Stocks-and-Bonds.doc

Stocks and BondsSome people are content to limit their investment programs to such safe investments as savings accounts and savings bonds. They take comfort in knowing that while the return from such investments may be small, it is steady and sure. Other people seek investments that involve higher risks. They understand that the amount of money an investment returns is frequently related to the amount of risk it involves. Because they want to obtain the greatest possible return on each dollar invested, they are willing to take certain chances. Still another group of people want both the comfort of safe investments and the greater dollar return of high-risk investments. Accordingly, they prefer a program that has a balance of both safe and high-risk investments.For the last two groups, the most popular types of high-risk investments are those that involve securities. Securities, which is a general term for stocks and bonds, are sold by governments and corporations in order to raise large amounts of money.There are three ways in which businesses that need a great deal of money for a long period of time can obtain that money. They can go to a bank and apply for a long-term loan. They can use the profits of the business. But banks are often reluctant to lend large amounts for periods longer than one or two years. And profits are ordinarily not large enough to finance anything very expensive. Therefore whenever businesses or governments need financing for major projects or for growth they must raise the money through the sale of securities.BondsA bond is like a promissory note, except that it is issued either by a business or by a government unit such as a city, county, or state. Whey you buy a bond, you are really lending money to the government or business from which you buy it. In return, you receive from the seller a written promise to pay you a definite sum of money, plus interest, at a future date.There are two types of bonds. Government bonds are issued by state and local governments to help pay for improvements such as streets, schools, and public buildings. Corporate bonds are issued by businesses to raise money for expansion and growth.The denomination is the sum of money that the bond represents. This sum is printed on the bond. The interest rate is set at the time a bond is issued. It remains the same until the bond matures. The maturity date of a bond is also fixed. Bonds may be issued for such periods as 10, 20, or 30 years. Suppose you bought a $1,000 bond at 6 percent interest for 20 years. Each year you would receive $60 in interest (6 percent of $1,000). The interest would probably be paid to you in two payments, $30 every six months. After 20 years, the bond would mature, and you would receive $1,000- the price you paid when you first bought the bond. Bonds may be either registered or bearer bonds. A registered bond is a bond that has the name of the owner recorded with the issuer of the bond. Interest is mailed directly to the person registered as the owner. A bearer bond is a bond whose owner is presumed to be the person who has possession of the bond. Bearer bonds are not registered. When interest payments are due on a bearer bond, its possessor clips a coupon from the bond and sends the coupon to the issuer for payment.Bonds are also classified according to the type of security that backs them up. A mortgage bond is backed by the issuers pledge of buildings, land and equipment as security. A debenture bond is backed only by the issuers promise to pay when the interest and principal are due.1. According to the text, which is considered the safest program of investment? Saving 2. The essential difference between a registered bond and a bearer bond lies in that _.3. In terms of safeness, a mortgage bond is _safer than_ a debenture bond. 4. Which can NOT be a feature of a bond?5. We can infer from the passage that the safest form of bond, in theory, is _government bond with mortgage_.StocksAs a bondholder you are a creditor of, or lender to, a business firm or government unit. As a stockholder, however, you are one of the owners of a corporation. Stock represents a share of ownership in a corporation. A stockholder may own one share or many shares of a corporations stock, and each share may cost several dollars or several hundred dollars. Upon purchase of a stock, a stockholder receives a stock certificate, a printed form that states the number of shares a person owns in a corporation. You can buy either common or preferred stock. Common stock is stock that permits owners to vote for directors at the annual meeting of the corporation and to share any profits or losses. Holders of common stock share indirectly in the management of the corporation by voting for the directors, who in turn appoints the people who manage the corporation. Although there is greater risk in owning common stock than in owning preferred stock or bonds, there is also the chance of a greater return on your investment. Dividends for common stock are set by the directors of the corporation according to the amount of profit. If profits are high, dividends of common stock can be much higher than for preferred stock. If profits are low, dividends many not paid to holders of commons stock. For this reason the price of shares of common stock changes more rapidly than the price of preferred stock. Preferred stock is stock with first claim on the corporations earnings and assets after the claims of bondholders. Preferred stock holders do not have voting rights in the corporation. Preferred stock dividends are usually set when the stock is first sold and remain the same thereafter. This means that if the dividend is set at $6 per share, preferred stockholders will usually receive this same amount each year. Preferred stock dividends must be paid before common stock dividends can be paid. Since the dividend remains the same from year to year, preferred stock is usually more stable in price than common stock. Bonds are a more secure investment than stock because a bondholder has first claim on the assets of a corporation. This means that a corporation must first pay interest to bondholders. Then stock holders are paid their interest. It also means that if a corporation goes bankrupt, the bondholders have first claim on the assets. Should a company fails, its net assets are divided first among the bondholders, then among the preferred stockholders, and finally among the common stockholders. 6. Preferred stock differs from common stock essentially in that _.7. When a corporation goes bankrupt or fails, the sequence of claim on its assets or net assets should be bondholders, preferred stockholders, common stockholders.8. Bonds differ from stocks essentially in that _.Buying and Selling SecuritiesSecurities are generally bought and sold through investment brokers. The investment broker is the agent who processes orders for investors who want to buy or sell securities. Brokers usually buy and sell stocks through a stock exchange, which is the central market for securities. There are about 20 of these exchanges throughout the United States. The two major exchanges are the New York Stock Exchange (NYSE) and the American Stock Exchange, both located in New York. Only brokers whose firms are members of an exchange may buy or sell through that exchange. The broker receives a commission for his or her services. The commission is a percentage of the amount of the sale. When securities are first issued, they are sold at a fixed price. Once they are sold, however, the price changes greatly. Sometimes the prices change day to day, depending on supply and demand. The Stock MarketCorporations issue only a limited number of shares of stock. After those shares are purchased, they may be traded. This means that people buy and sell the shares. When you buy stock, you can never be sure you will get back what you paid for it. The price of a stock, like the price of most other goods and services, depends on how much buyers are willing to pay. The price a buyer is willing to pay depends on a number of factors. Among them are these: The general economic outlook will influence the price of stock. When the outlook is good more people will want to buy stock. This means there is more demand for stock, and stock prices will go up. When the economic outlook is poor, then the demand for stock drops, and prices will go down. A corporations earnings will affect the price of its stock. Usually, the greater the earnings, the greater the dividends a corporation will pay. When corporate earnings are high, the stock is in demand, and prices go up. Buyers often borrow money to buy stocks. If interest rates for borrowing are high, people do not borrow and do not buy stock. Because the demand is low, stock prices go down.Each days transaction for stocks listed on the major stock exchanges are recorded and published in the daily newspapers. If you want to know the price of a stock, you can look in the financial section of your local newspaper.9. In the final analysis, the decisive factor that affects the market price of stock is _.10. All of the following statements are true EXCEPT that _.The Bond MarketA bondholder may sell a bond before its maturity date. Bond prices, like stock prices, depend on how much people are willing to pay. However, bond prices do not change as much from day to day as stock prices. One of the factors that influence bond prices is the change of interest rates in the economy. For example, suppose you bought a $1,000 bond five years ago at a fixed rate of 5 percent interest. Your bond would pay $50 a year in interest. However, suppose that this year the interest rate on loaned money is 8 percent. A $1,000 bond purchased this year would have a fixed interest rate of 8 percent and would pay $80 a year in interest. If you wanted to sell your bond this year, no buyer would be willing to pay $1,000 for it. With a current earning interest rate of 8 percent, the buyer would lose money in buying your bond for $1,000. To sell your bond on the bond market, you would have to sell for less than $1,000. On the other hand, if interest rates in the economy had dropped below 5 percent, buyers might be willing to pay more than $1,000 for it because it has a fixed rate of interest of 5 percent.Another factor that affects the price of bonds is the credit rating of the company or government unit issuing the bond. If the credit rating of the company changes during the life of the bond, the price of the bond will change. When the credit rating goes down, the price of the bond may go down also. Corporate and government bond prices are quoted in the financial pages of newspapers, like stock prices. The quotes show the maturity date and the interest rate of the bond and give the market price of the bond that day. Bond prices are given in value per $100. A price quoted as “95” means that you could get $950 for a $1,000 bond. Considerations Before Investing in SecuritiesSecurities are not for amateurs. The securities market is full of risks for the small investor because knowing what stock to buy, when to buy, and when to sell are difficult decisions. Most investors do no have time to do the necessary research to make wise decisions. They rely on guesswork and are often wrong. However, there are several things to keep in mind if you are interested in buying securities. Be sure you can afford the risk. Ask yourself three questions: If I make the investment, will I have enough money to meet any emergency that may arise? Can I still cover normal living expenses? Can I afford to lose all I invest? Once you buy securities, you should not have to sell them to cover your day-to-day living expenses or to meet unexpected emergencies. Limit the risk you take. Dont invest on the basis of tips or rumors. All too often they are wrong. Remember, there is risk in any investment, and only you can decide how much risk you should assume. For every person who has made money on a rumor, there are probably ten persons who have lost money. Get expert advice. A qualified investment broker can help you decide which securities might be best for you. The broker will also be glad to help you learn more about the operation of the stock market. Brokerage firms sometimes have research departments and libraries to aid the investor. If not, the broker can tell you where you can get information about the market. Study the materials form your broker as well as financial magazines and the financial section of your daily newspaper. When yo