Blackstocks.com: In the Know

Small- and Mid-Cap Stocks: Bigger Isn't Always Better

Sometimes, investment terminology is tossed around without really being explained…large-cap, small-cap, mid-cap - what exactly do they mean?

First of all, let's define asset classes. They're the categories that your different investments fall into - basic ones include cash, bonds, large-cap stocks, small-cap stocks, and international stocks, though there are a number of other more specific permutations. Studies have shown that the key to successful investing is to spread your wealth among different asset classes.

Because large-cap stocks have shown outstanding performance recently, you may have heard that investing in them would have been your best bet. But do large-cap stocks ALWAYS perform better than mid-cap and small-cap? Let's take a look.

Market-cap quandary
To review, market capitalization (market cap) is a measure of the size and value of a company. To determine market cap, you simply multiply the number of the company's outstanding shares of stock by the market price of one share.

For example, let's say a company has 50,000,000 shares outstanding, and each share is currently selling for $50. The company's market cap would be 50,000,000 multiplied by $50, which equals $2.5 billion.

 

And why is market capitalization important? Because history has shown us that the stocks of companies with different market caps behave differently in terms of return and risk.

What exactly are small-cap, mid-cap and large-cap stocks?
Generally "mid-cap" refers to stocks of companies having a market cap between $1.5 billion and $10 billion. One well-known example is Starbucks. Small-cap stocks are companies that have a market cap of less than $1.5 billion. Ann Taylor Stores is one example.

Large-cap stocks are generally defined by the company having a market capitalization greater than $10 billion. An example of a large-cap company is Safeway.

Different market-cap, different performance
Now that we understand what market cap means, let's talk about the performance of different-sized-market cap stocks. We know that over the past few years, large-cap stocks have performed very well.

A Fallen Angel

How can an Initial Public Offering (IPO) open lower then the original selling price of the stock? I got in on one that was offered to me at $14, but opened at $10.

A.  Just before going public, underwriters (investment bankers that sponsor the IPO - Initial Public Offering) set the price of the stock. Underwriters hope to set a price that will ensure strong demand so that no shares go unsold. The price is usually quite conservative, which is why IPOs often soar on their first day of trading.

But in rare instances, an IPO actually falls from its opening price. This can happen for several reasons.

If the company going public and the under writer is small,  institutional investors (such as mutual funds) will not buy the stock. And it helps to attract these folks because they can gobble up millions of shares. Without them, the underwriter will need to find hundreds or thousands of smaller investors to buy the shares. Many of these smaller investors only hold the shares for a few hours, in a practice known as 'flipping.' If these small investors dump the shares, the price can easily slip from the IPO opening price.

Public Offerings can also finish down if the overall market is weak on the day of the offering.Offerings that have a bad first day tend to continue their downward slide. On the other hand, many value-oriented investors, however, seek out these kind of IPOs, which are known as 'broken IPOs' of 'Fallen Angels.'

5 key indicators

Ever wonder why the stock market goes down on good economic news and up on bad--why, for instance, a report of soaring job growth can send Wall Street into a tailspin, while a lazy rate of job creation can spark a rally? It's not mere perversity; the market's movements depend on myriad economic circumstances, even if the relationship sometimes seems to defy logic.

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A.  Several times a day, one or another government agency or trade organization releases a number that offers a glimpse into the state of the economy. Because the economy is cyclical, ebbing and flowing with shifts in supply and demand, indicators can show what phase the economy is in--and where it is headed. Of course, buying or selling stocks and bonds in response to changes in one indicator is a strategy best left to professionals. But investors are wise to note economic trends because share prices are driven by two factors: earnings and interest rates. When the economy is expanding and interest rates are low, earnings--and therefore share prices--likely will rise.

For the broadest view of how the economy is doing, check the  Gross Domestic Product, released four times a year during the final week of January, April, July, and October. The GDP measures the nation's total output of goods and services for the quarter. Although quarter-to-quarter changes are too small to be useful, GDP figures over several quarters can reveal whether the economy is on an upward or downward course. That, in turn, helps investors determine whether cyclical industries--such as basic materials and energy stocks--will outperform as the economy nears the end of a recession or under perform when it begins expanding.

Although the GDP tells investors where the economy has been, several other indicators better predict where it is going. These five, favored by economists, are the easiest for investors to interpret.

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#1 Consumer Confidence Index (released the last Tuesday of each month)

Do-Learning the Investment Lingo - The Ps Have It!

P/E

A stock has a price-to-earnings ratio: the share price divided by earnings per share for the company's most recent four quarters. A projected P/E divides the share price by estimated earnings per share for the coming four quarters

Assume XYZ Co. sells for $25. 50 per share and has earned $2. 55 per share this year

$25. 50 = 10 times $2. 55

P/E ratio equation

        XYZ stock sells for 10 times earnings.

Penny Stocks

Low-priced issues, often highly speculative, selling at less than $1 a share. Frequently used as a term of disparagement, although some penny stocks have developed into investment-caliber issues.

Point

In the case of shares of stock, a point equals $1. If ABC shares rise 3 points, each share has risen $3 in price.

In the case of bonds, a point equals $10 because bonds are quoted as a percentage of $1,000. An advance from 87 to 90 would mean a rise in value of $30 from $870 to $900.

Portfolio

The collection of different investment instruments owned by one individual or institution. A portfolio can consist of any combination of stocks, bonds, derivatives and such.

Learning the Lingo - Stock Split

Stock Split

When a company increases the number of shares outstanding by splitting existing shares. A 2-for-1 split means every stockholder gets two new shares for each one they own, and a 3-for-2 split means they get three shares for every two they own. The price of an individual share falls, but stockholders do not lose money because they are being given the equivalent number of new shares.

In a reverse stock split, a company reduces the number of the shares outstanding by consolidating existing shares. A 1-for-5 reverse split for example, means for each five shares owned one receives a single new share instead. The price of the new shares is five times higher, but only to reflect the shortened supply. If a company's stock is trading at a very low price, this process makes the company look more attractive to investors.

Stock splits occur when a firm issues new shares of stock but in turn lowers the current market price of its stock to a level that is proportionate to pre-split prices. For example, if IBM trades at $100 before a 2-for-1 split, after the split it will trade at $50 and holders of the stock will have twice as many shares than they had before the split. 

Sometimes, companies split their outstanding shares into a larger number of shares. If a company with 1 million shares did a two-for-one split, the company would have 2 million shares. An investor with 100 shares before the split would hold 200 shares after the split. The investor's percentage of equity in the company remains the same, and the price of the stock he owns is one-half the price of the stock on the day prior to the split.

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Learning the Lingo - Short Sale

Selling short
If an investor thinks the price of a stock is going down, the investor could borrow the stock from a broker and sell it. Eventually, the investor must buy the stock back on the open market. For instance, you borrow 1000 shares of XYZ on July 1 and sell it for $8 per share. Then, on Aug 1, you purchase 1000 shares of XYZ at $7 per share. You've made $1000 (less commissions and other fees) by selling short.

Short interest
This is the total number of shares of a security that investors have sold short -- borrowed, then sold in the hope that the security will fall in value. An investor then buys back the shares and pockets the difference as profit.

Short position
Occurs when a person sells stocks he or she does not yet own. Shares must be borrowed, before the sale, to make "good delivery" to the buyer. Eventually, the shares must be bought to close out the transaction. Technique is used when an investor believes the stock price is going down.

Short sale
Selling a security that the seller does not own but is committed to repurchasing eventually. It is used to capitalize on an expected decline in the security's price.

 

Technorati tags: Alton Perkins, www.blackstocks.com, stocks, investments, S&P 500, annual return, Bonds, T-Bills, risk, African American, mutual funds, money, investing, Stock market, Risk, Dollar Cost Averaging, Diversification, Short Selling

Monty Hall Or Fed Call?

	Margin Borrowing From Broker
Recently, I was asked whether a stock should be bought on margin, and whether margin should be paid back. When you buy stock on margin, you are simply borrowing from your broker.  If you are an experienced investor, you may want to consider using margin. On the other hand if you are new to the game, you probably want to wait awhile. Here's why. Margin allows you to buy two shares of stock instead of one share. For example, if you have $500, and one share of stock costs $25, you can buy (500/25) = 20 shares*. Now if you use margin, normally you can buy another 10 shares (250/25 = 10 shares). So if you use margin instead of having 20 shares, you will have 30 shares. Now if the stock goes up - everything is great! For example, let's say the stock moves from $25 to $30. You have a $5 upswing in price and instead of making $100 (20 shares X $5 increase); using margin you would have made $150 (30 shares X $5 increase). So you see you would have certainly increased your short term gain by $50 using margin. Now, let's see what happens if the stock moves in the other direction. For example if the stock drops from $25 to $20 (a $5 drop), your loss without using margin would be $100 (20X5). What's borrowed must be paid back. On margin your loss would increase 50% to $150 (30x5). Not only did you lose the $150, you will also have to pay the rest of the borrowed funds back. Remember you borrowed $250 to purchase the 10 extra shares. In this case (10X5) or another $50. If you cashed out at this point, your account would look as follows:   Your Funds $500 You started with Borrowed   250 Total  $750 (750/25) = 30 shares     Your Funds $350 (30 X 5) = 150 (loss) After Down swing Borrowed   250 Total  $600     It is also important to note that for ever $1 dollar you lose, you must make $1.50 back to just break even. Now if you cash out here, you would only be down $150. If the stock dipped another $5 to $15 share price, this is how your account would look:       Your Funds $200 (30 X 5) = 150 (loss) Further  movement down Borrowed  250 Total  $450       If you cashed out now, you would return the borrowed funds  ($250), and have $200 left. You would have experienced  a 60% drop in your original investment. So as a general rule, until you know..you know..what you are  doing, stay away from margin. Use cash only until you are  experienced and comfortable with using leverage. Note: We are not considering the broker transaction fees to  purchase the shares.     Technorati tags: Alton Perkins, www.blackstocks.com, stocks, investments, S&P 500, annual return, Bonds, T-Bills, risk, African American, mutual funds, money, investing, Stock market, Risk, Dollar Cost Averaging, Diversification, Margin Call

Some Things You Ought To Know

Who’s Minding The Store
In the last article, we examined how the exchanges make money, and how we make money in the market. Now we will briefly take a look at some things we ought to know. Also we will tell you about a funny little story that happened on my way to the market place.

There are rules and regulations that govern the operation of the stock markets and the money that we invest in the market. These rules are designed to ensure that fairness takes place in the market.

The United States Congress sets the tone with laws that it enacts. The SEC or Securities Exchange Commission carries out these laws and serves as a guiding arm to ensure that as little as possible hanky panky goes on in the market.

SEC has the power to fine and even recommend prosecution and can throw the culprits in the slammer if someone tries any hanky panky.

Six Sure Fire Ways to Lose Money in the Market!

1 Buy a stock just because it is, say, 40 to 50% off of its highs. At first impression, this might make sense to take this approach. A company like Baskin and Robins is one that you know. A store is right around the corner from you. They issue a warning that they are having a problem with a supplier. Because of peek demand they have not been able to provide enough products and their earnings will be off this quarter. Their stock plunges. This appears to be a good opportunity to pick a bargain so you buy. 

One small problem though, a second set of bad news is reported, then more. Suddenly a stock that was at $60 is now stuck at $18.

Buying something that is cheap because it is cheap ? can turn out to be cheap ? a cheap trick.

2 If a stock is down ? buy more. You?ve already lost one-half of your investment. But the stock is down there and its looking pretty good ? so? double down ? as they say. This can make sense at times with stocks that are cyclical ? going down then back up- depending upon the time of year or another factor.

What?s more likely though is that the stock has lost its gleam on Wall Street. It?s out of favor with the big fellas ? Big institutional investors ? that buy stocks in large heaps. To protect yourself ? try to avoid buying stock that continually reports earning shortfalls or misses its earning estimates.

Investment Basics

Here are some basic investment concepts that are good to know.

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What is Risk?
In investing, "risk" doesn't really mean the risk that you're going to lose your investment. Risk is more accurately defined as the amount that the investment's value fluctuates over time. "Risky" investments go up and down more steeply than "safer" investments.
Risk and return have a direct relationship. Usually, as an investment's potential return increases, its level of risk increases too. Conversely, "safer" investments tend to have lower return potential.

How Long Will You Be Investing?
The longer you can hold onto an investment, the better off you'll probably be. A long time horizon enables you to afford to take more risk with your investment and thus increase your return potential.

Diversification
Diversifying among several investments is another way to reduce potential risk. It's important to build an appropriate mix of investments so that your overall mix -- or portfolio -- of investments can achieve maximum potential returns without exposure to more risk than you're comfortable taking.