Types of Investments

Investments

• Investments -Assets purchased with the goal of providing additional income to pay for long-term goals– Buying a House– Higher Education– Retirement

Saving vs. InvestingSaving: Portion of current income not spent on consumption.

Investing: Purchase of assets with the goal of increasing future income.

Emergencies Long-Term Goals

More Liquid Less Liquid

Limited Risk Higher Risk

Lower Returns (0-4%) Higher Returns (8-12%)

Financial Security Increase Net Worth (Wealth)

Why are Saving and Investing Important?

Help pay for a level of living and reach a desired standard of living

Types of Investments

• Stocks– “Blue Chip”– Common vs Preferred

• Bonds• Mutual Funds• Real Estate• Savings/Certificates of Deposit• Collectibles

Stocks

• An investment that represents ownership in a company or corporation.

“Blue Chip” Stocks

• Nickname for a stock that is:– Thought to be safe and has less ups and

downs– Well known companies with a long

record of profit growth and dividend payment

– Have a reputation for quality management• Examples: Coca-Cola, Gillette, Exxon-Mobile,

General Electric

Common vs Preferred Stock• Similarities

– Both represent ownership – Both may receive dividend payments

• Differences– Preferred stockholders are paid dividends first, on

a set schedule and higher than common stockholders, but have no voting rights

– Common stockholders are paid dividends only if the Board of Directors of the company decides to pay and there is no set schedule or payment amount

– Common stockholders vote on who will sit on the Board of Directions and help form company policy

Stock Split• When stocks go up in price this may indicate a

vote of confidence in the company and its future• If the price gets too high, it can be difficult for

new investors to buy blocks of stock• Companies may then issue 2-for-1 stock splits:

– The price of stock is split in half, but the number of shares doubles

– Example: Stock closes at $50 at the end of day but opens the next day at $25, if stockholder owned 100 shares before the split, she/he now owns 200 shares of stock at the new price

Dividend Reinvestment

• When a company declares a dividend, it takes profit that it has earned during the year and pays the funds to investors based on the number of shares they hold

• Some companies offer a “dividend reinvestment” plan– Money earned through the dividend payment is

used to purchase additional shares in the company

How Well the Stock Market is Doing

Overall

3 Basic Indicators

• Dow Jones Industrial Average (“DOW”)– Lists the 30 leading industrial blue chip stocks

• Standard and Poor’s 500 Composite Index– Covers market activity for 500 stocks– More accurate than DOW because it evaluates

a greater variety of stock

• National Association of Security Dealers Automated Quotations (“NASDAQ”)– Monitors fast moving technology companies– Speculative stocks, show dramatic ups and

downs

Ups and Downs

• The term bull market means the market is doing well because investors are optimistic about the economy and are purchasing stocks

• The term bear market means the market is doing poorly and investors are not purchasing stocks or selling stocks already owned

Purchasing Stock

Brokers

• A Broker is a person who is licensed to buy and sell stocks, provide investment advice, and collect a commission on each purchase or sale– Purchases stocks on an organized

exchange (stock market)– Over ¾ of all stocks are bought and sold

on an organized exchange

Organized Exchanges

• Minimum requirements for a stock to ensure only reputable companies are used

• Each exchange has a limited number of seats available which brokerage firms purchase to give them the legal right to buy and sell stocks on the exchange

New York Stock Exchange

• New York Stock Exchange (NYSE)– Oldest and largest, began in 1792– 1,366 seats available– 2,800 companies– Average stock price is $33.00– Strict requirements

American Stock Exchange

• American Stock Exchange– Began in 1849– 2nd largest exchange– It’s requirements are not as strict as

NYSE allowing younger, smaller companies to list

– Average stock price is $24.00

Regional Stock Exchanges

• Regional Stock Exchanges– Stocks are traded to investors living in a

specific geographical area• Including Boston, Cincinnati, Philadelphia,

Spokane

NASDAQ

• National Association of Securities Dealers Automated Quotations– Stocks are traded in an over the counter

electronic market– 4,000 small companies

• Company requirements are not as strict

– More volatile because companies are young and new

– Average stock price is $11.00

Bonds

• A security representing a loan of money from a lender to a borrower for a set time period, which pays a fixed rate of interest

• Corporations issue bonds to raise money for expansion or other company operations

• Local governments issue Municipal bonds to raise money to build roads, bridges and other construction projects– If you bought a Microsoft bond, you would be

lending money to Microsoft to expand the company or for new research and development

U.S. Savings Bonds

• A federally issued debt instrument that you can purchase directly from the Treasury or banks

• Savings bonds are conservative instrument on which you can earn interest for up to 30 years– EE bonds cost 50% of face value – Interest earned on EE bonds are exempt from

state and local taxes

Treasury Bills• Nicknamed “T-Bill”

– Short-term debt obligation backed by the U.S. government with a maturity of less than one year

– Common maturities of:• 1 month (Four weeks)• 3 months (13 weeks)• 6 months (26 weeks)

– Sold in denominations of $1,000 up to a maximum purchase of $5 million

• Considered to be a secure, low-risk investment

Mutual Funds

• An investment that pools money from several investors to buy a wide range of different investment instrument, providing diversification

Retirement

• Individual Retirement Accounts– Traditional:

• Can deposit up to $5500 per year pre-tax dollars if under age of 50

• Can lower your taxable income thus lowering the amount taxes payable to government

• Doesn’t require that you pay taxes on your gains until start withdrawals after 59 ½ years

• Can be penalized for early withdrawals• Mandatory withdrawals at 70 ½ years and no

further contributions

Retirement– Roth IRA

• Can deposit up to $5500 per year after taxes• Will not lower taxable income• Can withdraw funds at any time without taxes

or penalty if Roth is held at least 5 years or 59 ½ years

• Can use up to $10,000 to purchase first home for yourself or family member or pay for higher-education costs for yourself or family member

• No mandatory withdrawals and can continue depositing after the age of 70 ½ years

Retirement• 401(k)

– Employer sponsored retirement plan offered to employees of public or private for-profit companies

– Money is deducted from paycheck before taxes which lowers taxable income

– Maximum contribution of $17,500 if under the age of 50

– Employers may or may not contribute additional funds

– Penalty for early withdrawal– Taxes paid at the time of withdrawal

Retirement

• 403(b)– Employer sponsored retirement savings

plan offered to employees of tax-exempt or non-profit organizations

– Money is deducted from paycheck before taxes which lowers taxable income but must pay Social Security and Medicare

– Money taxed when withdrawn– Penalty for early withdrawal

Real Estate

• An investor buys pieces of property, such as land or a building, in hopes of generating a profit

• Investor may buy apartments for rental income:– Careful: Profits may be lower than

expected if units go un-rented!

Savings/Certificates of Deposits

• A deposit that earns a fixed interest rate for a specified length of time.– The longer the time period the

greater the rate of return.– There is a substantial penalty for

early withdrawal.

Collectibles• Unique items that are relatively rare

or highly valued.– Art work– Baseball trading cards– Coins– Automobiles– Antiques– Gems– Comic books– Rare books– Stamps

Risk vs. Return

• On average, stocks have a high rate of return– The increase or decrease in the original

purchase price of an investment

• Higher rate of return = greater risk– Uncertainty about the outcome of an

investment

• Stocks provide portfolio diversification– Money invested in a variety of investment tools

Short-term Investment Strategies

• Buying on margin is where an investor borrows part of the money needed to invest in a stock from a brokerage firm– There is a 50% margin requirement. – If you want to purchase $2,000 worth

of stock you can borrow up to $1,000 to make the purchase

Short-term Investment Strategies

• Short selling is where an investor sells shares of stock that they don’t own with the intent to buy them back later at a lower price.– Let’s use rollerblades as an example.

• Your friend buys new rollerblades for $80.

• You borrow them and sell them for $80.

• The price at the stores has been lowered to $45.

• You buy a new pair for $45 and give them to your friend.

• You made $35!!!

Long-term Investment Strategies

• Diversification is spreading your assets among different types of investments to reduce risk.– Don’t put all your eggs in one basket.

Long-term Investment Strategies

• Dollar Cost Averaging is buying an equal amount of the same stock at equal intervals.– Invest $100 in e-bay every month.

The price you pay for the stock averages out over time.

Dollar Cost Averaging

AmountAmountInvestedInvested

Share Price ($)

SharesPurchased

$1,000.00 $20.00 50.00

AmountAmountInvestedInvested

Share Price ($)

SharesPurchased

$100.00 $20.00 5.00

$100.00

$100.00

$100.00

$100.00

$100.00

$100.00

$100.00

$100.00

$19.50

$19.25

$19.75

$19.20

$18.90

$18.00

$18.60

$19.78

5.13

5.19

5.06

5.21

5.29

5.56

5.38

5.06

$1,000.00$1,000.00 $20.00$20.00 50.0050.00 $19.39*$19.39* 51.6651.66

$100.00 $20.90 4.78

One-Time Investment Dollar-Cost Averaging

$1,000.00$1,000.00

* Average Share Price* Average Share Price

Long-term Investment Strategies

• Buy and hold technique is where an investor buys stock and holds on to it for a number of years.– During that time you are paid

dividends and the price of the stock may go up.

How Can Government Regulations Protect

Investors?• Regulatory Pyramid

– A network of safeguards that surrounds the securities industry - from individual brokerages all the way up to the U.S. Congress

– Companies/corporations must register with SEC (Securities and Exchange Commission) before it can issue stock or bonds

Regulatory Pyramid

www.nyse.com

Sources of Investment Information

• Prospectus– A formal written offer to sell securities that

sets forth a plan for a proposed business enterprise. A prospectus should contain the facts that an investor needs to make an informed decision.

• IPO (Initial Public Offering)– First time a company publicly sells shares

of its stock on the open market.– Also known as “going public.”

Sources of Investment Information

• Annual Report– A document detailing the business

activity of a company over the previous year, and containing an income statement, cash flow statement, and balance sheet.

Sources of Investment Information

• Financial publications– Wall Street Journal– Fortune– Kiplingers Personal Finance

• Online information– http://finance.yahoo.com– http://moneycentral.msn.com

How Do You Buy and Sell Investments?

• Full-service broker– Commissions are typically bases on a

percentage of your purchase price

• Discount broker– Between $10 and $10 for a trade of

1,000 shares or less (About 1/3 price of broker)

• Online broker– $9 to $15 a trade

• Investment advisors

Capital Gain/Loss• Capital Gain is the profit that results from

the sale of stocks, bonds or real estate, where the sale price is more than the original purchase price

• Capital Loss is the loss that results from the sale of stocks, bonds or real estate, where the sale price is less than the original purchase price

Sale Price – Purchase Price = Capital Gain or Capital Loss

WATCH OUT!

• If companies plan to merge stock prices may be unpredictable

• If a company causes a disaster such as an oil spill, the stock price may decrease