Definition of a
Stock:In plain and simple, stock is share in the ownership of a
company. Stock represents a claim on the company's assets and
earnings. As you acquire more stock, your ownership stake in the
company becomes greater. Whether you say shares, equity or stock, it
all means the same thing.
Why does a
company issue stock? A company could keep the profits and
earnings to the owner's of the company. It is only possible if a
company does not extend its market share and stays in minimum
profits limit. In order to extend market share or be market leader
or get bigger asset, at some point every company needs to raise
money. To do so, companies can either borrow it from somebody or
raise it by selling part of the company, which is known as issuing
stock. A company can borrow by taking a loan from a bank or by
issuing bonds and both methods are called debt financing. Conversely
issuing stock in the market is called equity financing. The
advantages in issuing stock is a company does not require to pay
back the loan or interest payments along the way. No chances
involving into debt and creating obstacle in expanding market share
or adapting the advancement. However, it only leaves shareholder on
hope the company will achieve its target profit and earning per
share which leads the capital gains on holding a stock. If the trend
shows negative growth shareholder can sell instantly without having
big loss. The first sale of stock by a company is called the initial
public offering (IPO).
Involvement in a Stock: this is a very important factor
believing in Risk when you want to invest in the stock market. There
is no guarantee what percentage you can get capital gain, where and
when the stock price stops in up-end or low-end and how long it
takes to get the profits. It is true, no company or institute can
guarantee. However, you can measure the risk various ways. That's
why, it is essential to do some "Home Work" on a company before you
invest. The "Home work" should be calculating earning per share,
total debt, relative price strength, profit margins, volumes,
industry leader and so on. You can also reducing the risk by
diversifying the portfolios ( selecting stocks from different
industries) and measuring the correlation between a stock and market
index. A less risk taker has options to invest in Bond ( fixed
returns) or a company who provides dividends at the end of year.
However, investors need to measure "expected rate of returns" first,
and it should be high enough to compensate the investors for the
perceived risk of the investment. Risk is contrary to the positive
profit, but there is also bright side. Taking-on greater risk
demands a greater return on the investment. This is the reason why
stocks have historically outperformed other investments such as
bonds or savings accounts.
How Stocks Trade: most stocks are traded on exchange, which
are places where buyers and sellers meet and decide on a price. Some
exchange are physical locations where transactions are carried out
on a trading floor. Two trading floor are located in Bangladesh, DSE
which is located in Dhaka, CSE is located in Chittagong. Chittagong
stock exchange is expanded to compose of a network of computers
where trades can be made electronically. We should distinguish
between the "primary" and "secondary" market. The primary market is
the first phase of stock where securities created before trading at
the floor which is called IPO. In the secondary market, investors
trade previously issued securities without the involvement of the
issuing companies. The secondary market is what people are referring
to when they talk about "the stock market."
prices to change: stock prices change everyday by market forces.
By this we mean that share prices change because of supply and
demand. Any single time, if more people want to buy a stock (demand)
than sell it (supply), then the price moves up. Conversely, if more
people want to sell a stock than buy it, which is a greater supply
than demand, then the price falls.
supply and demand is pretty much easy. What is difficult to
comprehend is what makes people like a particular stock and dislike
another stock. This comes down to figuring out what news is positive
for a company and what news is negative. There are many answers to
this problem and just about any investor you ask has their own ideas
That being said, the principal theory is that the price movement of
a stock indicates what investors feel a company is worth. The
company's value is different than its stock price. The value of a
company is its market capitalization, which is the stock price
multiplied by the number of shares outstanding. For example, a
company that trades at $100 per share and has 1,000,000 shares
outstanding ($100 x 1,000,000 = $100,000,000)has a lesser value than
a company that trades at $50 but has 5,000,000 shares outstanding
($50 x 5,000,000 = $250,000,000). To further complicate things, the
price of a stock doesn't only reflect a company's current value--it
also reflects the growth that investors expect in the future.
The most important factor that affects the value of a company is
its earnings. Earnings are the profit a company makes, and in
the long run no company can survive without them. It makes sense
when you think about it. If a company never makes money, they aren't
going to stay in business. Public companies are required to report
their earnings four times a year. Many analysts forecast earning per
share four times a year. If a company's results surprise (are better
than expected), the price jumps up. If a company's results
disappoint (are worse than expected), then the price will fall.
Of course, it's not just earnings that can change the sentiment
towards a stock price. It would be a rather simple world if this
were the case! During the dot-com bubble, for example, dozens of
Internet companies rose to have market capitalizations in the
billions of dollars without ever making even the smallest profit. As
we all know, these valuations did not hold, In fact they are
corrected by market value. There are factors other than current
earnings that influence stocks. Investors have developed literally
hundreds of these variables, ratios and indicators.
So, why do stock prices change? The best answer is that
nobody really knows for sure. Some believe that it isn't possible to
predict how stocks will change in price while others think that by
drawing charts and looking at past price movements, you can
determine when to buy and sell. The only thing we do know as a
certainty is that stocks are volatile and can change in price
The important things to grasp about this subject are the
1. At the most fundamental level, supply and demand in the market
determine stock price.
2. Price times the number of shares outstanding (market
capitalization) is the value of a company. Who is the market leader
in terms of growth and has most relative strength and profit margin.
3. Theoretically earnings are what affect investors' valuation of a
company, but there are other indicators that investors use to
predict stock price. Remember, it is investors' sentiments,
attitudes, and expectations that ultimately affect stock prices.
4. There are many theories that try to explain the way stock prices
move the way they do. Unfortunately, there is no one theory that can
The Bulls, the
Bears, and the Farm: On Wall Street, the bulls and bears are in
a constant struggle. If you haven't heard of these terms already,
you undoubtedly will as you begin invest. The Bulls: a bull market
is when everything in the economy is great, people are finding jobs,
GDP is growing and stocks are rising. Things are just plain rosy,
picking stocks during a bull market is easier because everything is
going up. Bull markets can't last forever though, and sometimes they
can lead to dangerous situations if stocks become overvalued. If a
person is optimistic, believing that stocks will go up, he or she is
called a bull and said to have a bullish outlook. The Bears: a bear
market is when the economy is bad, recession is looming, and stock
prices are falling.
best way to invest in dividend stocks is the buy-and-hold strategy.
That means you buy a dividend paying stock and hold it until you
find another company paying higher-yield dividend for enough period
of time. Basically you will have fixed income as dividends in
addition to stock price gain or loss.
What you should consider to own a dividend stock forever, you want
three things from that stock:
1. High yield dividends.
2. Continued payment history.
3. Payout ratio follows less than 70% on Net-income.
Dividend payments: when a company declares dividend usually quoted
either as a Dollar/Taka amount or as a percentage. The Dollar/Taka
amount is how much you will get paid per year on each share of stock
you own. The percentage is calculated as the dollar/taka amount on
each stock own divided by the current per stock price times 100 that
is called dividend yield.
Yield explained: by looking at the percentage you can easily compare
better investments strategy and grasp which stock will pay you most
on your amount of investment. You will learn why dividends yield is
crucial factor of choosing dividend paying stocks.
For example: if you purchase 100 shares of stock at $10 per share,
you will have invested a total of $1,000 (100 shares X $10 per share
= $1,000 invested)
How much you will get on every share of stock you own?
Letís say a company is paying 8% dividend yield, so there will be
$80 earnings on your investment of $1,000 (1,000 invested X 8% =
$80) $80 dividends per year.
This means that this stock pays you $.80 for every shares of stock
you own (earnings $80/100 shares). Now, if another stock also paying
$.80 per share, but the stock price of that stock is $20 per share.
In your $1,000 investment you will have 50 shares a price of $20 per
share. On your $1000 investment, on this second company you will
earn ($.80 X 50) $40 every year.
Letís calculate the yield of second stock, it pays $.80 per share,
and its share price is $20. So, the yield is (.80X100/20) 4%. Your
plan is to get highest return on a fixed of $1,000 investment,
keeping this strategy well-planned you can see that you get 100
shares on a first stock and 50 shares on a second stock, but both
pay you exactly $.80 per share you own. In this scenario, you can
comprehend which stock will pay more earnings with the $1,000
investments because of highest yield with same amount of payment per
Only your yield matters: note that the only thing matter is the
yield for the price that you bought at. Even if the price of the
stock goes up or down after you have bought it. You will earn same
amount of money because you still own the same number of shares.
So, the key is to
compare their yields.
Trend of continued payment: your only concern is to minimize
the risk on every penny you investment. Then you research high-yield
paying dividend stocks those companies have record of paying
dividends for at least 4/5 years. History of dividends payment in
the past for years most likely will continue to pay in coming years.
Owning a share of stock is the same as owning a piece of a company.
The dividends are paid out of what a company earns in Net-income and
have savings. If a company does not have growth in net-income or
enough cash savings in balance-sheet how long will a company
continue to pay dividends? So, it is important that a company is
able to pay dividends based on their profits over a year, and you
want to make sure their payout is less than they earn in income. One
way to determine this is by checking the stockís payout ratio.
the payout ratio is the amount a company pays in dividends divided
the companyís income. Letís say a company pays out $1,000 worth of
dividends and earns $10,000 income end of the year, then itís payout
10% ($1,000/$10,000 income times 100).
Now, if a companyís payout ratio greater than 100% means that the
company is paying out more in dividends than they make in income.
Think carefully about how long a company could continue to stay in
business if they spend more money than they make. Obvious answer is
not very long. And definitely not forever, which is how long you
expect to own the stock.
a sustainable payout ratio is generally considered less than 75%.
That means a company pays dividends to investors out of 75% its
income and remaining 25% of income is going to companyís
reinvestment plan. A company needs enough cash to create new
products, advertise to new customers, new business plant, and
generally just keep continuous business growth. If no reinvestment
is made then the companyís income could shrink over time.
What would happen when companyís income shrinks? How much would it
hurt keeping business same phase of expansion? It shows that if
companyís income slows down that will lead the payout ratio for the
stock to go up. Letís say that the above companyís income drops to
$5,000 from $10,000 over year and its payout payment is same $1,000
$1,000 dividends / $5,000 income = 20%.
So it is very important for a company to maintain growth in business
expansion and its net-income by reinvesting in itself.
There should be a cap to maintain reasonable payout ratio which is
standard for most companies. A payout ratio of 75% or less also
provides a cushion for the company in case of hard times arrives. As
economy slows down, most companiesí income also go down. If a
company is paying 100% of the previous income as dividends, then
they will have to lower the total dividends payment to match the