- After-Hours Trading
After-hours trading, sometimes called extended trading, is trading undertaken on electronic market exchanges either before or after regular trading hours.
In the United States, pre-market trading occurs between 8:00 a.m. and 9:30 a.m. Eastern Time (ET), and after-hours trading typically occurs between 4:00 p.m. and 6:30 p.m. ET. After-hours trading is usually abbreviated on message boards with the acronym AH.
Until recently, after-hours trading volume was relatively low. However, the volume of extended trading has exploded, as online trading and related computer technologies have become more prevalent and the markets have grown more international.
Once the preserve of big institutional investors who had the confidence to deploy unorthodox methods, after-hours trading is increasingly being adopted by retail investors, who are becoming more comfortable with the interconnected electronic communications networks that make it possible to trade at unconventional hours. Online trading is less of a novelty and more commonplace, removing the mystique of after-hours trading.
After-hours trading allows nimble investors to act quickly to major events that are investment "catalysts," such as sudden corporate misfortune, political turmoil overseas, terrorist attacks, etc.
Trading before or after the markets officially open allows instantaneous investment decisions that are pegged to the latest developments. A caveat is that after-hours trading can be subject to the emotional whims and fears of less-seasoned, smaller investors—consequently, veteran pros on Wall Street sometimes derisively refer to after-hours trading as "amateur hour," a play on the AH acronym.
- Average Up
Buying more of your best stocks, also called averaging up or pyramiding, is something most great investors through the years have practiced. However, like any tool, it can also be dangerous if misused.
The most important key is to buy smaller and smaller amounts on the way up—hence the term pyramiding, which obviously starts out with a wide bottom (your initial purchase) and gets narrower and narrower toward the top (your follow-up buys). Averaging up in this fashion ensures that your average cost doesn't run up too fast, yet allows you to funnel more money into a potential big winner.
Some investors prefer to average up any time the stock rises a certain amount from their previous purchase price, while others like to wait for specific chart set-ups. There is no one right way to do it, just be sure that whatever strategy you employ, it works for you—you'll be heavily invested in some stocks using this method, which means the upside and downside will be sharper.
- Bear Market
A bear market is defined as one in which each successive decline carries the market to new lows. Falling prices and growing pessimism characterize a bear market.
- Benjamin Graham
Benjamin Graham (May 8, 1894–September 21, 1976) was an American economist and investor. He was born in London, graduated from Columbia University at the age of 20, and became Warren Buffett’s teacher in 1950.
Graham is the author of The Intelligent Investor, a seminal book on value investing that Warren Buffett called “by far the best book on investing ever written.” Buffett was just one of Graham’s disciples. Graham also taught or influenced Mario Gabelli, John Neff, Michael Price and John Bogle.
Why do we have an investment newsletter named after Benjamin Graham at Cabot? First, Graham is widely celebrated as “The Father of Value Investing.” He created the process of evaluating companies to find their intrinsic value. Graham could thereby purchase companies with undervalued stock prices and avoid buying companies with over-inflated prices.
Cabot Benjamin Graham Value Investor recommends stocks based on the Benjamin Graham investing system. Graham analyzed every company according to seven factors: profitability, stability, earnings growth, financial position, book value, dividends and price history. He analyzed every potential investment based on these factors to determine which companies were clearly undervalued.
A key concept of the Benjamin Graham system is the Margin of Safety, which is achieved by buying a stock only when it falls below its maximum buy price. That price is calculated using the metrics that determine the intrinsic value of a company. Strict adherence to the rule of buying only below the maximum buy price will minimize potential losses while maximizing potential profits.
In essence, Graham developed a whole new approach to investing based on principles of measuring a stock’s price versus its intrinsic value. For nearly a full century, that approach has beaten the market. Since 1926, the Benjamin Graham value investing approach has achieved average annual returns of 20% a year.
- Bond Ladder
Bond ladders are a way of creating your own adjustable-rate income stream, by buying a series of bonds or bond funds with staggered maturity dates. Then, as each security matures, you reinvest the proceeds in a new security at the top of ladder, which becomes your new longest-dated security. If interest rates are rising, the new investments will have higher coupon rates than the investments rolling off the bottom of the ladder, and your yield will gradually rise.
For example, if you wanted to create a bond ladder today, you could buy bonds maturing in 2019, 2020 and 2021. When your 2019 bond matures, you would invest the proceeds in a 2022 bond, which will most likely be offering a higher interest rate than currently-available bonds.
While longer-term bonds yield more, shorter-duration fixed income investments carry less interest rate risk. In other words, if you expect rates to go up soon, you'll want your longest-dated bond to still mature fairly soon (probably within five years) so you're not stuck holding a bunch of very low-yield fixed income investments for a long time.
The most important part of creating a bond ladder that will preserve your capital and work in a rising rate environment is that you only buy individual bonds or defined maturity bond funds. Unlike standard bond funds, bond funds with maturity dates preserve the principal guarantee you get with individual bonds, or the promise that you'll get your original investment back when the security matures. For most investors, Guggenheim's BulletShares ETFs are the simplest way to construct a bond ladder. The ETFs come in both investment-grade and high-yield versions, with maturity dates from 2018 to 2027.
The BulletShares ETFs mature on the last trading day of the year in the name of the fund, at which time Guggenheim distributes the NAV of the fund to shareholders. You can keep your bond ladder intact by reinvesting that cash into a new longest-dated fund. This will maintain your income stream-and if rates are rising, it will grow over time.
What are Bonds?
As with any investment, you have to know what to look for in bonds, but once you do, you can achieve the steady and safe income steam you desire.
The U.S. Securities and Exchange Commission describes bonds as "a debt security, similar to an IOU. Borrowers issue bonds to raise money from investors willing to lend them money for a certain amount of time." What this means is that individual bonds give you the promise that you’ll get your original investment back when the security matures, along with any additional funds derived from interest.
Bonds are issued in a variety of ways. There are U.S. Treasury bonds, municipal bonds, and fixed-rate bonds. You can buy baby bonds (they’re called baby because they’re issued in $25 increments so the average investor can buy them), bond funds, short-term bonds, and long-term bonds.
The real question is whether or not they are good additions to your portfolio. Certainly, bonds are a low-risk way to invest. And even investing guru Benjamin Graham believed in the power of bonds, writing in The Intelligent Investor, "“We recommend that the investor divide his holdings between high-grade bonds and leading common stocks; that the proportion held in bonds be never less than 25% or more than 75% with the converse being necessarily true for the common-stock component.”
Aside from fixed-rate bonds, however, most bonds yields can fluctuate significantly as the interest rate rises and falls. And while bonds were once a staple of a retirement portfolio, they just don’t fulfill the needs of retired investors any more. Interest rates are so low they don’t provide enough income to live off of, and most bonds will probably lose value over the next few years.
One way around this issue is to construct a bond ladder.
Bond ladders are a way of creating your own adjustable-rate income stream, by buying a series of bonds or bond funds with staggered maturity dates. Then, as each security matures, you reinvest the proceeds in a new security at the top of the ladder, which becomes your new longest-dated security. If interest rates are rising, the new investments will have higher coupon rates than the investments rolling off the bottom of the ladder, and your yield will gradually rise.
While longer-term bonds yield more, shorter-duration fixed income investments carry less interest-rate risk. In other words, if you expect rates to go up soon, you’ll want your longest-dated bond to still mature fairly soon (probably within five years) so you’re not stuck holding a bunch of very low-yield fixed income investments for a long time.
Another solution is to is to craft a personalized combination of dividend-paying stocks. The hundreds of dividend-paying stocks traded on major exchanges makes it easy it tailor a portfolio to your risk tolerance and income needs. Just take a foundation of 2%- and 3%-yielding blue chips and dividend aristocrats, add some undervalued stocks with temporarily high yields or dividend-growers to boost your yield in the future, and then top off with a sprinkling of riskier but higher-yielding investments.
To learn more about stocks and bonds, download your FREE report, How to Invest in Stocks and Other Investing Basics, today. This report will help you take the mystery out of investing and give you the information you need to start investing on your own.
- Bull Market
A bull market is defined as one in which each successive advance of the primary trend peaks higher than the one preceding it. A bull market is characterized by rising prices and growing optimism.
- Buy On Stop
A “buy-on-stop” is a trade order used to limit a loss or protect an existing profit. It is a buy order marked to be held until the market price rises to the stop price, then to be entered as a market order to buy at the best available price.
The buy-on-stop price always is set above the existing market price. This type of trade is sometimes called a "suspended market order,” because it remains suspended until a market transaction triggers the stop.
Buy-on-stop orders can be used for long and short positions. For long positions, it allows investors to take advantage of anticipated market upswings, and to minimize risk, without frequently monitoring the investment or the market.
When short selling, the investor can choose implement a buy-on-stop order, as a way to protect against losses if the price shoots too high. When an investor "shorts" a stock, he is betting that the stock price will drop, so he can return the borrowed shares at a lower price (called "covering").
Technically speaking, buy-on-stop orders exemplify a method of engaging in a purchase request for a security that carries the stipulation that the request be held until the current market price for the security is equal to the stop price for that particular asset.
Let's say that for the past several weeks, the price of a stock has risen from 3.00 per share to 5.00, and is now trading within a range of between 4.50-5.00. You've determined that the stock will probably move higher and you'd like to make money on this prediction, but only if the stock actually breaks out of its trading range.
Rather than keeping your eye on the stock every day, you can implement a buy-on-stop order at, say, 5.10. If the stock actually does move higher and break out of its trading range of 4.50-5.00, your order will be triggered once the price reaches 5.10, thereby becoming a market order to buy shares of the stock.
If the stock doesn't break out and move higher and instead starts to drop, your order would not get triggered.
Typically, these orders are used when an investor has determined that the market price for a certain type of security is on the verge of entering a period of growing value. This principle works in reverse, when short-selling. A buy-on-stop order is a risk-hedging strategy that allows you to secure an asset when and if the market price begins to rise, but it obviates the need to continually monitor the security's activity.
- Call Options
Call options give the buyer the right to buy 100 shares at a fixed price (strike price) before a specified date (expiration date). Likewise, the seller (writer) of a call option is obligated to sell the stock at the strike price if the option is exercised. (Also see: options trading)
- Canadian Stocks
Canada often gets overshadowed in the investment world. But there are plenty of reasons to invest in Canadian stocks.
Overall, Canadian stocks have not performed as well as U.S. stocks or many emerging markets in recent years. Nor is its economy growing as fast as America’s, China's or India's, with an average gross domestic product (GDP) growth of less than one percent. But Canada has some unique characteristics that are hard to find in today’s global market.
Here are five that particularly stand out:
Economic stability. What Canada lacks in economic growth it makes up for in reliability. Canada’s banking system is one of the soundest in the world. Its budget deficit is relatively modest compared to America’s, and especially when compared to sovereign debt-ridden Europe. Canada’s economy was less impacted by the 2008-09 recession, and thus didn’t have nearly as steep a recovery. And with a solid monetary policy, Canada faces less inflation risk than most countries.
Trusted banks. Moody’s Investors Services ranks Canada’s banking system No. 1 in the world for financial strength and safety. The World Economic Forum has dubbed Canada’s banking system the best in the world for seven years running. Look no further than the global financial crisis for proof of Canadian banks’ strength. During that time, no Canadian bank or insurance company failed or required a bailout. Canada’s banks operate an oligopoly, leading to higher profit margins and more government protection in times of financial drop-off.
Low volatility. Like its banks, Canadian stocks didn’t experience the same kind of drop-off the other G-7 countries experienced in the wake of the global recession. By early 2011, Canadian stocks were back trading near their pre-recession levels. Though Canadian stocks haven’t risen as fast as U.S. stocks since then, there haven’t been many big dips, either. Absent the huge gains of the U.S. and other emerging-market stocks in recent years, Canadian stocks trade at comparatively fair values.
Cheap currency. The Canadian dollar, also known as the Loonie, is historically cheaper than the U.S. dollar, thus inflating the value of Canadian exports by making them more affordable to U.S. – and other – customers. Combine that with a strong manufacturing sector and budding export presence, and there are plenty of Canadian companies that are – and will be – in strong demand globally for years to come.
Low tax rate. At just 17%, Canada boasts by far the lowest tax rate on new business investment among the G-7. That’s about half the effective tax rate of the U.S. Its corporate tax rates are also low, typically in the 26% to 27% range, depending on the province. America’s corporate tax rate is 35%. That makes Canada attractive to outside companies hoping to cut costs by relocating their operations to countries with lower tax rates. Burger King did just that when it merged with Canadian coffee-and-doughnut giant Tim Hortons in part to achieve a less cumbersome tax bill. Canada’s lower tax rates have an even larger impact on the companies that are actually based there, and less of an obstacle toward profitability.
You wouldn’t want a portfolio full of Canadian stocks. There’s better growth in other parts of the world, including the U.S. But in today’s uncertain global economy, countries with reliable banking systems and stable economies are safe places to invest.
Canadian stocks might not deliver the same returns as China or India. But they’re also less likely to go belly up if another financial crisis strikes. Cabot's Benjamin Graham Value Investor has a section on recommended Canadian stocks.
- Chinese Stocks
When seeking better-than-average growth, many investors flock to emerging markets. In emerging markets investing, Chinese stocks are your best bet.
Emerging-market economies are growing faster than the U.S. economy. Thus, investing in the companies based in those emerging markets – or the ones that derive a large portion of their revenue from emerging market sales – is a good way to earn market-beating returns.
But there’s a catch. You don’t want to invest in just any emerging market. After all, these markets are still “emerging” for a reason. In reality, the word “emerging” is a euphemism for “underdeveloped.” Anytime you invest in an underdeveloped nation, you take on an increased measure of risk – more than you would investing in an American blue-chip company.
Chinese stocks are perhaps the safest way to invest in emerging markets.
The so-called “BRIC” countries – Brazil, Russia, India and China – are considered the most powerful emerging market nations. All four have enormous (and growing) populations, stable governments and fast-expanding economies. Of that group, China has proven to be the most reliable.
China enjoyed more than a decade of double-digit economic growth based on cheap labor and massive exports, and its huge population of industrious people, directed by a powerful central government, has created a booming middle class eager to achieve the prosperity of developed nations. The country has made major investments in infrastructure and looks ready to deliver GDP growth of close to 7% (or more) for the foreseeable future.
Amid China’s economic boom, Chinese stocks have soared. Among the BRICs, only India has posted bigger gains in the last decade. India’s potential in the coming years is undoubtedly immense. However, India suffers from a political system that is chronically susceptible to gridlock, thus making its stocks less predictable – and more volatile – than Chinese stocks.
To be sure, China’s economic growth has slowed. From 2000-2010, China averaged 10% annual GDP growth. The 7% annual growth expected over the next decade-plus amounts to a fairly substantial step back. But no economy – even an emerging one – can grow at 10% a year forever. Besides, 7% is a much faster growth rate than the U.S. economy, which is expected to grow in the low single digits annually over the next 10 years.
Plus, there’s one other thing Chinese stocks have going for them. Many of them have struggled in recent years. From July 2009 until April 2014, Chinese stocks – as measured by the benchmark Shanghai Stock Exchange (SSE) – actually declined 40%, or more than 8% a year. In the long term, the pullback may have been a good thing.
A derivative is a financial instrument—or, simply put, a contractual agreement between two parties—that has a value, based on the expected future price movements of the "underlying asset" to which it is linked. The underlying asset can be a stock, bond, currency or commodity. Strictly speaking, a derivative has no value of its own. It is not an asset; it is a contract. There are myriad kinds of derivatives; the most common are options and futures.
What is a Dividend?
Want to get paid for investing? Look for a stock that offers a dividend.
Outside of your job, you probably don't get paid for most of the things you do. But investing in a stock that pays a dividend is one of the exceptions. When you buy a dividend stock, the company will pay you for owning it. And that's outside any increase (or decrease) in overall stock price.
But what is a dividend? A dividend is a bonus. An extra. It's a portion of earnings that the company pays to investors on a quarterly or yearly basis.
Here's the thing about dividend stocks, though. Some people say dividend stocks aren’t sexy. They bore the bejesus out of people. People get turned off by a boring dividend stock.
They shouldn’t. Over time, dividend stocks vastly outperform stocks that don’t pay dividends. When you buy a dividend stock, you know for sure that you’ll receive a steady stream of income. If the market crashes and the share price begins to fall, you at least have a nice 3% or 4% yield (or higher) to soften the blow.
In fact, the best dividend-paying stocks can help you reach a variety of investment goals, including protecting your wealth, generating income and reaping capital gains. Let's break that down.
Buying a stock that doesn’t pay a dividend can only reward you in one way: share price appreciation. Dividend investing, however, grows your wealth in three ways.
First, like with any stock, your portfolio increases as the price of the stock appreciates. Second, you will receive an income stream of dividend payments, which you can collect in cash or reinvest to further boost your holdings. Lastly, many companies increase their dividends over time, providing an income stream that often outpaces inflation, and greatly increasing the yield the longer you hold the investment. (Your yield is how much you earn in income every year as a percentage of your investment.)
Furthermore, companies that have the cash flow to pay regular dividends typically make safer, more reliable investments. The best dividend-paying stocks are high-quality, long-lived companies with predictable business models—they aren’t going to suddenly crash due to a lousy quarter or an adverse news event.
Bear in mind, however, that the first thing to consider regarding a high dividend, or any dividend for that matter, is whether it is safe and sustainable. Often times, a yield becomes high because the stock price has fallen considerably. A stock price usually falls because of poor operational performance, which imperils its ability to sustain the dividend.
It is generally not wise to be allured by a 8%, 9% or 10% yield on a stock that will have difficulty maintaining the dividend and is less likely to grow it. Over time, you should fare much better with a more modest high yield on a company that can sustain the payout and likely grow it over time.
To learn more about investing in dividend stocks, be sure to download your FREE copy of our report, Cabot's 5 Best Dividend Stocks.
- Dividend Aristocrats
Dividend Aristocrats are companies that have raised their dividend rates at least once every year, for a minimum of the previous 25 years.
More precisely, they constitute the S&P High Yield Dividend Aristocrats Index, an official index of the 50 highest dividend stocks in the S&P Composite 1500.
Investors can track the performance of the Dividend Aristocrats online, via the Standard & Poor’s Dividend Aristocrats page. Also, an Exchange Traded Fund (ETF) exists—the SPDR S&P Dividend ETF—that's designed to mirror the behavior of the S&P Dividend Aristocrats Index. It trades under the symbol SDY.
Income investors seeking safety and a steady stream of income gravitate toward Dividend Aristocrats. However, these stocks can't be bought and blindly maintained on automatic pilot, because extreme events can cause even the aristocrats to fall out of favor.
For example, during the Great Recession of 2008-09, many financial institutions once considered to be rock-solid dividend plays were dumped from the list. If a company fails to increase its dividends from the previous year, it is removed. This is what happened during the recent economic downturn and financial meltdown, when brand-name companies ordinarily associated with dividend stability were cut, notably Bank of America.
Typically, a so-called Dividend Aristocrat is, by its very nature, a large and relatively stable blue-chip company with a healthy balance sheet. Dividend Aristocrats are considered the "gold standard" for dividend-generating stocks and, as such, income investors seek them out. Many of the companies on the list are household names with storied pasts and ubiquitous brands, such as McDonald's (MCD) and Coca-Cola (KO).
- Dividend Reinvestment Plans
Dividend reinvestment plans, otherwise known as "DRIPs", are a way for income investors to build long-lasting wealth.
Offered by some dividend stocks, dividend reinvestment plans allow you to have your quarterly dividend payments allocated toward buying more shares (or fractions of shares) of that stock instead of being paid directly to you in the form of a check. Thus, the amount of shares you own in a given stock automatically expands every quarter when you enroll in a DRIP, so long as that company keeps paying a dividend.
You’d be amazed at how fast your money accumulates when you reinvest your dividends —especially when dividends and share prices increase over time. Consequently, DRIPs are tailor-made for the long-term investor.
- Dividend Stocks
Investing in stocks can be like buying a lottery ticket. You can have a very good reason to believe that a stock is going to rise. But ultimately, it amounts to speculation.
Investing in dividend stocks is more than speculation. It’s a good way to build long-term wealth.
Dividend stocks aren’t solely dependent on their share price rising or falling. When you buy a dividend stock, you know for sure that you’ll receive a steady stream of income—generally on a quarterly basis. If the market crashes and the share price begins to fall, you at least have a nice 3% or 4% yield (or higher) to soften the blow.
More often than not, you can trust a company that pays a dividend. Dividends are a measure of a company’s success and its commitment to shareholders. The companies that consistently grow their dividends are the ones whose sales and earnings are also growing. Companies that lose money or fail to grow are unable to consistently pay a dividend.
When a company pays a dividend—and especially if it makes an effort to increase that dividend every year—it shows that it cares about rewarding shareholders. Paying a dividend is also a savvy way to attract investors, which is why their share prices typically appreciate over time.
Dividend stocks aren’t going to make you rich overnight. But they can significantly build up your nest egg if you buy and hold them for years, or even decades.
Not all dividend payers build wealth. You need to search for investments with timelessness and longevity—companies that are sure to not only be around 20 or 30 years from now, but still thriving. Dividend stocks become more powerful, and usually make up a larger part of your annual return, the longer you hold on to them.
For example, if you had bought Wal-Mart (WMT) in April 1990, your current yield on cost would be about 19%. That means you’d be collecting 19% of the value of your original investment every year from dividends alone. If you’d invested $10,000, you’d now be collecting $1,921 in dividend payments every year.
With investments like these, it’s best to let your money work for you as long as possible.
That can mean riding out some tough times. Wal-Mart declined 23% during the 2000 bear market, for example. Selling would have saved you some money in the short term, but you also would have forfeited that 19% annual yield.
When buying dividend payers, you have two options. You can either collect the quarterly income or reinvest it to buy more shares. The latter is called a dividend reinvestment, and is an easy way to increase the value of your position without having to do much. You can always start collecting the dividends down the road when you need the income.
- Double Bottom Chart
A double bottom chart pattern is a chart pattern used in technical stock analysis to describe the fall in price of a stock or index, followed by a rebound, then another drop to a level that's roughly similar to the original drop, and finally another rebound. Consequently, the double bottom chart pattern resembles the letter "W".
This "W" pattern forms when prices register two distinct lows on a chart. However, the definition of a true double bottom is only achieved when prices rise above the high end of the point that formed the secondary low.
Put another way, the double bottom is a "reversal pattern" in an equity price's downward trend. The price drops to a floor—a "support level"—before rallying, pulling back up, and then falling to the support level again, before rising. A double bottom is characterized by two well-defined lows at roughly the same price level. Double bottoms are among the most commonly occurring chart patterns.
Double bottom patterns can be discerned within charts that are intra-day, daily, weekly, monthly, yearly and longer-term. The two lows should be distinct. According to technical analysts or "chartists," the second bottom can be rounded while the first should be distinct and sharp. The pattern is complete when prices rise above the highest high in the formation. The highest high is termed the confirmation point.
Typically, a double bottom's volume is greater on the left of the bottom than on the right. Volume usually is downward as the pattern forms and accelerates as the pattern hits its lows. Volume increases again when the pattern completes, punching through the confirmation point.
If accurately identified, the double bottom can signal a fortunate entry point for investors. To chartists, the double bottom formation indicates that the stock has reached a crucial support level and is encountering difficulty moving lower. That implies the stock has formed a low and is now positioned for an upward move.
What are Earnings?
If the stock market was a race, earnings season would be an obstacle course.
When the earnings race begins, some companies trip and fall right out of the gate. Other companies get bogged down in the mud pit. Others climb the rock wall like they're out for a leisurely Sunday stroll. And some are sitting in their lawn chairs at the finish line, sipping a victory drink like they do this every day.
But what exactly are earnings? And what is earnings season? Earnings season is the name given to the period after the end of a calendar quarter when many companies let everyone know how they’ve been doing in the past three months. During the three earnings seasons that begin in April, July and October, public companies must report to the Securities and Exchange Commission, detailing their sales, cash flow, earnings per share, expenses, cash on hand and other interesting numbers.
For most companies, these (usually) unaudited earnings reports come a week or two after the current quarter ends.
Earnings reports are among the great unknowns of investing. Will company XYZ’s quarterly profits top analysts’ expectations? Will its revenues come in line? Are there any other important inputs in its business that could make the stock move violently in either direction?
In truth, the whole pageant of quarterly earnings is pretty artificial, and often delivers deceptive results. There’s nothing sacred about what analysts think, and especially about an average of what they think, without the supporting analysis.
As a result, you can’t really prepare for earnings season because you can’t predict earnings— a stock’s reaction is mostly a roll of the dice. And that uncertainty has resulted in earnings season being one big festival of gaps up and down. Of course, with volatility comes opportunity, for both profit and loss.
Despite this volatility, there are a some rules for earnings season we do take note of.
- Be consistent. The most important thing at earnings season (and really, at any time in the stock market) is to have a plan and follow it.
- DON’T buy a “full” position of a stock within a few days of its earnings report. This is just logical risk management. If you want to gamble, hit the craps table or, if you must, dabble in some cheap call options.
- Big earnings gaps are generally buyable. Stocks with large earnings gaps (10% or more for most stocks; 7% or more for mega-cap names) tend to continue in that direction in the intermediate-term (next four to 12 weeks).
- When your stock gaps down, continue to follow your sell plan. While upside gaps often provide buying opportunities in new leading stocks, downside gaps should be placed in context with the stock’s chart and overall action.
- If a stock takes a big fall, you MUST wait at least three trading days before even thinking about putting on a bullish position.The rationale behind The Three-Day Rule is that if a large hedge fund or institution owns millions of shares of a stock, it won’t be able to sell out of its entire position in a day or two without causing the stock to fall. Instead, the institution will parcel out its sales over a couple of days, so they don’t depress the stock and can sell at better prices.
To find out more about stocks that are well-positioned to thrive and do well through earnings season, download your FREE copy of our report, Cabot's 5 Best Dividend Stocks.
- Emerging Markets
Emerging markets are economies whose gross domestic product (GDP) is growing at a much faster rate than more developed markets such as the U.S., Germany and Japan. Consequently, the stocks in those countries often grow at a faster clip than the average stock in a more mature market.
Brazil, Russia, India and China—the so-called “BRIC” nations—garner the most attention. But good stocks can be found in other, less populous corners of the globe, including South Korea, Mexico, Turkey, Saudi Arabia and South Africa. The options are numerous for investors willing to explore outside their American bubble.
There are myriad reasons to do so. Investing in emerging markets allows you to invest in countries with double-digit GDP growth—or close to it. At a time when America’s economy is expanding in the low single digits, Japan’s economy is struggling and much of Europe is still buried under a mountain of sovereign debt, emerging markets hold more appeal than ever.
Of course, all emerging markets investing comes with its fair share of risk. The term emerging is really a euphemism for “underdeveloped.”
Many emerging markets are plagued by political instability, inferior infrastructure, volatile currencies and limited equity opportunities. In addition, some of the largest companies in emerging markets are either state-run or private. There are simply more unknowns when investing in a market that is still developing. And the less you know about a company, the more risk you take on when you invest in it.
One way to curb the risk is to invest in American Depository Receipts (ADRs) traded on U.S. exchanges, which subjects the stocks to strict U.S. requirements.
For some, emerging markets are simply too risky. But for many, the potential for massive rewards is worth the extra risk.
An exchange-traded fund--or ETF, for short--is an investment fund that trades on a public stock exchange just like a stock. But unlike individual stocks, ETFs hold dozens and even hundreds of stocks, commodities or bonds, so you get the safety of diversification. In that way, they're like mutual funds.
Because they are "unmanaged," however—you might say they run on autopilot—ETFs entail lower annual fees than comparable index-based mutual funds, and far lower fees than actively managed mutual funds. And unlike mutual funds, which are priced once a day after the market closes, ETFs are traded throughout the day just like regular stocks, so you can buy or sell them whenever you want, and when you buy, you get exactly the price quoted when you buy.
At Cabot Wealth Network, we are stock pickers at heart. That said, there are some instances when investing in ETFs makes sense—whether it be gaining maximum exposure to a red-hot sector, gaining access to an entire country’s stock market, or simply taking advantage of a bull market. In general, we don’t recommend buying and holding ETFs the way you would a stock with long-term growth potential. But there’s money to made in ETFs if you time it right.
- Ex-dividend Date
It’s important for investors who buy dividend-paying stocks to understand what “ex-dividend” means and how the various dates related to dividend payments really work.
The Ex-Dividend Date is the first day the stock trades without its dividend, thus ex-dividend. It's the date by which you have to own the stock to get the payment. That means you have to buy before the end of the day before the ex-dividend date to get the next dividend.
The day before the ex-dividend date is really the all-important date for investors to know.
So if a stock’s ex-dividend date is February 28, only those who own it on February 27 will receive the dividend.
But there are a few other dividend-related dates you should know.
The Record Date is the day the company announces when a dividend will be paid to “shareholders of record as of” some date. Because it takes two days to reliably become a shareholder of record, the ex-dividend date falls two days before this day declared by the company.
The Payment Date is the day the dividend will actually be transferred into your brokerage account. It’s usually about a month after the ex-dividend date, although for some funds, it’s as little as two days after the ex- date. When a stock is trading ex-dividend that means its ex-dividend date has already passed but the dividend payment has not been made yet.
- Forever Stocks
The word “forever” is often hyperbole.
What do you say if you’ve been waiting a long time in line at the DMV or on hold with your cable provider? “I’ve been waiting forever!”
The term “forever stocks” is a similar exaggeration. You don’t necessarily hold on to these stocks “forever.” But you do hold onto them at least until retirement.Forever stocks are stocks that are fairly evergreen. Typically they are industry leaders that have been growing for a while and should continue to grow for decades to come. They're stocks you can count on to be viable not only today, but 20 or 30 years from now.There are five key attributes you want in forever stocks:
- A product or service or business model that is revolutionary.
- A mass market.
- A company that’s still small enough to grow rapidly.
- A company that is not respected—perhaps not even known—by the majority.
- And last but not least, a stock that’s trending up, indicating that investors’ perceptions of the company are improving. This is important because perceptions are always at least as important as reality, at least on Wall Street.
Forever stocks aren’t synonymous with safety stocks or even dividend stocks, necessarily. You’re not searching for the next Procter & Gamble (PG) or Johnson & Johnson (JNJ)—reliable, low-beta dividend growers that will deliver a steady stream of income and decent, if unspectacular, returns. Their purpose is to make you rich.
You want to find the next Apple (AAPL), Google (GOOG) or Amazon (AMZN)—stocks that if you had bought them 10 years ago (or more), you would have earned 10, 20, even 100 times your initial investment. Those are life-changing investments. And that’s what forever stocks are supposed to be.
Not every forever stock will deliver those kinds of returns, of course. In fact, you’ll be lucky to find a single buy-and-hold stock that will provide the same kind of return as you would have gotten by investing early in Apple or Amazon. But if one or two of these stocks can gain half the long-term return of an Apple or an Amazon, you can position yourself for a nice financial windfall by the time you retire.
Futures are contracts to buy or sell stocks or bonds, or commodities, at a stated price at a stated time in the future. These commodities include pork bellies, gold, currency, corn, wheat, orange juice, etc.
Most commodity futures contracts come due within three or six months. You can buy and sell single stock futures or stock index futures, which are contracts based on the performance of a broad index such as the Standard & Poor's 500.
When you purchase or sell a stock future, you're not buying or selling the underlying stock. You never really own the stock. You're engaging in a futures contract, which is an agreement to buy or sell the stock certificate on a certain date at a fixed price.
A futures contract essentially entails one of two positions: long or short.
If you've entered into a long position, you've agreed to purchase the stock when the contract expires. A short position stipulates the inverse: you've agreed to sell the stock when the contract expires. So, if you're convinced that the price of your stock will be higher in three months than it is today, you take a long position. If you think the stock price will be lower in three months, you choose to go short.
Futures contracts are traded in freewheeling "trading pits" at exchanges worldwide. It's in these frenetic environments where traders determine futures prices, which change from moment to moment. Established in 1848, the Chicago Board of Trade (CBOT) is the world's oldest futures and options exchange. More than 3,600 CBOT members trade in excess of 50 different futures and options contracts.
Most commodity and currency futures have a margin of 5%, which means to make a trade, you only have to put up 5% of the contract value. That's a small stake, because prices can easily and quickly move by much more than 5% in only a day's time.
However, a leveraged bet of 5% is much smaller than the margin debt with which you're allowed to buy stocks. A percentage that small doesn’t allow you to ride out ephemeral fluctuations. It's possible to bet hideously wrong.
As with options, a futures contract uses leverage that can turn a small bet into a very large win or loss. In fact, futures are even riskier than options, because with the latter, an options buyer's worst-case scenario is losing the original investment. An investor in the futures market can lose a lot more. Then again, a single futures contract can rise in value by several thousands of dollars each day.
- Growth Investing
Growth Investing involves a greater degree of volatility than dividend investing or even value investing. But it also has the potential for much bigger rewards.
Growth investing involves investing in fast-growing companies that are typically less established than blue-chip companies such as General Electric (GE), Caterpillar (CAT) and Exxon (XOM). Those global behemoths were once growth stocks themselves, but their period of rapid growth is behind them. The best growth stocks are smaller companies whose best is ahead of them.
In searching for growth stocks, you generally want to invest in companies that are growing – or projected to grow – earnings at a faster rate than the overall market. Companies growing at triple-digit rates, 100% or better, are among our favorites. (In fact, triple-digit growth has been a factor in most big winning stocks over the years).
That kind of rapid growth can overcome a number of smaller deficiencies: inexperienced management, competition, weak patent positions, etc. Furthermore, fast growth typically attracts the attention of institutional investors, who push share prices higher as they buy their way in.
Of course, the risk in growth investing is that you’re buying less mature companies that usually don’t pay a dividend. If the share price declines, you don’t have a quarterly dividend payment to cushion the fall. And these stocks can very volatile, especially during earnings season.
While fast-growing companies have a good chance to outpace the market—sometimes by a considerable amount—they also have the potential to fall flat. Some high-growth companies are so under the radar, or so misunderstood, that the share price appreciation doesn’t match the financial growth.
The key to successful growth investing is identifying fast-growing companies before the masses do. That can be tricky, since some of the best growth-stock candidates are relatively obscure. There’s a reason, after all, that the market hasn’t fully discovered them yet.
But keep things simple. Look for companies with accelerating sales, better-than-average earnings growth, and strong profit margins. More often than not, the combination of those three characteristics eventually grabs the market’s attention.
When it does, the rewards can be astonishing.
- Growth Investors
What are Growth Investors?
Growth investors like gambling on volatile stocks for the hope of a big payoff.
Growth investors love a good gamble. Growth stocks often outpace the market, and the best ones can earn triple-digit returns in a short amount of time. The caveat to being in growth investing is that the companies you invest in are less mature, have smaller margins, and typically don’t pay a dividend. Thus, the stocks can be very volatile, especially around earnings season. But for a growth investor, the risks of investing in these stocks are worth the potential rewards.
Growth investors of the past likely took risks on stocks like Apple (AAPL), Amazon.com (AMZN), Netflix (NFLX)—all of whom started off as growth stocks before they became some of the best-performing and most coveted stocks on the market. Those who got in early earned triple-digit, even quadruple-digit, returns.
Get everything you need to know about investing in growth stocks in our FREE Special Report, 10 Forever Stocks to Buy Now—and How to Find the Best Growth Stocks.
Then if you still want to become a growth investor, a great first step is subscribing to Cabot Growth Investor. Cabot Growth Investor has become one of the most respected, trusted, and profitable investment advisories in America. In a world where hundreds of financial investing advisories come and go yearly, Cabot Growth Investor has stood the test of time.
- Growth Stocks
Growth stocks are the glamor investments on Wall Street.
They are the reason all those talking heads on CNBC have jobs, and what makes Jim Cramer ramble on as if he’s just chugged five Red Bulls (maybe he has). Growth stocks often outpace the market, and the best ones can earn triple-digit returns in a short amount of time. So it’s no surprise they generate so much excitement and endless chatter.
Of course, there’s a caveat to investing in growth stocks. Unlike time-tested dividend growers or bargain-basement value plays, growth stocks carry plenty of risk. The companies are less mature, often are subject to greater potential competition, and typically don’t pay a dividend. Thus, the stocks can be very volatile, especially around earnings season.
For many investors, however, the risks of investing in growth stocks are worth the potential rewards. Apple (AAPL), Amazon.com (AMZN), Netflix (NFLX)—all of them started off as growth stocks before they became some of the market’s most coveted stocks. Those who got in early earned triple-digit, even quadruple-digit, returns.
There are several keys to finding the right growth stocks:
- Invest in fast-growing companies. It’s a rather obvious prerequisite. But it’s important to know what fast-growing means. It means investing in fast-growing industries, where revolutionary ideas and services are being created. Any little-known stock that provides a product that is essential to that budding industry makes for a good growth stock. Rapid sales and earning growth is seen among most big winners before their stocks take off.
- Buy stocks that are outperforming the market. Companies can promise all kinds of financial growth. But is that growth potential translating to a rising share price? The best investing tips come from the performance of the stocks themselves; a rising stock tells you the smart money is accumulating shares.
- Use market timing. Never underestimate the power of the market to move stocks. You don’t want to invest in a growth stock just as the market is topping out, as three out of four growth stocks will follow the trend of the overall market. If you’re in a bull market, you can afford to be aggressive in buying stocks that are more speculative.
- Be patient. Not every growth stock will advance exactly when you want it to. Very few will, in fact. Even Apple had plenty of fits and starts on its way to becoming the most valuable company in the U.S. In the investment world, time is your friend. If you get out of a stock too early, you may miss out on some big gains months down the road.
Investing in growth stocks can be tricky. Finding a hidden gem that has yet to be fully discovered by the market is exciting, but requires lots of discipline to handle it correctly. Look for up-trending earnings growth, improving profit margins, and booming industries. If done right, investing in growth stocks can be both highly satisfying and highly profitable.
- Income Investors
What are Income Investors?
Are income investors the rock stars of the investing world?
If investing were music, you could argue that income investors are The Rolling Stones. No matter how long it's been since they recorded (I Can't Get No) Satisfaction, they continue to get royalty checks because the song is in regular rotation on every classic rock radio station in the country, and will show up on every new live album and box set release for decades to come.
Similarly, income investors buy an investment, and that investment continues to reward them with cash just for that one-time purchase. Of course, there's a little more to it than that, but the general idea is that income investors are devoted to finding top-quality investments that generate steady and secure cash flow with minimal risk.
Saving for retirement is the tired old idea that you spend your working life filling up a bucket of money and then start ladling it out slowly when you retire. But any money that you have in an actual savings account is pretty much wasted, since your rate of return on a bank savings account guarantees that your money will be constantly losing purchasing power as inflation eats away at it.
By contrast, income investors have an eye toward building wealth for retirement through strategic investments. There are a variety of income investment types, including dividend stocks, real estate investment trusts (REITs), master limited partnerships (MLPs), business development companies (BDCs) and bonds. Regardless of which income-generating vehicle they choose, most income investors work to minimize risk and protect their portfolio against huge losses.
But even many investors who turn to the stock market for income ignore 1% or 2% yielding stocks because their yields are “too low.” Stocks in these brackets, however, are often the best long-term income investments because they have greater ability to grow their dividends over time.
The most successful income investors who want yield without (too much) risk have successfully found it using high dividend blue chip stocks. And though a high yield may be risky in some cases, not all of the highest paying dividend stocks are high risk.
For even greater income, income investors take advantage of dividend reinvestment plans. You’ve probably heard it said that compound interest is the most powerful force in the universe (a quote attributed to Einstein, almost certainly erroneously), and dividend reinvestment plans (i.e. DRIPs, or DRIP plans, as many redundantly refer to them) take advantage of some of the same forces—namely time and compounding.
As an income investor with a portfolio full of dividend-paying stocks, it can be tough to keep track of when your next dividend payment might arrive. If you’re retired and relying on that income to live on, it makes sense to spread those dividend payments out. That’s where an ex-dividend date calendar can come in handy—an ex-dividend calendar tells you the date that each stock in your portfolio (or stocks you’re considering buying) will pay its dividend. The key is finding stocks with ex-dividend dates in different months. That way you can have a portfolio in which you have at least one dividend payment in all 12 months, so that you always have a steady stream of dividend income.
The ultimate goal of an income investor is to create an income stream that's reliable, and not price-dependent. The best income-generating investments keep paying investors to own them regardless of what’s happening to their stock price.
If you want to dip your toes into investing, download our FREE report, How to Invest in Stocks: How Stocks Work, How to Calculate Return on Investment and Other Investing Basics.
What is an Investment?
An investment is time or money you put into something with the hope of a future gain.
College is an investment in your future. Training is an investment in long-term success. Cities invest in quality-of-life projects and a business might make an investment in product or service improvements.
The bigger question, however, is around what makes a good investment. And that answer is simple, in one way. If you get out more than you put in, that's probably a good investment. The difficulty comes when you look at the stock market and see hundreds of stocks, along with ETFs, bonds, options, mutual funds, and index funds. You hear about large-caps, small-caps, blue chips, IPOs, and the pink sheets. And then there is value investing, growth investing, aggressive and conservative investing. It's all so much. Where is an investor to begin?
First, take a deep breath. There are a lot of place you can get good investing advice. Here at Cabot we offer free advice on our website, through our daily investment emails, and through free reports that touch on subjects of interest to beginning and experienced investors alike. We also have membership options where you can get premium research, insights, and advice in the form of exclusive market reviews and summaries, as well as 14 different advisories.
But back to the topic at hand, what is a good investment? That's a big question. What might be a great stock for one investor might not be a good stock for you.
For example, finding stocks that pay steady dividends is a great way to invest if you want to reduce risk, particularly if you can be confident that the dividends will not only continue but increase over time. Alternatively, if you’re chasing high returns and are comfortable with high risk, you can follow a momentum strategy. However, even a good momentum stock can drop like a stone on a bad day.
At its most basic, however, good investments have some things in common. If a business is fundamentally strong (i.e. it actually makes money), has a diversified product line, and is in a solid position in its market, you are 90% of the way to finding a good investment. The remaining 10% is just a matter of looking at a few parameters – no matter what the company does – to determine if it’s the best stock for your investment dollars.
And don’t forget that the objective is to make money, not to own every good-looking stock in the market. Historically, most successful investors have concentrated their investment portfolios in a few great stocks, and ridden those winners to big profits. That doesn’t mean you should put all your eggs in one basket. Our advice is that, when fully invested, you should own no fewer than five stocks, but put an upper limit at 12 or 15 stocks. There are three main benefits of good portfolio management.
- First, you can keep up with all your stocks, and track what’s happening at the companies.
- Second, you’ll get more bang for your buck.
- A third benefit of a concentrated stock portfolio: You can get in and out of the market more quickly at turning points.
To learn more about making good investment decisions, download our FREE report, How to Invest in Stocks and Other Investing Basics, today.
What are Investors?
There are two types of investors. And the most successful all have something in common.
Would it be fair to say that the most skillful investors have taken to heart a famous line from J.R.R. Tolkien's The Hobbit? True, tales of dragons and wizards have little to do with the stock market. There is, however, a quote from the book that exemplifies the investing approach of some of the world's greatest investors.
“The world is indeed full of peril and in it there are many dark places. But still there is much that is fair."
More to the point, investors may face volatility, downturns, recessions, depressions, and bear markets. Smart investors take this all in stride. They plan carefully, and they seek out the bargains and the promising stocks that push their portfolios ever upward. In short, no matter what approach an investor takes, the most successful of them seek out the "much that is fair."
As for the two types?
Value investors identify companies whose stocks are selling at low valuations, and hold them until they are substantially higher. Value investors believe that buying a stock is comparable to buying a portion of the business. Thus, a value investor is not concerned about short-term changes in the stock price as much as the long-term business performance such as earnings growth, competitive positioning, etc.
Growth investors like to put their money into stocks that are going up. Growth investing involves investing in fast-growing companies that are typically less established than blue-chip companies such as Qualcomm (QCOM), Google (GOOGL) and Exxon (XOM). Those global behemoths were once growth stocks themselves, but their period of rapid growth is behind them. The best growth stocks are smaller companies whose best is ahead of them.
The point isn’t that any of these built-in preferences for different kinds of stocks is wrong. Low-priced stocks are more volatile than higher-priced stocks, and they can make very satisfying gains very quickly. (Of course they can go down just as quickly, but let’s leave that out for now.) Similarly, value stocks, while they may take a long time to get back to fair value, do have lower downside risk.
The reality of the market is that every investment portfolio ought to have some of both value and growth in it. Value is a great foundation for a diversified portfolio. But if you stick strictly to value, you’re leaving lots of growth gains on the table.
And to be fair, there is a spectrum of investing styles between these two. Few investors fall 100% into these divisions. Just as a hobbit has "some courage and some wisdom, blended in measure," so do the most successful investors create a blended portfolio that combines the best qualities of a range of stocks.
To learn more about the different approaches to investing, and find out how to create the right portfolio for you, download your FREE copy of our report, How to Invest in Stocks: How Stocks Work, How to Calculate Return on Investment and Other Investing Basics.
As marijuana becomes increasingly legal in both the U.S. and Canada, it makes sense for growth-oriented investors to pay attention to marijuana stocks. The opportunities are much bigger than most investors realize!
- Micro Cap Stocks
Micro cap stocks are publicly traded companies with market capitalizations of less than $300 million but greater than $50 million. Like small cap stocks, micro cap stocks have the potential to net very high returns, but because of their even smaller size, micro caps carry even greater risk than small caps.
- Mid Cap Stocks
Mid cap stocks are middle-sized publicly traded companies: larger than small cap stocks but smaller than large cap stocks. Mid cap stocks have a market capitalization between $2 billion and $10 billion. Mid caps aren't as risky as small cap stocks, but aren't as "safe" as large cap stocks. However, the advantage they have over many of the biggest large caps stocks is that their greatest period of growth is often ahead of them.
Founded in 1971 by the National Association of Securities Dealers (NASD), the Nasdaq Stock Market is the second-largest exchange in the world by market capitalization, after the New York Stock Exchange. It officially separated from the NASD and began to operate as a national securities exchange in 2006.
NASDAQ, the "National Association of Securities Dealers Automated Quotations”, was at first just a quotation system and didn’t actually trade stocks. As the Nasdaq Stock Market got going, it included a lot of stocks that traded as speculative over-the-counter (OTC) issues.
But as the Exchange became the first U.S. stock market to start trading online, it attracted new tech companies who saw it as a more modern, more dynamic place to list their stocks. Those companies included, Apple, Cisco, Dell, Microsoft and Oracle and a host of others.
The exchange’s heavy weighting toward tech and other “riskier” issues lets investors use it as a barometer of how much risk investors are willing to take on at any one time.
The Nasdaq Stock Market has a pre-market session from 4:00 am to 9:30 am Eastern, a normal trading session from 9:30 am to 4:00 pm, and a post-market session from 4:00 pm to 8:00 pm.
It has three market tiers: Capital Market (small-cap) is an equity market for companies that have relatively small levels of market capitalization; Global Market (mid-cap) is made up of stocks that represent the Nasdaq Global Market, consisting of 1,450 stocks that meet Nasdaq's strict financial and liquidity requirements; and Global Select Market (NASDAQ-GS large cap), consisting of 1,200 stocks and more exclusive than the Global Market.
- Net Current Asset Value
One of Benjamin Graham’s earliest analyses, created and tested 75 years ago, is the Net Current Asset Value (NCAV) approach. The objective of the NCAV formula is to find the minimum value a company would fetch if it was liquidated. The formula is:
Net Current Asset Value (NCAV) = cash and short-term investments + (0.75 * accounts receivable) + (0.5 * inventory) – total liabilities – preferred stock
The resulting value can then be divided by the number of common shares outstanding to find the NCAV per share. If the current stock price is less than the NCAV per share, the stock is a bargain. However, further analysis is necessary to determine if the company is prosperous.
Companies with earnings deficits or with erratic earnings histories are likely to become less prosperous and should be avoided. Companies in the financial sector should also be avoided, because their balance sheets are not comparable to those of other companies.
Finding profitable companies selling below their NCAV is a simple process. However, not many companies are selling below their Net Current Asset Values.
Most stocks that qualify as NCAV bargain stocks are small companies, which usually are risky investments. However, Benjamin Graham surmised that any companies selling below their NCAV values carry lower risk: “They are indubitably worth considerably more than they are selling for, and there is a reasonably good chance that this greater worth will sooner or later reflect itself in the market price. At their low price these bargain stocks actually enjoy a high degree of safety, meaning by safety a relatively small risk of principal.”
An option is a binding, specifically worded contract that gives its owner the right to buy or sell an underlying asset at a specific price, on or before a certain date. The investor has the right—but not the obligation—to buy.
The right, but not the obligation, to take action is a key distinction. Upon the expiration date, you could always decide to take no action, at which point the option becomes worthless. If you make this decision, the option becomes worthless and you lose all of your investment, which is the money that you used to buy the option.
An option is only a contract that's tied to an underlying asset (such as, say, a stock or stock market index). Hence, it is categorized as a "derivative," because an option derives its value from something else. Derivatives have acquired a pejorative reputation of late, because incredibly complex derivatives helped fuel the financial calamities of 2008.
Options come in two flavors: calls and puts.
If you think a certain asset will increase substantially before the option expires, you'd purchase a call option, because it gives you the right to buy an underlying asset at a specific price within a specific period of time.
If you think a stock will dramatically drop in value, you'd purchase a put, which would give you the right to sell the asset at a certain price within a specific period of time. Think of a put option as a form of leveraged short selling.
Accordingly, there are four types of players in options markets: buyers of calls; sellers of calls; buyers of puts; sellers of puts. The "strike price" is the price at which an underlying asset can be purchased or sold. For calls, this is the price at which an asset must rise above; for puts, it's the price at which it must go below. These events must occur prior to the expiration date.
A "listed option" is traded on a nationwide options exchange, such as the Chicago Board Options Exchange (CBOE). These options are listed with fixed strike prices and expiration dates. The options are named based on their strike price and expiration date. For example, an ADSK January 45 Call is a call option on Autodesk stock at $45 per share that expires in January.
Call options are referred to as "in the money" if the share price is above the strike price. Put options are "in the money" when the share price is below the strike price.
- Put And Call Options
In options trading, there are both put and call options.
A call option gives the buyer the right to buy 100 shares at a fixed price (strike price) before a specified date (expiration date). Likewise, the seller (writer) of a call option is obligated to sell the stock at the strike price if the option is exercised.
A put option gives the buyer the right to sell 100 shares at a fixed price (strike price) before a specified date (expiration date). Likewise, the seller (writer) of a put option is obligated to purchase the stock at the strike price if exercised.
- Relative Performance
Relative Performance (RP) measures how a stock is performing relative to a specific market or index. Momentum analysis of a stock’s RP is one of our favorite ways to measure a stock’s health. A stock that holds its value during a declining market often soars once the market turns higher. In a strong bull market, most stocks will rise, even the stocks of weak companies! But you should concentrate your efforts on the best companies with the strongest stocks, the market’s leaders. The way to find them is by analyzing RP lines.
When a Relative Performance line is moving upward, the stock is outperforming the market. When it’s moving downward, the stock is underperforming the market. A flat RP line indicates the stock’s performance is equal to the market’s. Each issue of the Cabot Growth Investor shows the RP lines of the stocks we’re recommending and following.
In general, we like to see a minimum of 13 weeks of outperformance (an uptrending RP line) before we consider buying a stock. Once this condition has been met, we conclude the stock has positive momentum. If a company has a compelling fundamental story and strong positive momentum, it’s a candidate for purchase.
What constitutes strong momentum? When a stock has a powerful RP line, its corrections will be brief, lasting just a week or two. The longer the Relative Performance correction, the weaker the situation. There’s nothing more positive than an RP line that’s hitting new highs!
In general we’ll consider selling a stock if it underperforms the market for eight weeks or longer. But there are other considerations. How deep (or shallow) has the correction been? Has the stock been declining on heavy trading volume (a big negative)? Is it holding up in an area of price support? Relative Performance analysis is extremely important, but it’s not done in a vacuum. There are other considerations.
Interpreting Relative Performance lines is as much an art as it is a science. But to any serious investor, it’s worth the effort. It gives you the conviction to stay with a stock rather than selling for a quick profit. It helps you identify the strongest stocks in both weak and strong markets. And it gives you advance notice that a stock is weakening.
What are Shares?
When you buy stocks, you are buying shares of a company. But there's more to it than meets the eye.
The Merriam-Webster Dictionary defines the noun 'share' as, "any equal portion into which property or invested capital is divided." With that definition in mind, when you buy shares of a publicly-traded company, you are buying a small portion of that business. In other words, when you invest in a stock, you own a share (or shares) of that company.
Shares can come in a range of prices, and some shares come with benefits such as dividends, which are distributions of earnings given out to reward investors. Some dividend stocks have an additional benefit that can substantially increase your results over time are dividend reinvestment plans, or DRIPs.
When you choose to reinvest your dividends, each stock’s dividend payment is used to buy new shares of that same stock, at the market rate. You then start earning dividends on those new shares, and those dividends get turned into more shares, and so on and so forth. Over time, the number of shares you own and the size of the dividend checks you receive every quarter will both gradually increase, without you doing a thing.
Of course, not all stocks offer dividends, but no matter what kind of stocks you buy, you want the price of your shares to increase. While there's never a guarantee in the stock market, there are some companies that exhibit qualities that make them desirable to investors. If you're looking to buy shares in businesses that are generally safe, and will increase in value over time, look for these five key attributes:
- A product or service or business model that is revolutionary
- A mass market
- A company that’s still small enough to grow rapidly
- A company that is not respected—perhaps not even known—by the majority
- And last but not least, a stock that’s trending up, indicating that investors’ perceptions of the company are improving. This is important because perceptions are always at least as important as reality, at least on Wall Street.
One thing to watch out for, however, are dual-class shares. Dual-class (or even triple-class) structures issue shares that don’t have voting power. The idea is that investors can buy these dual-class shares, receive dividends and benefit from stock splits and other moves, but can’t vote on company decisions like appointments to the board of directors or other corporate decisions.
The usual reason for the creation of non-voting shares is that this allows company founders and leaders to maintain control of the company even if they don’t own a majority of the stock.
Stock exchanges are always eager to gain new listings and may be willing to grant permission for dual-class shares as a way to attract them. But apparently the companies that calculate major stock indexes—the FTSE Russell and S&P Dow Jones—have banned them from inclusion.
To find out more about stock investing, download your copy of our FREE report, How to Invest in Stocks: How Stocks Work, How to Calculate Return on Investment and Other Investing Basics.
- Small Cap Stocks
Investing in small cap stocks is a good way to earn huge returns. The smaller companies often have the most potential for growth. They also carry plenty of risk for investors.
Anytime you buy shares of a small, little-known company, there are a bevy of unknowns. Some small cap stocks are clinical-stage biotechs whose drugs have yet to be approved for commercial use. Others are chipmakers or cloud-computing companies that have plenty of promise but have been simply misunderstood by the market.
It’s impossible to take the risk completely out of small-cap investing. But there are ways to minimize those risks without sacrificing potential profits. For starters, set up a clearly established set of rules ahead of time, and stick to them.
Our small-cap expert, Tyler Laundon, has a very specific set of rules for identifying the right small cap stocks. Those are:
- Search for paradigm shifts in any field of business that requires a unique, new solution that will be provided by a stand-alone company. Then seek a niche supplier that will become an equal benefactor to that pioneering company.
- Invest only when the market opportunity is huge—and quantifiable. Only invest in small companies that serve large, burgeoning markets because you can realize tremendous growth with even small shares of the market.
- Get into a small-cap stock before institutional investors become aware of it. Sometimes it takes a while for the big hedge funds or mutual funds to discover small yet promising companies. Once they do, it quickly drives up the price.
- Invest in stocks that offer both growth and value. Look for relatively young companies with growing sales, yet is undervalued based on the company’s market potential versus its total market capitalization. A balance sheet with little to no debt is also a big plus.
- Invest at the right time in the product cycle. There is a direct correlation between the time of investment and the degree of risk and rate of return you can expect. The time period after venture capital investors come aboard is generally the most promising.
- Lastly, concentrate on the very best ideas. Look for industries that have hit a roadblock and need new technologies to keep growing. The small companies that provide those breakthrough technologies make for the best small cap stocks.
These rules won’t help you pick all winners. But they should give you a leg up in selecting the right stocks.
What is a Stock?
The definition of a stock is simple enough; it's what you do with it that matters.
A stock is an equity investment that represents part ownership in a company. When you invest in a stock, you own a small portion (or shares) of that company.
Simple enough, right? You own a portion of a company, so when that company makes money, you make money. Why then, does investing seem so complicated?
In some ways, buying a stock is like playing chess. The different segments and products on the market all move in different patterns and compete or complement one another. There are mutual funds, hedge funds, ETFs, index funds, stocks, bonds, emerging markets, and on and on. It probably doesn't help that a stock is also called a security or a position. But when you get beyond the multiple names and break it down, there are some very simple elements to investing in a stock.
Any one of us can buy a share (ownership) in a publicly-traded company (as opposed to a privately-owned company). Most often, this ownership comes in the form of stocks. As long as there is someone willing to sell, you can buy a single stock or as much as you want.
The catch is that what might be a great stock for one investor might not be a good stock for you. So how do you find good stocks to invest in?
The first question to ask is, what kind of stock do you want? Obviously, you want a stock that goes up; that much is certain. But the big question is, how much risk can you tolerate?
If you’re chasing high returns and are comfortable with high risk, you can follow a momentum strategy.
Moving down the risk scale a bit, you could focus on picking good growth stocks. But in growth stocks too, risk can be substantial, and if you can’t sleep well at night because your stock holdings worry you, you’re investing at too high a risk level.
Then there are undervalued stocks. Good undervalued stocks have low risk because ideally, they are so cheap that they can’t fall any lower!
A dividend-paying stock, properly selected, has very low risk and substantial upside potential, particularly over the long term.
When investing on your own, the most common way to buy a stock is through a brokerage firm. Thanks to the internet, using a brokerage firm to invest is easier—and more affordable—than ever. There are a variety of popular online discount brokerage firms—TD Ameritrade, E*Trade, Fidelity— and none of them charge more than $10 every time you make a trade (and some of them no longer charge a dime!).
If you want to dip your toes into investing, download our FREE report, How to Invest in Stocks: How Stocks Work, How to Calculate Return on Investment and Other Investing Basics.
This free report aims to give you the confidence - and the right know-how - to dive right into the stock market. We'll show you how.
What are Stocks?
Stocks as we know them today conjure images of fast and furious trading, computer programs, and a hectic stock exchange floor. But stocks weren't always traded that way.
When we think of stocks today, what comes to mind for many people is Wall Street and the New York Stock Exchange. But stocks, in one form or another, have been around for centuries. In the 1300s, Venetian merchants traded debts. In the 1600s, England's East India companies issued stocks, even though many of these businesses had no actual business (lookin' at you, dot.com bust).
The modern U.S. stock exchange developed in the late 1700s, eventually turning into the New York Stock Exchange, where some of the biggest companies in the world are currently traded. But what are stocks?
According to Merriam-Webster, stocks are, "the proprietorship element in a corporation usually divided into shares and represented by transferable certificates." Or in English, when you own stocks, you own a portion of a company.
Although there are plenty of reasons for investing in stocks, for most of us, they are part of a retirement plan, whether that's through an employer-issued 401k, an IRA, or investing on our own. However, as evidenced by recessions, depressions, and crashes, investing in stocks can be risky business.
Fortunately, there are plenty of ways to lower your risk and increase your chances of making money in the stock market. One way is to add "forever stocks" to your portfolio. What are stocks you can hold forever?
Forever stocks are fairly evergreen. Typically they are industry leaders that have been growing for a while and should continue to grow for decades to come. They’re stocks you can count on to be viable not only today, but 20 or 30 years from now.
That's not as easy as it sounds. The toughest thing in stock investing is to do nothing. That’s right, nothing! Once you buy a stock and watch it move up, down and all around for a few weeks, there is an urge to take action.
Why is that so bad?
Your very best ally in the investing business is time. Holding forever is the best way to put that ally on your side, permanently. But you’ve got to buy the right stocks.
And what are they?
- They’re the stocks of companies with revolutionary goods and services that are likely to be in big demand by growing numbers of customers.
- They’re the stocks of companies that are still relatively small, and thus have room to grow.
- They’re the stocks that are not currently loved by investors and thus have the potential to benefit from improved perception as the years go by.
To learn more about finding stocks you can hold for the long term, download your FREE copy of our report, 10 Forever Stocks to Buy Now-and How to Find the Best Growth Stocks.
These stocks might just make you rich.
- Technical Analysis
When selecting stocks, fundamental analysis is important, but technical analysis is of equal or greater importance. Stocks trade based on what the future holds (or is expected to hold), not on last quarter’s financial results. A stock’s share price reflects the future prospects of and expectations for the company.
But stocks also have memories. The stock market is simply a collection of investors who buy and sell stocks. These investors remember a stock’s past, which influences their buying and selling behavior.
This is where the technical analysis of stock trends comes into play. It can be a powerful tool to identify trend reversals and entry and exit points. The best way to analyze the trading pattern of a stock is to look at its chart.
As you read Cabot newsletters and listen to investing news, you will probably hear terms like ‘head-and-shoulders pattern,’ ‘trendline,’ ‘support and resistance,’ ‘double top’ or ‘double bottom,’ “triangle,’ and ‘gap.’
Understanding these basic formations and how to read stock charts will make you a better, more profitable investor. Timing is everything, and even a basic understanding of technical analysis will greatly improve the timing of your entry and exit points. And that can be the difference between a successful and a failed investment.
No technical indicator or system is perfect. There will be times when the signal that is given by the charts turns out to be wrong. But in most cases, when technical stock analysis leads you to a certain conclusion, the stock will behave in a way that is similar to what would be expected.
What is Trading?
Trading is one of those tricky investing terms that can mean different things depending on the context
At the most basic level, trading stocks simply means the buying and selling of stocks. If you've ever bought or sold a stock, then you've been involved in trading. But like many things in the investment world, context is important, and there is a big difference between trading stocks and investing in stocks.
When you invest in a stock, you're committing to the long haul, at least within reason. That could be six months or five years or forever, but the intention is to put money into your chosen stocks and give that money time to grow and work for you.
Trading, on the other hand, is noted for extremely quick holdings, to exploit short-term market inefficiencies. These short-term positions can be in a wide range of investment categories: stocks, options, futures, currencies, exchange traded funds (ETFs), and virtually any other investment that can be traded electronically.
You're probably most familiar with the concept in terms of day trading. From an investing standpoint, however, day trading is like gambling. We know that the stock market goes up over time. Day to day, you have no idea which direction the market is headed, and individual stocks can be even more difficult to pinpoint. Sure, people can succeed in doing it, but it takes considerable practice. You can’t just dive into day trading and expect to make money with any consistency.
We’re not completely averse to short-term trading. After all, we have an advisory called Cabot Top Ten Trader, which every week recommends the 10 hottest stocks on the market, complete with buy ranges and loss limits. But the timeline for owning the stocks Top Ten Trader recommends is weeks or months—not days, and certainly not one day.
There’s nothing wrong with trying to make a quick profit. In fact, the quicker you profit from your investments the better. But to make money in investing, the longer your timeline, the more the odds are in your favor. With day trading, your odds are a flip of the coin—at best.
To keep you on your toes, though, there's also trading volume. Trading volume reflects the overall activity of the market, indicating the sheer amount of buying and selling of securities. Next to price, it is one of the most closely watched indicators.
Specifically, trading volume represents the total number of stock shares, bonds or commodities futures contracts traded during a certain period of time.
The major exchanges report trading volume figures on a daily basis, both for individual issues trading and for the total amount of trading executed on the exchange. Trading volume indicates market liquidity and the supply and demand for securities.
To get a more in-depth look at investing, trading, and all the important stock market information, download our FREE report, How to Invest in Stocks and Other Investing Basics, right now. This report gives you the information you need to start investing on your own.
- Trading Volume
Trading volume reflects the overall activity of the market, indicating the sheer amount of buying and selling of securities. Next to price, it is one of the most closely watched indicators.
Specifically, trading volume represents the total number of stock shares, bonds, or commodities futures contracts traded during a certain period of time.
The major exchanges report trading volume figures on a daily basis, both for individual issues trading and for the total amount of trading executed on the exchange. Trading volume indicates market liquidity and the supply and demand for securities.
Trading volume also reflects pricing momentum. When stock market activity—i.e., volume—is low, investors anticipate slower moving (or declining) prices. When market activity goes up, pricing typically moves in the same direction.
Low volume of a security, even if it's rising in price, can indicate a lack of conviction among investors. Conversely, high volume of a particular security can indicate that traders are placing their long-term confidence in the investment.
Certain types of investors who subscribe to the "technical analysis" school of thought place enormous importance on the amount of volume that occurs in the trading of a security or commodity futures contract.
Trading volume also serves as a warning as to whether a stock is on the verge of breaking into upside territory (high volume) or into a downside trend (low volume). High volume also gives investors more time to determine when it's the right time to sell for a profit.
A dramatic rise in volume is interpreted to signify future sharp rises or drops in price, because it reflects increased investor interest and sustained momentum. Low volume can generate price volatility and mirror factors that, from an investment standpoint, are ephemeral and untrustworthy.
Take note: Extremely low volume sometimes attracts scam artists who are determined to manipulate the price of the stock, because their trading will exert an outsized influence.
- Value Investing
Finding value is all about buying something at a discount to what it’s actually worth. The same is true of value investing.
Sometimes factors can cause a stock to get beaten down to the point of being undervalued. Value investing is about finding stocks that are worth more than their current share price.
Investment legends like Sir John Templeton, Benjamin Graham and Warren Buffett realized decades before behavioral finance became a respected academic discipline that systematic psychological errors tend to create market inefficiencies. Templeton, Graham and Buffett reasoned that herding behavior (including momentum traders and short-term speculators that chase price trends) and overreaction bias (the tendency of people to overreact to bad news) are strong forces in the market that can push stocks far below their fair value.
Based on these observations, many of the world’s greatest investors look for stocks that are beaten down by the market due to bad news or negative rumors. Benjamin Graham, the father of value investing, constantly searched for companies that once fetched sky-high valuations but that crashed when the companies were unable to deliver on investors’ expectations.
Warren Buffett famously said, “We simply attempt to be fearful when others are greedy and to be greedy only when others are fearful.”
Value investing is about recognizing opportunities and spotting deep discounts. One way some investors measure a company’s value is its price-to-earnings ratio, or P/E. But P/E is a very simplistic measure of a stock’s value. Experts dig deeper, examining a company’s sales, cash flow, dividend, book value, debt levels, historical valuation patterns and more to determine if a stock is undervalued.
- Value Stocks
Notice any stocks that are getting pummeled as a result of embarrassing headlines or negative rumors? They might be the next great value stocks.
Value investing isn’t as simple as that. But that’s sort of the mentality.
“Be greedy when others are fearful,” legendary value investor Warren Buffett once said. His advice still rings true.
Sometimes good companies get wrongly punished by the stock market, often to the point where they become undervalued. But not just any company receiving a bit of bad news qualifies as a good value play. Instead, value stocks typically share a couple of key characteristics.
- Strong growth prospects. Every stock takes it on the chin at one point or another. The companies whose sales and earnings to grow through it all are the ones that consistently bounce back. It doesn’t take much for a stock to get knocked down—a disappointing new product, a scandal involving one of its executives, a bad Super Bowl ad. Those are temporary problems. For savvy value investors, they’re also prime buying opportunities.
- Cheap multiples. There are ways to actually measure value stocks. And it’s not as simple as looking at the price to earnings (P/E) ratio, as some analysts might have you believe. Price to earnings is just one of six valuation benchmarks we use. The others are price to book value, price to cash flow, price to dividends, price to sales and the PEG ratio, which is calculated by dividing the current stock price by the last four quarters of earnings per share growth. For a company to be considered a strong value stock candidate, at least one of those ratios needs to be low. If several of those valuation multiples are low, and earnings are projected to grow, then you may have found a stock that is trading well below its intrinsic value.
Even with those characteristics in place, successful value investing still depends a lot on timing. You don’t want to invest in a strong value candidate while it’s still in free fall. You want to buy value stocks right around the time they’ve hit rock bottom—or at least close to it.
What is Yield?
Yield? Return? What does it all mean? And do investors really need to worry about it?
One of the most challenging things for new (and even experienced) investors is trying to make sense out of all the terms. It can feel almost like trying to learn a new language. But like a new language, you don't have to learn everything at once, and some basic phrases will give you what you need to get by until you learn more.
For instance, you need to know what stocks are if you are going to invest. That would be the language equivalent of asking someone in Paris if they speak English (Parlez-vous anglais?). The next step would be terms like return and yield. In our language example, that might be similar to asking for a coffee (Bonjour. Un café, s’il vous plaît). But what is yield? And how is it different than return?
Yield is calculated on a monthly, quarterly, or annual basis and is the return of an investment divided by the initial purchase price. Return, on the other hand, is the monetary gain you make on an investment. So if you buy a stock for $20 and sell it for $25, your return is $5.
That's the basic definition, and naturally, there's a lot more to it if you want to go in depth. For example, we write a lot about dividend yield. Plainly speaking, dividend yield is how much a company pays its shareholders over the course of a year of ownership, divided by its current stock price.
A dividend is a sum of money a company pays to its shareholders, typically on a quarterly basis. The higher the dividend payment, the higher the yield, which is calculated by the total annual dividend payout per share by the current stock price. So, if a company pays $2.00 per share per year, and has a stock price of $60.00, it has a yield of 3.3%. And any yield above 3% is considered good.
When you buy a dividend stock, you’ll receive a steady stream of income—generally on a quarterly basis. If the market crashes and the share price begins to fall, the nice 3% or 4% yield (or higher) will soften the blow.
U.S. Treasury bonds also offer a yield which is tied to the interest rate. Bonds are low-risk, as far as investments go, but there's a caveat: when interest rates are rising, bond prices fall. Treasury bonds have two moving parts: the price and the yield. Presumably, an investor can buy a $10,000 U.S. Treasury bond and lock in an interest rate (which has been under 2% for most of the last 10 years). Once you buy that $10,000 bond, the price changes a little bit every day, but it’s guaranteed to be worth $10,000 upon maturity.
To really learn the basics of investing, and find out more about return, yield, and how to make smart investing decisions, download your FREE copy of our report, How to Invest in Stocks and Other Investing Basics, today.
Higher yields come with higher risks though. Many of these stocks’ yields are so high because they’re struggling, and they may even have to slash their dividends soon.