My Virtual Book Tour Continues
August 13, 2020 Lighthouse Academy
An excerpt from “A Beginners Guide to Wealth Building”
Investment Vehicles That Drive Your Portfolio
The Securities Market
The Stock Market (Equities)
In prior chapters, we discussed preparation for investing in the securities market…
The investment market is made up of securities that cover a full spectrum of (what we call) asset classes. Each asset class has a unique set of characteristics that generates revenue in the form of returns that add value to your investment portfolio. These asset classes drive investment returns and increase the value of your investment portfolio…
The Stock Market (Equities)
What is a Stock?
A stock is a security that gives you:
- Ownership (equity) in a company.
- A share in the profits of the company (dividend payments). Dividend payments can come quarterly, semi-annually or annually. Dividends can also be used as supplemental income during your retirement years.
- Voting rights on management decisions of the company. These are called proxies for specific classes of stocks (always read the fine print to see what voting rights you have).
If you own a stock and you’re a shareholder of record at the shareholders meeting, you have a right to vote on issues that come before the Board of Directors. As an equity owner in the company, you have the right to attend these meetings.
Please note that certain stocks (Preferred Stocks or other classifications of stocks) may have better dividend payments, but do not allow you to vote on company issues. Stocks have provided investors with annualized returns from 10% (large capitalization stocks) to 12% (small capitalization stocks). In the Appendices under Exhibit 8, investing $1.00 in 1926 and doing nothing else, your investment return would be 10% for stocks. Image if you invested $1.00 per month! Stocks have considerable price volatility (lots of up and down movements), but long-term investors who understand risks/return trade-offs can generate rewards that are well worth the wait.
Here are some of the various types of stocks offered in the stock market. Note the characteristics of each type of stock to see how it fits into your investment portfolio.
Growth Stocks: Growth stocks seldom pay dividends but grow in value. Growth companies reinvest their earnings back into themselves to keep up with a rapidly competitive market. They grow in value due to stock splitting and price appreciation. Stocks in this category are companies with new and exciting breakthrough products. Examples are: Walt Disney, Clorox, and AT&T.
Value Stocks: Value stocks sell at a lower price and are considered undervalued by investors. Such stocks pay high dividends. Their sell prices are lower, but they have high earnings (low price to earnings ratios). As a result, undervalued stocks grow in price appreciation and in some cases, pay a nice dividend. Examples are IBM, General Electric and Goldman Sachs.
Core Stocks: Core stocks stabilize the portfolio. These types of stocks tend to be in the Standard & Poor’s top 100 stocks. These are good solid companies that have worldly household appeal and pay consistent dividends. Examples are: Apple Computers, Johnson & Johnson, and Proctor and Gamble.
Emerging Market Stocks: Emerging markets are stocks that have great potential for growth. They do not have the efficiency of a fully developed market. Nor do they have highly developed accounting and security regulations like the economies of the United States and Europe. These stocks are just beginning to establish a solid financial infrastructure.
What makes them attractive are their banking systems, their stock exchanges and a solid currency. Examples are: Brazil, China, India and certain countries in the Middle and Far East.
Developing Market Stocks: A developing market is the opposite of a Developed Market like the U.S. They do not have the financial infrastructure you find in an Emerging Market. Investors are attracted to these markets because their growth potential is like an Emerging Market. Examples are: Argentina, Chile, Pakistan and South Africa.
Global Stocks (U.S. versus International): The Global stock market is divided into three components:
- U.S. stocks held within the confines of the United States.
- International stocks which are held outside of the United States.
- Global stocks which includes both (U.S. and International).
Some investors and money management professionals prefer using variations of each depending on where the company is located. For example, General Motors is a U.S. company with facilities all over the world but is considered a U. S. stock. Similarly, Toyota is a Japanese company that has operations in the United States, Asia and Europe, but is considered an International stock. Both of these companies can be held as U.S., International or as Global stocks.
Alternative Investments: This is a term used to describe securities that fall outside of the norm of the typical stocks stated above. These securities are invested strategically in the portfolio based on specific goals and objectives. The two most commonly used are Real Estate and Derivative Securities.
- Real Estate are hard assets that consist of:
- Office properties
- Retail properties
- Industrial properties
- Multi-family residential properties
Special Note: Real Estate Investment Trusts (REITs) are stock securities that are a collection or pool of Real Estate properties. They are put together into a Trust and their income is derived from their assets. They can be used in a Mutual Fund portfolio that provides exposure to the commercial real estate market. REITs mirror stocks because they pay dividends. They should not be confused with Mortgage Backed Securities (MBS bonds) that pay interest.
- Derivative Securities fall into categories called Futures Contracts, Forward Contracts, Swaps, Call and Put Options. They are traded on security exchanges like any other stock.
- Certain derivative securities are contracts used to value (price) an underlying asset, but not the asset itself. Example: General Motors (GM) is a stock, but its pricing can be traded based on its value from one day to the next (mark to market pricing). You are not buying the GM stock, you are purchasing the change in the underlying price associated with it. There is a big difference between the value of an asset and the pricing of the asset. Think of GM as the asset and the price change of GM as a totally different security.
- Call and Put Options, Forward and Futures Contacts and Swaps require specialized training due to their high risk/reward characteristics. These are not normally put into a regular investment portfolio but are traded with specific goals in mind. Some High Yield and Hedge Fund Managers use them in their portfolios.
- Derivatives are generally used as an instrument to hedge risk. Speculators also use them in efforts to add value to their portfolio.
Derivatives Warning: You should not invest in these types of instruments unless you really understand the risks associated with them! There are many specialty books on how these securities work. If you want more information, you can go to your local library or the internet for them.