Currency Risk is the risk an investor is exposed to when investing in international markets. Currency risk is mainly associated with the fluctuations in exchange rates of the various world currencies.
Currency Risk is the risk an investor is exposed to when investing in international markets. Currency risk is mainly associated with the fluctuations in exchange rates of the various world currencies.
Coupon Rate is the rate of interest paid on a bond, expressed as a percentage of the bond’s face value.
A Coupon is the periodic interest payment made to a bondholder during the life of the bond. (Usually semi-annual)
Convertible Preferred Stock are Preferred stock that can be converted into common stock at a particular time frame.
Convertible Bonds are bonds that can be converted into Common Stock usually at the maturity of the bond.
A Contract is term that describes the unit of trading for a stock option, future option or future. It lists all the obligations and particulars related to the security.
Buy-Sell Agreement is an agreement between shareholders or business partners where both parties agree to purchase or sell a stock.
What are they doing with your money? Have you ever wondered how well your money is really being managed by the corporations you hand it over to?
After all, the media is full of stories about CEO compensation reaching new heights, buy-outs of non-profitable holdings, million dollar birthday parties and other horror stories.
Return on Equity (ROE) is used to measure how much profit a company is able to generate from the money invested by shareholders.
Think of this way; if your friend asked to borrow $1,000 to start-up a small side business then chances are you would comply. When they came back to ask for $10,000 you would examine how well they performed with the initial $1,000 before making the next loan.
It makes such good sense that you might wonder why more people don’t use this handy little measure before pouring massive sums into a money pit masking as a company.
Join the ranks of those in the know. ROE is easy to compute and provides valuable insight into the workings of the company.
Think twice before investing in a company with a negative ROE. Instead, search out self-sustaining companies with a healthy ROE that indicates the willingness and ability to use invested dollars for future growth rather than operating expenses.
A good ROE is 15% or better so keep your eyes – and ears – open for opportunity.
ROE measures what kind of income can be generated for a given level of equity injected into the company. It is essential to understand that different sections of the company that return is generated from.
This in turn will help investors identify where their equity is being used wisely, and where it is being wasted in trying to generate income.
You need to perform a DuPont Analysis to identify where equity is going and returns are coming from.
EPS (Earnings-Per-Share) measures how much of a company’s net income actually trickles down to each outstanding share.
Any preferred dividends are first taken out of the net income before calculating EPS.
Earnings Per Share can be used to compare the earnings of two or more companies in a similar industry.
Just because one company makes more money than another, it does not mean that the shareholders are better off.
What matters is how much of the money the company makes actually trickles down to each shareholder and that depends on how many shares there actually are.
If two companies had the same number of shares outstanding, the higher EPS Company would have:
Similarly, if two companies had the same net income, the higher EPS Company would have:
Hence, the higher the EPS between two companies in the same industry, the more money each share makes.
Let’s say we wanted to evaluate two companies in the same industry like:
Honda’s Net Income after Preferred Dividends: $6,000,000,000 ($6 Billion)
Honda’s Average Outstanding Shares: 1,500,000,000 (1.5 Billion shares)
Toyota’s Net Income after Preferred Dividends: $5,500,000,000 ($5.5 Billion)
Toyota’s Average Outstanding Shares: 1,000,000,000 (1 Billion shares)
At first look, it seems like Honda is the better company as it made more money (Net Income is higher).
But, as a shareholder, when you see how much of that money actually comes down to each share, your decision might change.
Honda’s EPS: $6,000,000,000 / 1,500,000,000 = $4/Share
Toyota’s EPS: $5,500,000,000 / 1,000,000,000 = $5.5 / Share
As you can see, if you owned one share of Toyota, you would be receiving a higher dollar amount from the profits than if you owned Honda.
Earnings Per Share is a good estimator of how much money each shareholder is entitled to from the profits of the company.
But like everything that can be tampered with, you have to conduct your own due diligence and calculate your own EPS before making any decisions.
PE Ratio (Price-to-Earnings) is a valuation ratio that compares the price per share of a company’s stock to its earnings per share.
It basically shows how much investors are willing to pay for a share given the earnings currently generated.
It is also used to analyze whether a stock is overvalued or undervalued.
Coca-Cola and Pepsi operate in the same industry and produce goods that are very similar in nature.
From our calculations, we can see that Pepsi has a higher PE Ratio than Coca-Cola.
This could be perceived a couple of different ways:
The truth is normally some combination of these perceptions.
Over time, and with additional research, one can potentially pinpoint the exact occurrence and make a lot of money by trading according to his or her analysis.
*Important Note*:
A PE Ratio is an important valuation tool that can give key insights into whether a stock may be over or under-valued.
Fundamental analysis is the process of looking at the basic or fundamental financial level of a business, especially:
This type of analysis examines key ratios of a business to determine its financial health and gives you an idea of the value its stock.
Many investors use fundamental analysis alone or in combination with other tools to evaluate stocks for investment purposes. The goal is to determine the current worth and, more importantly, how the market values the stock.
Usually fundamental analysis takes into consideration only those variables that are directly related to the company itself, rather than the overall state of the market or technical analysis data but here we are going to describe a top down approach to the typical fundamental evaluation: It starts with the overall economy and then works down from industry groups to specific companies.
As part of the analysis process, it is important to remember that all information is relative. Industry groups are compared against other industry groups and companies against other companies. It is important that companies are compared with others in the same group.
First and foremost in a top-down approach would be an overall evaluation of the general economy. When the economy expands, most industry groups and companies benefit and grow. When the economy declines, most sectors and companies usually suffer. Once a scenario for the overall economy has been developed, an investor can break down the economy into its various industry groups.
If the prognosis is for an expanding economy, then certain groups are likely to benefit more than others. An investor can narrow the field to those groups that are best suited to benefit from the current or future economic environment. If most companies are expected to benefit from an expansion, then risk in equities would be relatively low and an aggressive growth-oriented strategy might be advisable. A growth strategy might involve the purchase of technology, biotech, semiconductor and cyclical stocks. If the economy is forecast to contract, an investor may opt for a more conservative strategy and seek out stable income-oriented companies. A defensive strategy might involve the purchase of consumer staples, utilities and energy-related stocks.
To assess a industry group’s potential, an investor would want to consider the overall growth rate, market size, and importance to the economy. While the individual company is still important, its industry group is likely to exert just as much, or more, influence on the stock price. When stocks move, they usually move as groups
Once the industry group is chosen, an investor would need to narrow the list of companies before proceeding to a more detailed analysis. Investors are usually interested in finding the leaders and the innovators within a group. The first task is to identify the current business and competitive environment within a group as well as the future trends. How do the companies rank according to market share, product position and competitive advantage? Who is the current leader and how will changes within the sector affect the current balance of power? What are the barriers to entry? Success depends on an edge, be it marketing, technology, market share or innovation. A comparative analysis of the competition within a sector will help identify those companies with an edge, and those most likely to keep it.
At this point you will have a shortlist of companies and the final step to this analysis process would be to take apart the financial statements and come up with a means of valuation. Some of the more popular ratios are found by dividing the stock price by a key value driver.
These are the most popular tools of fundamental analysis. They focus on earnings, growth, and value in the market. For convenience, we have broken them into separate articles.
None of these mean much on their own but when you combine some of them together and adapt your combinations based on the sector the company you’re analyzing is in you will find that they are very good identifying the true value of a stock, thus find you identify the “ticket price” of your potential investment and to determine if your current investments are at or near their full potential…
This methodology assumes that a company will sell at a specific multiple of its earnings, revenues or growth. An investor may rank companies based on these valuation ratios. Those at the high end may be considered overvalued, while those at the low end may constitute relatively good value. But it could also mean that the ones on the low end are “bad companies” and are not worth investing in while the ones on the high end could be very good companies which still have room to grow… Remember that the market is usually right in the long run…
After all this work you will be left with a handful of candidates and this is where I recommend using technical analysis to develop a trading plan for each one of them. I know investors tend to shy away from technical analysis but this a grave mistake, in my opinion. Knowing how to read charts and understanding that technical analysis is in fact understanding basic human psychology will help you maximize your gains and minimize your losses; how does that sound to you?
To conclude, fundamental analysis can be valuable, but it should be approached with caution. If you are reading research written by a sell-side analyst, it is important to be familiar with the analyst behind the report. We all have personal biases, and every analyst has some sort of bias. There is nothing wrong with this, and the research can still be of great value. Learn what the ratings mean and the track record of an analyst before jumping off the deep end. Corporate statements and press releases offer good information, but they should be read with a healthy degree of skepticism to separate the facts from the spin. Press releases don’t happen by accident; they are an important PR tool for companies. Investors should become skilled readers to weed out the important information and ignore the hype.
Class B Shares are a form of common stock that may have more or less voting rights that Class A shares. Generally Class B shares have lesser voting rights, but be vary of some companies that trick investors by using the perception of Class “B” (compared to “A”) shares to attach more voting rights to them than Class A shares.
A Covered Call Strategy is for investors who feel that the stock price will either remain stable or will grow. This strategy is NOT for investors who think the price of the stock will go down.
The strategy entails two steps:
The reason the strategy is called a “covered” call is because the call option that is written is “covered” by the underlying stock in case the person on the other side of the option exercises it.
The best way to explain how the covered call works is to use an example.
Let’s say we are using Bank of America (BAC:NYSE) to write a covered call.
Remember, for a covered call, you write the option and you buy the stock:
Write one $15 call option (Option multiplier is 100): $2.50 X 100 = $250 Inflow
Buy 100 shares of the underlying stock to cover the written call option: $10 X 100 = -$1,000 Outflow
Chances are that the $15 Call Option you wrote would get exercised. This means that you HAVE to sell your underlying stocks for $15.
Your inflow: $15 X 100 shares = $1,500
By putting together your total inflows and outflows, we get:
1,500 + 250 – 1,000 = $750
That’s great!! You made $750!!!
Chances are that your option will not get exercised.
You can choose to keep or sell the underlying stock. Lets say you decide to sell it.
Your inflows will be: $10 X 100 share = $1,000
You are better off by:
$1,000 + $250 – $1,000 = $250
That’s still great! You made $250!
Your option will definitely not get exercised. But the stock that you hold has dropped in value. Lets see how badly it has affected your strategy.
If you sell your stock, your inflows will be: $5 X 100 shares: $500
You are worse off by:
$500 + $250 – $1,000 = -$250
That’s not good. You just lost $250 from your own pocket.
You can see what effect the price of the BAC stock has on the overall profit /loss of the covered call strategy below:
The covered call strategy is also used as a form of hedging or insurance by investors. These investors are banking on the price of the stock to go down, but want to feel safe in case the price turns against them.
This is different to the way covered call is used in the example above as the goal for that was to make money from an option exercise. The goal for this strategy is to cut your losses if the market turns against you.
A covered call is a better option than writing a naked call option, even though it might cost more up front to purchase the underlying stock.
Margin Requirements are lower than for writing a naked option as you are covered incase the market moves against you.
While the maximum amount of money you can make with this strategy is limited, the chances that you will make money becomes greater for you if you find the right option to write at a favorable strike price. For more information about writing call options, visit an introduction to writing call options.
Like anything you invest in, careful analysis is key.
Class A Shares are a form of common stock that may have more or less voting rights that Class B shares. Generally Class A shares have more voting rights, but companies sometimes trick investors by using the perception of “Class A” shares to attach fewer voting rights to them than Class B shares.
Balanced Fund is a type of Mutual Fund whose main objective is to diversify risk by holding a defined percentage of different security types including stocks, bonds, and money market instruments
The American Stock Exchange is the third largest Stock Exchange in the US by trading volume. It overlooks the trading of approximately 10% of all US traded securities including small-cap stocks, ETF’s and Derivatives.
An Aggressive Growth Fund is a form of Mutual Fund whose main investment objective is to achieve capital gains. These funds are perceived to generate high returns, and are catered to investors who have a high tolerance for risk.