Securities and Investments

Better Business1st EditionPoatsy · Martin

© 2010 Pearson Education, Inc. 1

chapter

16

Slide presentation prepared by Pam JansonStark State College of Technology

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Learning Objectives1. What are the pros and cons of debt and equity financing?2. How do companies issue bonds and stocks?3. How do risk return relationships, risk tolerance, and asset

allocations relate to the fundamentals of investment?4. What are the different investment categories of stocks, and how

does the stock trade process work?5. What is stock performance, and what are the factors that lead to

changes in stock price?6. What are the different types and characteristics of bonds, and

how is the safety of bonds evaluated?7. What is the difference among bond mutual funds, money

market funds, and equity funds? 8. What are the advantages and disadvantages of mutual fund

investment? 9. What is an option or a futures contract?

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Raising Capital with Securities

• For large capital-intensive projects or general expansion, business owners can raise funds with securities

• They decide between bonds (debt) and stock (equity) depending on:o Corporate earnings, cash flow, and taxeso Existing bonds or stockso Environmental factors, such as the

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Financing with Bonds• Project returns should be greater than the cost

of bond financingo The rate of interest the company pays is affected

by:• Issuer risk• The length of the bond term• The general state of the economy

• Bond debt is paid back with interest annually and principal at maturation

• Bond financing advantageso Uses money from investors, not company profitso Doesn’t give up any ownership or control

• Bond financing disadvantageo Debt

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Financing with Stock

• Companies issue stock (equity) to finance long-term general funding and ongoing expansion

• Stock advantageso Equity financing doesn’t need to be repaido No interest and principal payments needed

• Disadvantageso Dilution of ownershipo Potential dividend payment

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Debt or Equity Financing

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Issuing Bonds and Stocks

• Financial advisory firm• Securities and Exchange Commission

(SEC)oProspectus

• Capital marketoPrimary marketoSecondary market

• Stockso Initial public offering (IPO)

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Risks and Returns of Investing

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How to Start Investing

• Strategieso Diversificationo Asset allocation

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Types of Stocks

• Two main typeso Common• Vote on corporate policy and board of

directors• Have a lesser right to dividends and assets

o Preferred• Have no voting rights• Receive a fixed dividend before common

stockholders• Have a greater right to assets

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Stocks by Company Type

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Choosing Stocks

• Know your goals and risk tolerance• Many start with a managed 401(k) account• If you are choosing stocks on your own

o Evaluate company financial and other datao Look at past stock performanceo Understand how current events could impact the

stocko Compare other companies’ performance to spot

trendso View industry analysts’ opinions

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Buying and Selling Stocks

• Before Internet trading, buyers had to use a full-service stockbroker

• Now individuals can use online discount brokers

• Either way, stock is purchased through the broker on a stock exchange

Selecting a Broker1. Know your objectives2. Interview brokers3. Check the firm’s history4. Ask about fees5. Ask about SIPC6. Take time

to decide

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The Stock Exchanges

• New York Stock Exchange (NYSE)o Trades made electronically or on the trading floor

• National Association of Securities Dealers Automated Quotation (NASDAQ)o Trades made electronically

only

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A Typical Stock Trade

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Changing Stock Prices• Stock prices change daily/changes

based on supply and demand• Value: Stock price x number of shares =

market capitalization• Investors look at expected future

growth

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Stock Performance• Stock performance is directly related to changes in stock price, which is impacted by

supply and demand.• Stock prices change in reaction to company actions and broader news based on economic

forecasts, industry or sector concerns, or global events.• In a bull market, there is increasing investor confidence and the market increases in value. • In a bear market, there is decreasing investor confidence and the market declines in value.

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Stock Indexes

• Standard and Poor’s 500 Composite Index (S&P 500)

• Dow Jones Industrial Average (DJIA)• NASDAQ 100

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Making Money Investing in Stocks

• Collecting dividends• Capital gains

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Types of Bonds• Corporate

o Securedo Debentureo Convertible

• Governmento Treasury bills o Treasury noteso Treasury

• Municipal bondso General obligationo Revenueo Serial

• Serial bonds• Callable bonds

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Bond Ratings

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Characteristics of a Bond

• Par (face) value• Coupon• Maturity date

• Bond prices move in the opposite direction of interest rateso If a bond has a coupon of 10 percent:

• And current interest rates are 8 percent, the bond is worth more to investors and its price will go up

• And current interest rates are 12 percent, demand for your bond is not strong and will go down

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Mutual Funds

• Allows a group of investors to pool their money together with a predetermined investment objective

• There are different types of mutual funds• Money market funds are popular

o They invest in short-term debt obligations like Treasury Bills and certificates of deposit

o Interest rates can be double savings accounts

o Money market funds are very liquido But these funds are not insured by the FDIC

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Bond Mutual Funds

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Stock Mutual Funds

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Why Are Mutual Funds So Popular?

• Good for those with little investment experience

• Featureso Diversificationo Professional managemento Liquidityo Cost

• Financial gains througho Dividendso Interesto Capital gainso Fund appreciation

• Mutual funds measured by net asset value (NAV)© 2010 Pearson Education, Inc.

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Mutual Fund Investing Tips

• Understand costso Load o No-load

• Understand fund managemento Management team

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Options and Futures

• Optiono A contract that gives a buyer the right to

buy or sell a particular security at a specific price on or before a certain date

• Futures contracto An agreement between a buyer and a seller

to receive (or deliver) an asset in the future at a specific price that is agreed upon today

• An option gives you the right to purchase the underlying asset while you have an obligation to purchase the asset with a futures contract

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Exchange-Traded Funds (ETFs)

• One of newest investment options• Pools of stocks similar to mutual

funds• Trade like stocks on the exchanges

o Prices change all day vs. at the end of the day for mutual funds

• Fees are lower

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Chapter Summary1. What are the pros and cons of debt and equity financing?2. How do companies issue bonds and stocks?3. How do risk return relationships, risk tolerance, and asset

allocations relate to the fundamentals of investment?4. What are the different investment categories of stocks, and how

does the stock trade process work?5. What is stock performance, and what are the factors that lead to

changes in stock price?6. What are the different types and characteristics of bonds, and

how is the safety of bonds evaluated?7. What is the difference among bond mutual funds, money

market funds, and equity funds? 8. What are the advantages and disadvantages of mutual fund

investment? 9. What is an option or a futures contract?

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Beyond the Book

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Typical Sources of Equity Financing

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Stock Exchanges

• In addition to NYSE and NASDAQ, there are:o The American Stock Exchangeo Regional stock exchangeso Global stock exchangeso Over-the-counter market

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Mutual Fund FeesBasic Fee Structure• Front-end load: Fees for purchase of mutual fund

shares• Back-end load: Fees charged when shares are sold• No load: Fees are withheld from earnings

Other Possible Fees• Exchange fees are charged when money

transferred from one fund to another• Annual account fees may be charged to maintain

low-balance accounts• Management fees are charged by the fund’s

investment advisor

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Institutional Investors are U.S. Corporate Stockholders

• The largest investors in securities in the U.S. aren’t individuals; rather, they are pension funds, investment companies, insurance companies, banks and foundations.

• Institutional investors have substantially and consistently increased their stock ownership in U.S. corporations

1980 1987 2000 2007

Institutional investor stock ownership in largest 1,000 U.S. corporations

- 46.6% 61.4% 76.4%

Total assets controlled by institutional investors

$2.7 trillion

- - $27.1 trillion

Market value of total institutional equity holdings

$571.2 billion

- - $12.9 trillion

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Stock Options: In General

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• Common form of employee incentive• Options to purchase a set amount of

stock at a fixed price in the futureo If the stock price drops, there’s no cost

to the employeeo If the stock price rises, the employee

buys the stock at the option price and can make a profit

Stock Options at Google

• An estimated 1,000 people each have more than $5 million worth of Google shares from stock grants and options

• Current and former employees have cashed in options worth $2.1 billion

• Current employees have unvested options of $4.1 billion

• Nooglers (new Google employees) have an average exercise price of $500o It takes a lot of money to exercise their

options!© 2010 Pearson Education, Inc.

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