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Final

Alternate Types of Investment - Common Stock all the notes pertaining to common stocks. includes sample calculations, diagrams, and examples


Department
Business
Course Code
BU111
Professor
Jim Mc Cutcheon
Study Guide
Final

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L6 BU111 12/10/2011
Alternate Types of Investment
Common Stock
Common stockholders are the true owners of any organization
They bear the greatest levels of risk but also enjoy the greatest potential rewards
with regard to both dividends and capital gains when compared to bondholders
and preferred stockholders
Characteristics of Common Stock
Voting rights
oMajor issues such as stock splits, reverse splits, and mergers are voted
upon by stockholders unlike bond holders and preferred stock holders
Right to receive dividends
oDiscretionary
oNo fixed amount
oDependent upon company profitability
Liquidation rights
oEqually share money left upon bankruptcy (last in line, so empty promise)
Pre-emptive right
oWhen new shares of CS are issued, this right says you must first offer
these new shares to existing shareholders, and must do so in a way that
allows them to maintain their percentage share of ownership
How are Common Stock Prices Derived?
Bonds and Preferred stock Prices are closely related to the prevailing rates of
interest in the economy
Strictly on the basis of the laws of supply and demand
The sum total of all investor’s perceptions of the future profitability of a company
If investor feels a company will be highly profitable in the future that means high
levels of dividend payout and appreciation in share values (capital gains)
This will mean high levels of demand for a limited supply of shares which will
force stock prices to rise
The reverse holds true if investors feel a company will not be profitable in the
future
This means low levels of demand and falling stock prices
Stock Market Transactions
Straight Buy and Sell
Most common type of transaction in stock market
Buy low/sell high strategy
Buy the shares, hold for a period of time, and sell at a future date

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L6 BU111 12/10/2011
Also may gain dividends from holding shares if company pays out
Referred to as a “long position”
Bid and Ask Prices
Ask: lowest amount per share that anyone is willing to sell
Bid: is the highest amount anyone is willing to pay
Market Orders
Telling your broker to execute your order immediately at the best available price
in the market
About 80% of all orders are market orders
oi.e. ABC stock – Bid $9-1/2, Ask $10
oPlacing MO to buy (MOB) 100 shares ABC
oPay ask price of $10
$10 x $100 shares = $1,000
+ 2% commission IN 20
$1,020
Market Order to Buy pay current ASK price
Market Order to Sell receive current BID price
Shot Selling
Selling shares you don’t own borrow from a broker
These stocks come from:
Margined Stock: must sign a hypothecation, which is a document which leaves
the stocks legally in the name of the stockbroker until you pay all your loans
Broker House Securities
Broker House Reserves
oi.e. ABC selling at $70/share
oexpecting a drop in price and sell short 100 shares
obroker lends you 100 shares
osells at $70 x 100 = $7,000collateral
odeposit another 50% market value as collateral (short deposit)
oMust always have 150% deposit of stocks shortened
If stock price drops (to $55), you decide to cover short position
Take enough money out of account with 150% ($10,500)
Buy 100 shares of ABC at $55 = $5,500
Shares go back to broker- investor gets back collateral
oProfit: Proceeds from sale $7,000
o Cost of covering 5,500
o Gross Profit $1,500
oLess: 2% OUT 140
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