obligations.
Like options, there are two main reasons why investors use futures: to speculate and to hedge (reduce risk).
Keep in mind that the main difference between futures and options is that an option grants the trader the right, not the obligation to fulfill the contract, whereas both traders of a futures contract must fulfill contract by the delivery date.
Tags: alexander elder, bonds, come into my trading room, derivative security, derivatives, difference between options and futures, direct securites, dr. alexander elder, futures contracts, futures market, futures trader, hedge, option contracts, option traders, options market, reduce risk, sepculate, stocks, what are futures
Posted in Learn The Stock Market | Comments Off
February 14th, 2012
Financial assets are claims on real assets or claims on the income generated by real assets. Real assets are assets used to produce goods and services, such as property, plant, and equipment. Examples of financial assets include stocks and bonds. Financial assets are no more than pieces of paper and a means where individuals hold their claims on real assets.
To understand what financial assets are, we must first distinguish among three types: debt, equity, and derivatives. Debt securities, also known as fixed-income, promise either a fixed stream of income or a stream of income determined by a specific formula, unless the borrower is declared bankrupt. The performance of debt securities is closely related to the financial condition of the issuer.
Debt securities come in a variety of maturities. Money market instruments are debt securities that are short term and generally less risky. Money market securities include U.S. Treasury bills, bank certificates of deposit (CDs), and commercial paper. On the other hand, the fixed-income capital market includes long-term securities, which range from low risk bonds to risky, high yield or junk bonds. Examples of capital market instruments include Treasury bonds (relatively risky), municipal bonds, and corporate bonds.
Unlike debt securities, equity, or common stock, in a firm represents an ownership share in the corporation. Stockholders have a residual claim, meaning they have a claim on anything after everyone else has been paid. In fact, they are not promised any particular payment. However, they may receive dividends if a company has decided to issue them. If the company is successful, the firm’s equity will increase. If the company does poorly, the firm’s equity will decrease. Thus, the performance of our equity investments is tied to the success of the firm and its real assets. Due to this reason, equities tend to be riskier investments than debt securities.
Lastly, derivative securities are determined by the prices of other assets, such as the prices of bonds or stocks. Examples of derivatives include options, futures, and swap contracts. Derivatives are simply bets, where their value is derived from the prices of other assets. For example, the value of an IBM call option will depend on the price of IBM’s stock. The primary use of derivatives is to hedge risks or transfer them to other parties. Derivatives are also used to take highly speculative positions.
Tags: bonds, capital market, debt securities, derivatives, financial assets, fixed income, futures, money market instruments, options, real assets, stocks, swap contracts
Posted in General Business Education, Learn The Stock Market | Comments Off
February 10th, 2012
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Posted in Daily Stock Picks | Comments Off
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