Investors Primer III: Investing in the Philippine Stock Market is
the third of a series which hopes to guide readers on the basics of
investing and participating in the Philippine stock market.
HOW TO INVEST IN THE PHILIPPINE STOCK MARKET
A Guide for Investors
Investors Primer III: Investing in the Philippines Stock Market
Table of Contents
- What are stocks and equities?
- What are stocks certificates?
- What type of stock can you buy or sell?
- What are warrants?
- Where can you buy and sell stocks?
- When can you buy or sell stocks?
- Who can buy or sell stocks?
- How can you buy or sell stocks?
- What is the minimum amount you can invest in the Stock market?
- What charges will you incur in buying and selling stocks?
- What are your rights as a stockholder?
- How can you make money in the stock market?
- How do you collect information about stocks?
- What do you need to do before you invest?
- What are some investment tips which can help you while investing?
- What are the risks involved in stock market investing?
1. What are stocks and equities?
A share of stock is evidence
of a fractional ownership in a corporation. Buying a share of common
stock is in fact buying a share of a business. An individual who owns
shares in, say, Petron or PLDT has an ownership interest in that company
and is called a stockholder or shareholder. This ownership is also
referred to as having equity in a company, hence, stocks are also called
equities or equity securities. The percentage or proportion of ownership depends on how many of the company’s share one owns.
For example, 1,000 shares of common
stock in a corporation that has 100,000 outstanding shares represent
1,000/100,000 ownership interest. This means you have one percent (1%)
ownership interest I the company’s plant, its building, its inventories
and other assets.
2. What are stock certificates?
Ownership of a business is represented by stock certificates.
When an individual becomes a stockholder of any corporation, he
receives a stock certificate – a written evidence of ownership certified
to the corporation. The certificate indicates the investor’s name,
total number of shares purchased, the certificate number, the par value
and the name of the issuing corporation.
When shares are purchased, the stock certificates will be issued either in street name or in the investor’s name.
The difference is important to know since without notice form the
investors all stock certificates will be issued in street name, i.e. in
the name of the brokerage firm. In this way, the brokerage firm – and
NOT the investor – will be the holder of the stock certificates. Only
when the investor specifically asks for it will the stock certificates
be issued in the investor’s name.
Stock certificates that are in the
street name facilitate the transactions by brokers. When the investor
decides to sell his shares, the street certificate simply be endorsed by
the stockbroker. If it were in the investor’s name, the process would
be lengthier since it is the investor who needs to endorse it at the
back of the certificate. When shares are bought and sold frequently, it
is advisable to have them issued in street name since it will facilitate
the quick transfer of ownership.
3. What type of stocks can you buy or sell?
There are different types of stocks that you can buy or sell at the Philippine Stock Exchange (PSE): common stock, preferred stock, cumulative preferred stock and convertible preferred stock. The difference depends on the right and privileges which you receive as a stockholder.
The majority of securities traded in the PSE are common stocks. Common stocks are
usually purchased for participation in the profits and control of
ownership and the management of the company – they have voting rights.
Common stock holders are entitled to an equal pro rata division of
profits without preference or advantage over another stockholder.
However, they have the last claim on dividends and are the last to
collect in case of liquidation. Common shares can be classified into
class A and class B shares. Class A shares are reserved to Filipino
investors, while Class B shares are open to foreign investors as well as
Filipinos. Thus, Filipinos can own both classes while foreigners can
only avail of Class B shares. Both classes have the same privileges and
rights, and receive the same amount of dividends.
Preferred stocks are
another type of securities issued by corporations. Its name is derived
from the preference given to the holders of this stock over holders of
common stocks. Holders of the preferred stocks are entitled to receive a
fixed minimum amount of dividends (expressed either in pesos or as
percentage of the stock’s par value), to the extent declared by the
company’s Board and if there are sufficient retained earnings, before
any dividends are paid to the holders of common stocks.
Cumulative preferred stocks are
special preferred stocks that accumulate unpaid dividends for future
payment. Cumulative preferred stock has prior rights to dividends over
common stock; therefore the omitted cumulative preferred dividends must
be paid before the common stock dividends can be paid. Convertible preferred stocks are
preferred stocks which are exchangeable into common stocks at the
option of the holder under specified terms and conditions. The
conversion ratio specifies the number of shares the holder receives upon
surrender while the conversion price is effective price paid for the
common stock when conversion occurs.
4. What are warrants?
Warrants are another
type of investment which you can buy or sell in the stock market. By
definition, a warrant is a security which grants the holder the right
but not the obligation to buy (in the case of a call warrant) or sell
(in the case of a put warrant), a stated number of underlying shares of
stock at a specified price during a specified period of time.
Underlying shares are
the shares, unissued or issued as the case may be, of a corporation
which may subscribed to or purchased by the warrant holder upon the
exercise of the right granted under the warrants. The number of
underlying shares a warrant holder is entitled to buy or sell for every
warrant he holds is known as the conversion ratio. The exercise period specifies the life of a warrant while the expiration date is the date at which the warrant expires. The exercise price is the stipulated stock price at which the holder can buy or sell the underlying.
Warrants can be issued
in a number of ways: (a) as part of an initial public offering; (b)
attached to a rights issue; (c) attached to bonds; or (d) as stand
alone. In the case of debt or equity offerings, warrants are used as
“sweeteners” to enhance marketability of the issuances. Under the SEC
Rules Governing Warrants, Issuers or warrants may be the issuer
of the underlying shares or an entity other than the company underlying
the warrants and may be in the form of:
a) Subscription Warrant – a warrant which grants the right to subscribe to the new or unissued shares of stock of the Issuer;
b) Covered Warrant – a
warrant which is issued by a party other than the Issuer of the
underlying shares and whose performance of obligation is secured by the
deposit of the underlying shares for the Covered Warrant with an
independent Trustee which is a reputable commercial bank;
c) Non-collateralized Warrant –
a warrant issued by a party other than the Issuer of the underlying
shares and whose performance of obligation is not secured by a deposit
of the underlying shares. Instead, the Issuer normally adopts hedging
strategies to provide for its obligations during the life of the
Non-collateralized Warrant.
Even if the trading of
warrants is relatively new in the Philippine stock market, it has gained
some popularity. Currently, there are eight (8) warrants listed at the
PSE. The warrant holder has the chance to have the same exposure in the
market, as with buying the stock itself, using lesser amounts of money
and the advantage of having more time, i.e. exercise period, in which to
raise money to purchase more shares (the underlying stock). Also, the
investor is protected from the downside risk of the underlying stock’s
price depreciation since the exposure of their money is limited to only
the price of the warrants.
Currently the PSE settles trades on
T+4, i.e., four (4) days after the transaction date. Therefore, payments
and/or securities must be delivered to your broker on or before 1:00
p.m. of the fourth trading day following the sale. Be sure to always
verify the settlement deadline with your broker for future developments.
Limited liability and last claim to the company’s assets liquidation
If the company in which you own stocks goes bankrupt your total loss as
a stockholder is limited to the amount that you paid for the security.
You have the claim against the company’s remaining assets; however, your
is the last behind all other creditors, such as suppliers, employees
and bondholders. The biggest risk you face is the loss of capital that
you have invested because the company’s stock becomes worthless. Neither
the corporation, the banks from which it borrowed money, nor the
bondholders to which it owes money have any claims on your personal
assets.
5. Where can you buy or sell stocks?
The stock market is the place where shares of stock are traded while the stock exchange is
the organization that provides the facilities for the buying and
selling of securities. The trading floor is the place where
member-brokers trade daily. The Philippine Stock Exchange (PSE) is the
only operating stock exchange in the Philippines and has two trading
floors located at the PSE Centre in Pasig City and at the PSE Plaza in
Makati City.
Trading at the two trading floors or
PSE is electronically linked by a computerized trading system, the
MakTrade System, which uses the single-order-book system where all the
orders are posted and matched in one computer. All trade orders entered
by brokers in behalf of their clients are matched with the best bid/best
offer (BBO) regardless of which floor orders originate.
6. When can you buy or sell stocks?
Trading at the PSE is from 9:30 a.m.
to 03:30 pm (12-1:30 market recess) in a continuous session daily,
except Saturdays and Sundays, legal holidays and days when the Banko
Sentral ng Pilipinas (BSP) Clearing Office is closed.
7. Who can buy or sell stocks?
As the organization that facilitates
stock trading, the PSE is not directly involved in the buying and
selling of securities. It is the Members (also known as member-broker or member-firms)
who can buy or sell stocks for the investors since they are authorized
and licensed by the Securities and Exchange Commission (SEC) to transact
business as a broker and/or dealer or securities.
A stockbroker acts as an agent or
middleman between the investor and other buyers/sellers. As an
intermediary, the stockbroker executes orders for clients, purchasing or
selling the stocks on the stock exchange. On the other hand, a dealer
acts as the principal rather than an agent – buying and selling for
his/her own account.
An individual or corporation is considered a PSE Member once they have acquired a “membership seat” and have met all the set requirements for membership. Each Member is entitled to one seat which can be bought from an existing Member or from the Exchange.
8. How can you buy or sell stocks?
a) Choose a stockbroker.
In choosing a broker, you must also see to it that the broker (person
or corporation) is a member of good standing at the Philippine Stock
Exchange. A complete listing of the PSE member-brokers can be found in
various publications or from the PSE Membership Department. It is
important that you trust your broker and that you are satisfied – with
the services it is giving you. Broker services include market reports,
advice regarding stock selection and timing of purchases and sales,
trade executions, on time delivery of important documents – such as
confirmation receipts – and other trading-related activities that the
client may require.
b) Open a brokerage account.
Once the investor has chosen his brokerage firm, a brokerage account
has to be opened. This account allows the client to perform stock
transactions (buy and sell shares) any time – similar to bank account
which enables you to deposit, transfer and withdraw money.
Opening a brokerage account is
relatively easy to accomplish and takes not longer than opening a bank
account. A specimen signature card needs to be filled out, containing
the: name, address (professional and private), telephone number(s), and most importantly, the client’s signature. Frequently, bank and professional references have to be submitted.
Once an account has been opened, the
client may buy or sell immediately according to the trading
instructions between the investor and broker. Trading instruction can
vary depending on the investors’ objective – whether it is short-term or
long-term, minimum or maximum value of trades (trading limit), etc. All
transactions are handled confidentially and the broker will not reveal
to any person the details of any purchases or sales done for his client.
c) Place your order with your broker.
After opening the account, a trader will be assigned to the investor. A
trader is a licensed salesman who is authorized to buy and sell
securities at the PSE. The assigned trader will be your contact person
for all the transactions. He/she will receive your order, most likely by
telephone (unless arrangements are made), and will execute the order
through the trading terminal connected to the main system of the
Exchange.
Thus, when placing an order to buy
or sell, you have to call your trader and give the details of your
order. The trader need to know the following specifications: buy or
sell order, which stock to buy or sell, the number of shares to buy or
sell, and preferably also the bid price (when buying) or asked price
(when selling).
d) Settle your transaction. Buying
and selling transactions are settled by book-entry. This means the
ownership of shares and cash is transferred electronically to the
brokerage account, without the stock certificates and cash being handed
over physically. The account is credited when buying shares, and debited
in the case of selling shares.
The paperless or scripless trading,
now in place, has eliminated the physical handover of stock certificates
when buying or selling. The system replaced the scrip-based system
where stock certificates are handed over for transfer for the next
owner, which may take more then 3 to 4 weeks. Instead, stock
certificates are simply immobilized and kept in a safe place – the
Philippine Central Depository, Inc. The book-entry system clearly
advantages over the paper-based system. It has dramatically reduced
paper work, facilitated the trading and eliminated the loss or forgery
of shares.
9. What is the minimum amount you can invest in the stock market?
The minimum amount of money needed
to invest in the stock market depends on the minimum amount of shares to
be traded for the stock. This minimum amount will be determined by the
prevailing market price of a particular stock. For each stock the
minimum amount of shares to be traded is fixed and depends on the price
range of the stock, as shown in the table below (otherwise known as the Board Lot Table).
To determine the minimum amount of shares, the investor takes the
market price of the wanted stock, looks for the price range in the table
below reads the minimum amount of shares in the same row.
Table 1
Board Lot Table
Minimum Amount of | ||||||
Price ranges
| Shares | |||||
| 0.001 |
to
| 0.0024 |
1,000,000
| |||
| 0.0026 |
to
| 0.005 |
1,000,000
| |||
| 0.0055 |
to
| 0.01 |
1,000,000
| |||
| 0.011 |
to
| 0.025 |
100,000
| |||
| 0.026 |
to
| 0.05 |
100,000
| |||
| 0.0525 |
to
| 0.10 |
100,000
| |||
| 0.105 |
to
| 0.25 |
10,000
| |||
| 0.26 |
to
| 0.50 |
10,000
| |||
| 0.51 |
to
| 1.00 |
10,000
| |||
| 1.02 |
to
| 2.50 |
1,000
| |||
| 2.55 |
to
| 5.00 |
1,000
| |||
| 5.10 |
to
| 10.00 |
1,000
| |||
| 10.25 |
to
| 25.00 |
100
| |||
| 25.50 |
to
| 50.00 |
100
| |||
| 50.50 |
to
| 100.00 |
100
| |||
| 101.00 |
to
| 250.00 |
10
| |||
| 252.50 |
to
| 500.00 |
10
| |||
| 505.00 |
and
|
upward
|
10
| |||
For example, an investor
wishes to buy a stock whose market price is P100.00. This price is in
the P50.50 to P100.00 price range; consequently, the minimum number of
shares to be bought at a regular transaction is 100 shares. In this
case, the minimum amount of the investor needs is just about P10, 000.00
(100 shares x P100.00 share price) exclusive of other charges for
buying stocks.
For shares in the lowest range
(from P0.001 to P0.0024) a minimum of P1, 000,000 shares have be
bought. If the share price is P0.001, the minimum capital outlay is P1,
000.00 (P0.001 x 1,000,000 shares).
10. What charges will you incur in buying and selling stocks?
Brokerage commission. When
buying and selling listed securities, the brokerage firm always acts as
an agent between you, the buyers and sellers. His function is to
execute the client’s order and to give advice when required. For the
services rendered, the brokerage firm charges its clients a commission.
When you buy stock, the brokerage firm adds the commission to the value
of the shares bought. When you sell shares, the commission is deducted
from the proceeds that you receive. The maximum fee is 1.5% of the gross
value of the transaction (i.e., the number of shares multiplies by the
price) plus 10% value added tax (VAT). This means that 10% is added to
the brokerage commission to be paid with a maximum of 1.65% (1.5% +
10%).
Transfer fee. A
transfer fee of P100.00 plus 10% VAT is charged to the buyer by the
transfer agent for every security traded. The transfer agent maintains
the ledgers for each issuer the company showing the details about each
registered stockholder. It also has the responsibility to cancel the old
certificates and change the name when the shares have been sold.
Cancellation fee. Sales transaction and/or direct transfers are subject to a cancellation fee of P20.00 per bearer certificate plus 10% VAT.
Philippine Central Depository (PCD) fees. For
the book-entry-settlement system, buying and selling transactions are
subject to an ad valorem rate of 0.00009174 (inclusive of VAT), without
any maximum or minimum amount, in lieu of transfer fee and cancellation
fee. If the client buys a PCD-eligible issue and still wants a stock
certificate issued to his name, he must pay the PCD ad valorem charge, a
P25.00 upliftment/withdrawal fee per request and transfer fee. Also, if
a client sells a PCD-eligible issue and still has the stock certificate
for delivery to the broker, he is charged with the PCD ad valorem rate
and a cancellation fee.
Documentary stamp tax. The
documentary stamp tax is charged to the buyer on every purchase
transaction at the rate of P1.50 for every P200.00 par value of the
stock being transferred or a fraction thereof.
Stock transaction tax.The
stock transaction tax is charged to the seller for every sale of stocks
listed and traded on the Exchange at the rate or ½ of 1% of the value
of transaction, in lieu of the capital gains tax.
It should be noted that these tares
are subject to changes. Please ask your brokerage firm for the current
tax rates and charges.
Illustration 1: Buying securities
If we assume that an investor buys
2,000 shares of stock at a market price of P5.00 per share with a par
value of P1.00, the computation for the total cost of the transaction is
as follows:
| Investment cost (2,000 shares x P5.00) | P10, 000.00 | ||||
| Add: | |||||
| Brokers' commission (10,000.00 x 1.5%) |
150.00
| ||||
| 10% VAT on brokers' commission |
15.00
| ||||
| Transfer fee |
100.00
| ||||
| 10% VAT on transfer fee |
10.00
| ||||
| PCD fee (10,000.00 x 0.00009174) |
0.92
| ||||
| Documentary stamp tax | |||||
| [(2,000 shares x P1.00) x P1.50] |
15.00
| ||||
200
| |||||
| Total cost of the transaction | P10, 290.92 | ||||
This computation will be
reflected on the Confirmation of Purchase which contains the details of
the buying transaction and which will be delivered by the broker to his
client.
Illustration 2: Selling securities
For an investor who sells 500 shares at a market price of P20,00 per share, the computation is as follows:
| Sale proceeds (500 shares x P20.00) | P10, 000.00 | ||||
| Less: | |||||
| Brokers' commission (10,000.00 x 1.5%) |
150.00
| ||||
| 10% VAT on brokers' commission |
15.00
| ||||
| Stock transaction tax (10,000.00 x 0.005) |
50.00
| ||||
| Cancellation fee |
20.00
| ||||
| 10% VAT on the cancellation fee |
2.00
| ||||
| PCD Fee (10,000.00 x 0.00009174) |
0.92
| ||||
| Net amount to be received |
P9, 762.08
| ||||
This computation will be
reflected on the Confirmation of Sale which contains the details of the
selling transaction and which will be delivered by the broker to his
client.
11. What are your rights as a stockholder?
As part owner of the corporation, stockholders are granted several rights.
Rights to receive dividends When
dividends are declared by the company’s Board of Directors,
shareholders are entitled to these dividends, but in proportion to the
number of shares held. However, shareholders cannot claim dividends when
the company decides not to declare any.
Voting rights
The common stockholders have the right to vote and to decide on a broad
range of corporate issues, e.g. reorganizations, mergers, issuance of
new stock and, last but not the least, the election of the company’s
Board of Directors at the stockholders’ meetings.
Pre-emptive right
This is the right given to existing stockholders to purchase additional
shares before they are offered in the general public, usually at a
lower price. For example, a corporation decides to issue additional
shares to the public and gives the right to all of its stockholders to
subscribe to the new shares at the ratio of 1:2. For every 2 shares
owned, present shareholders have the option to buy one additional share,
if they so desire.
12. How can you make money in the stock market?
As owner of a corporation’s share of stock or stockholder, your return can come from either dividends or capital gains.
Dividends are periodic
payments made by the company to its shareholders from its current and
past profits. It is paid in either of two ways. The first and most
common method is cash; the second method is known as stock dividend.
Cash dividend
This income is computed by multiplying the number of shares held by the
cash dividend rate declared. For example, if a company declares a P0.25
per share cash dividend to tits shareholders, a stockholder with 10,000
shares of stock will receive a cash dividend income of P2,500 (P0.25 x
10,000).
Stock dividend
This dividend is given to shareholders in the form of additional
stocks, instead of cash. For example, a company with one million
outstanding shares declares a 25% stock dividend. A stockholder who owns
10,000 shares will receive an additional 2,500 shares (355% of 10,000)
for free as a stock dividend. This stockholder now owns 12,500 shares.
Dividend payments are not automatic.
All dividends must be declared by the company’s Board of Directors, but
it is the decision of the company whether to declare dividends or not,
the amount and when it will be paid. Usually, the higher the company’s
profit, the higher the dividends paid to the stockholders. But if the
Board decides not to declare a dividend, the common stockholders receive
nothing. Common stockholders cannot demand dividend payments even if
the company is profitable.
Capital gains
This results form capital appreciation, or an increase in the market
value of the stock you own. For example, an investor buys 10,000 shares
of stock at P2.00 per share. After several weeks, the market price of
the stock increases to P3.00. If the investor decides to sell all his
shares, he will be getting a total value of P30, 000 which represents a
50% capital gain form his purchasing value of P20, 000. Thus, capital
gains are profit made due to an increase in the market price of a stock
form the purchase price.
The combination of the dividend income and the capital appreciation made constitutes the total return. The
nominal rate of return is calculated by assign up the cash dividend
income and the capital gains (pr losses) and dividing the sum by the
purchase price.
| capital appreciation + dividend income | |||
| nominal rate of return = | ---------------------------------------- | (in %) | |
| purchase price of the stocks | |||
For example, a company declares a
cash dividend of P5.00 annually. In the meantime, the stock price
reaches P30.00 form a purchase price of P20.00 a year ago. An individual
who owns shares of stocks of the company and sells his 100 shares after
receiving the cash dividend, has a total return of P1,500 (P5 x 100
+P10 x 100). The total rate of return would be 75% or P1,500 divided by
the purchase value of P2,000.
13. How do you collect information about stocks?
Having placed an initial amount in
stocks, the next step is to keep track of the stock price and to follow
closely the developments of the company. It would not be wise to put
your stock certificates in a safe and have them locked away for years.
There have been too many cases of companies that performed badly for
years, or even worse – got bankrupt. It would be too bad for an investor
to discover after years that the shares have little or no value
anymore.
A wise investor always keep track,
on a regular basis, of the sock price and the company’s performance.
This way, an investor is able to foresee possible consistent poor
performance and low profits as well as consequently low stock prices.
One of the most important factors influencing the amount of success
achieved by an investor is the quality of information used to make
investment decisions.
Investors should therefore spend
some time and effort in studying their investment and keeping up-to-date
with the developments in the company, the industry and the economy.
Stock market information
For price and other stock market information, investors can rely on the
following sources: stockbrokers, Philippine Stock Exchange, media
(newspapers, television and radio), and information service companies
(i.e., Bloomberg, Reuters, Technistock, etc.)
Daily quotation of stock prices can
be obtained from your stockbroker. Investors can call their broker any
time to inquire about the status of the stock market which includes
stock process, closing and opening prices, bid and asked prices, and
traded volumes. Usually brokers can also provide you with reports on the
company and industry analyses which give you an in-depth look into the
performance of a particular corporation, industry or sector that will
lead to an advice to buy, hold or sell.
Stock price information can likewise
be obtained from the Philippine Stock Exchange. It also keeps a copy if
all corporate statements that have to be disclosed to the public and
the PSE as part of its disclosure requirements. Annual, semi-annual and
quarterly reports have to be submitted to the PSE on a regular basis by
every listed company. These reports and other financial statements are
kept in the PSE library and are available to the public.
In addition, the PSE Research and
Public Information Department issues statistical Weekly and Monthly
reports and Fact Book in a regular basis. These contain among others,
trading statistics, the composite index and sectoral indices, market
capitalization of listed companies, volume and value traded. These
publications are available at the PSE Library. The Library is open daily
form 8:00 a.m. to 12:00 noon and from 1:00 p.m. to 5:00 p.m., except
Saturdays, Sundays, and legal holidays. Also, these publications are on
sale at he Public Information and Assistance Center in Pasig City.
Most leading daily newspapers cover the stock market and publish the previous days closing prices and traded volume.
For more in-depth news about the
stock market, investors can turn to TV programs which gives updates
about the company, the various industries and particular companies while
stock price information is shown simultaneously. “Stock market Live” on
Channel 21 (Sky cable) covers the stock market every morning during
trading hours.
Those who have a computer can access
the World Wide Web for the latest stock market information. Numerous
brokerage houses provide closing prices as well as the composite index
and the indices of the different sectors. And give background
information about the stock market along with the market
recommendations. You can visit the PSE at http://www.pse.org.ph.
Information about a listed company
Apart from keeping track of the stock prices and other indicators, the
investor should likewise monitor closely the companies he/she invested
in. The financial performance, dividend declarations, future outlook,
the management of the company, corporate developments, development plans
– in short, anything that could affect stock process – should be looked
into. The following sources of information can be consulted for company
analysis:
Corporate annual reports.
The annual reports of a corporation are probably the best source for
facts about a company. The most valuable information contained in these
reports are the financial statements, the company overview, the
achievements and developments, and future prospects.
Prospectus.
When a corporation wants to issue new shares to the public, it must
prepare a complete report about he company’s activities and development
plans, called a prospectus. Particularly, the prospectus must
mention how the raised funds will be used and attributed, This report is
generally detailed and contains accurate information since it has to be
approved by the Securities and Exchange Commission before the company
is allowed to issue the shares.
A copy of the annual report and the
prospectus can be obtained from the issuing corporation or from the
underwriter. Copies are also available at the PSE Library or form your
broker.
Another source of information are
company reports prepared by brokers’ research staff. Full-service
brokers regularly analyze listed companies and consolidate their
findings in a report which is usually available to their clients.
14. What do you need to do before you invest?
Before making any investment, you
must first evaluate your current and potential means, and determine the
goal or purpose of making the investment. Every investor should ask
himself the following questions before making the first purchase:
“How much money do I have to invest and can I afford to invest without adversely affecting my life-style?”What
you want to invest may be quite different from what you have to invest.
It is true that the bigger your investment, the bigger the possible
capital gains. Consider an annual rate of return of 20%. If you had
invested P100,000 you would have gained a profit of P20,000. But an
investment of P500,000 would have yielded P100,000. Therefore, it might
be tempting to put as much money as possible in the stock market to get
rich quickly. Butt investors should only invest extra money; they should
not borrow to be able to purchase more shares. Remember that stock
investment carries a certain risk. Stock priced can very substantially
from day to day. Borrowing money acts as leverage: if stock prices are
increasing, the profits realized will be higher due to a bigger initial
investment. But what if stock prices are declining and you are incurring
a capital loss? There might not be enough money left to repay the
borrowed money in the stock market – money in excess of that required
for their living expenses, savings, the necessary insurance coverage and
cash reserves for emergencies. Determining your capital available for
investing should be considered first.
“What is the purpose of my investment?” To
generate cash immediately or to build capital? For receiving dividends
or for capital appreciation? For a child’s education or your retirement?
For short-term benefits or long-term gains?
“How much return would you accept as reasonable for your investment?” Be realistic about the returns the stock market can give you. Don’t expect extraordinary returns.
“How much risk am I willing to accept?” Stated
differently: How much money are you able and willing to risk. Each
individual should set a limit and be prepared to get out of his stock
when the limit is reached.
These are the questions you must
answer before making any investment. Based on the answers, a particular
investment strategy has to be designed to achieve those goals. More
specifically, investments instruments have to be chosen – stocks, debt
securities and deposits – that will give you the expected return at the
desired moment, and with their specific risk characteristics.
These are the questions that your
broker will ask in order to create your financial profile. It becomes
part of the information he or she considers when making investment
recommendations and selecting specific financial assets.
Investigate before investing. Investors
should spend some time ____________________________________ and
particular stocks to invest in. It is not advisable to put your money
into any stock without first looking at the corporation. Issues that
have to be looked into are: market share and sectoral importance, the
financial performance of the company as shown in the annual and other
financial reports, the management, development plans, growth
opportunities, etc. Please ask your broker for assistance in selecting
the stocks.
Diversify your portfolio. Diversification
is the opposite of “putting all your eggs in one basket,” a practice
that is as risky as putting all your funds in one stock. Although
temptation of putting everything into one stock might be very great,
especially when the price is moving upward, it should be avoided. It is
one of the basic rules in stock market investing. Diversification, on
the other hand, is the investment strategy of investing in different
industry sectors and if possible, different stocks from different reduce
your risk considerably.
Don’t rely on rumors. Frequently,
rumors circulate in the stock market, especially when there is heavy
trading. At such times, people launch rumors as to where the stock price
will go, often to make money out of it. Rumors and hearsay should be
carefully checked and verified by the investor. Consider the source and
the motive behind the launching of the information and never act on the
basis of a rumor that cannot be verified.
Monitor your investments. As
discussed in number 13, having placed an initial amount in stocks, an
investor should now keep track of the stock price and the company’s
performance on a regular basis. Only in this way you are able to foresee
possible consistent poor company performance which will be reflected in
low stock prices. Investors should therefore keep up-to-date with the
developments in the company, the industry and the economy.
Don’t be greedy. The
principle of making a profit in the stock market is simple: buy low
sell high or buy when the stock is inexpensive and wait till its price
increases to sell. But investors should not try to buy at the bottom or
sell at the top. It is difficult to foresee when the stock price has
reached its bottom or top. Even trained experts with the best tools
cannot accomplish this feat frequently. Instead, investors should set
objectives in terms of expected return and profit and act accordingly.
When the stock is still rising and the investor feels that the price has
reached the desired level yielding the expected profit, it is time to
start selling. He should not cling onto his shares for that extra bit of
profit. For at the peak many investors will get nervous and start
selling, pulling down prices sharply and quickly. When this happens, it
may be difficult to sell, resulting in a lower-than-expected gain or
profit. Greed in this case, will cause much disappointment. Investors
should therefore sell according to the previously set profit objective
and not wait for the very last moment. Simple: don’t be greedy.
Limit your risk. Remember
that stock investments are subject to risk. Very few people like to
sell at loss and, consequently, hold on their shares, even when the
stock price keeps falling. A better attitude would be to limit and
manage your risk. A maximum level of loss should be set (e.g. 20% stock
price decrease) and get out of the stock when this level has been
reached. In that way, a further loss of capital is prevented, which can
be used for other investment opportunities.
16. What are the risks involved in stock market investing?
All financial assets carry some risk
– the risk that the actual return might be lower than expected or
promised. However, the risk characteristics are distinct depending on
the type of investment instrument.
Fixed-income securities, such as
bonds, preferred stocks and convertible securities, generally carry a
low level of risk. The buyer of these assets know in advance how much
interest payment he will receive at the end of each month. This is true
for treasury bills, savings, and time deposits, and to lesser extent,
also dollar deposits. The risk is related to the failure of the
financial institution – bank, private company or government – to pay the
promised interest at regular intervals. When a bank goes bankrupt, its
assets might not be sufficient to pay all the debts, including the
interest to the account holders. They will receive less, or nothing at
all. Likewise, when the government’s deficit becomes too large, it might
not be able to pay the holders of treasury bills the promised interest.
Fortunately, private and government organizations have generally proven
to be able to hold their promises and repay the money they borrowed.
The returns from stocks, however,
are less predictable. Remember that stock provides potential income in
the form of cash dividends and capital gains when the stock price
appreciates. As outlined earlier, cash dividend payments are not fixed.
It depends on the Board of Directors of the company if dividends will be
paid out, the amount of it and the time. Therefore a stockholder is
never sure of the cash dividend he will receive. This is the first type
of risk he encounters when buying stock.
Secondly, the capital gains an
investor is entitled to depend on the price movement of the stock. Since
stock process can be very volatile, i.e. can vary substantially from
one day to another, the increase in the market value of the shares held
varies too. As history has shown, stock prices can speed up, but can
also take a sharp dive. As stock prices go down, the capital gains
decrease, or even result in capital loss. Thus, this type of risk refers
to the volatility of the capital gains. Together, the variability of
the cash dividends and of the capital gains constitutes the total risk
of stockholder.
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