Stock market

Stock market

SouthUral State University

The Department of Economic and Management

Work on subject

The Student: Velichko O.S.

Group: E&M-263

The Tutor: Sergeeva L.M.

Chelyabinsk

1998

Contents

1. Market place

2. Trading on the stock exchange floor

3. Securities. Categories of common stock

1. Growth stocks

2. Cyclical stocks

3. Special situations

4. Preferred stocks

1. Bonds-corporate

2. Bonds-U.S. government

3. Bonds-municipal

4. Convertible securities

5. Option

6. Rights

7. Warrants

8. Commodities and financial futures

5. Stock market averages reading the newspaper quotations

1. The price-earnings ratio

6. European stock markets–general trend

1. New ways for old

2. Europe, meet electronics

7. New issues

8. Mutual funds. A different approach

1. Advantages of mutual funds

2. Load vs. No-load

3. Common stock funds

4. Other types of mutual funds

5. The daily mutual fund prices

6. Choosing a mutual fund

1. MARKET PLACE

The stock market. To some it’s a puzzle. To others it’s a source of

profit and endless fascination. The stock market is the financial nerve

center of any country. It reflects any change in the economy. It is

sensitive to interest rates, inflation and political events. In a very real

sense, it has its fingers on the pulse of the entire world.

Taken in its broadest sense, the stock market is also a control center.

It is the market place where businesses and governments come to raise money

so that they can continue and expend their operations. It is the market

place where giant businesses and institutions come to make and change their

financial commitments. The stock market is also a place of individual

opportunity.

The phrase “the stock market” means many things. In the narrowest

sense, a stock market is a place where stocks are traded – that is bought

and sold. The phrase “the stock market” is often used to refer to the

biggest and most important stock market in the world, the New York Stock

Exchange, which is as well the oldest in the US. It was founded in 1792.

NYSE is located at 11 Wall Street in New York City. It is also known as the

Big Board and the Exchange. In the mid-1980s NYSE-listed shares made up

approximately 60% of the total shares traded on organized national

exchanges in the United States.

AMEX stands for the American Stock Exchange. It has the second biggest

volume of trading in the US. Located at 86 Trinity Place in downtown

Manhattan, the AMEX was known until 1921 as the Curb Exchange, and it is

still referred to as the Curb today. Early traders gathered near Wall

Street. Nothing could stop those outdoor brokers. Even in the snow and rain

they put up lists of stocks for sale. The gathering place became known as

the outdoor curb market, hence the name the Curb. In 1921 the Curb finally

moved indoors. For the most part, the stocks and bonds traded on the AMEX

are those of small to medium-size companies, as contrasted with the huge

companies whose shares are traded on the New York Stock Exchange.

The Exchange is non-for-profit corporation run by a board of directors.

Its member firm are subject to a strict and detailed self-regulatory code.

Self-regulation is a matter of self-interest for stock exchange members. It

has built public confidence in the Exchange. It also required by law. The

US Securities and Exchange Commission (SEC) administers the federal

securities laws and supervises all securities exchange in the country.

Whenever self-regulation doesn’t do the job, the SEC is likely to step in

directly. The Exchange doesn’t buy, sell or own any securities nor does it

set stock prices. The Exchange merely is the market place where the public,

acting through member brokers, can buy and sell at prices set by supply and

demand.

It costs money it become an Exchange member. There are about 650

memberships or “seats” on the NYSE, owned by large and small firms and in

some cases by individuals. These seats can be bought and sold; in 1986 the

price of a seat averaged around $600,000. Before you are permitted to buy a

seat you must pass a test that strictly scrutinizes your knowledge of the

securities industry as well as a check of experience and character.

Apart from the NYSE and the AMEX there are also “regional” exchange in

the US, of which the best known are the Pacific, Midwest, Boston and

Philadelphia exchange.

There is one more market place in which the volume of common stock

trading begins to approach that of the NYSE. It is trading of common stock

“over-the-counter” or “OTC”–that is not on any organized exchange. Most

securities other than common stocks are traded over-the-counter. For

example, the vast market in US Government securities is an over-the-counter

market. So is the money market–the market in which all sorts of short-term

debt obligations are traded daily in tremendous quantities. Like-wise the

market for long-and short-term borrowing by state and local governments.

And the bulk of trading in corporate bonds also is accomplished over-the-

counter.

While most of the common stocks traded over-the-counter are those of

smaller companies, many sizable corporations continue to be found on the

“OTC” list, including a large number of banks and insurance companies.

As there is no physical trading floor, over-the-counter trading is

accomplished through vast telephone and other electronic networks that link

traders as closely as if they were seated in the same room. With the help

of computers, price quotations from dealers in Seattle, San Diego, Atlanta

and Philadelphia can be flashed on a single screen. Dedicated telephone

lines link the more active traders. Confirmations are delivered

electronically rather than through the mail. Dealers thousands of miles

apart who are complete strangers execute trades in the thousands or even

millions of dollars based on thirty seconds of telephone conversation and

the knowledge that each is a securities dealer registered with the National

Association of Securities Dealers (NASD), the industry self-regulatory

organization that supervises OTC trading. No matter which way market prices

move subsequently, each knows that the trade will be honoured.

2. TRADING ON THE STOCK EXCHANGE FLOOR

When an individual wants to place an order to buy or sell shares, he

contacts a brokerage firm that is a member of the Exchange. A registered

representative or “RR” will take his order. He or she is a trained

professional who has passed an examination on many matters including

Exchange rules and producers.

The individual’s order is relayed to a telephone clerk on the floor of

the Exchange and by the telephone clerk to the floor broker. The floor

broker who actually executes the order on the trading floor has an

exhausting and high-pressure job. The trading floor is a larger than half

the size of football field. It is dotted with multiple locations called

“trading posts”. The floor broker proceeds to the post where this or that

particular stock is traded and finds out which other brokers have orders

from clients to buy or sell the stock, and at what prices. If the order the

individual placed is a “market order”–which means an order to buy or sell

without delay at the best price available–the broker size up the market,

decides whether to bargain for a better price or to accept one of the

orders being shown, and executes the trade–all this happens in a matter of

seconds. Usually shares are traded in round lots on securities exchanges. A

round lot is generally 100 shares, called a unit of trading, anything less

is called an odd lot.

When you first see the trading floor, you might assume all brokers are

the same, but they aren’t. There are five categories of market

professionals active on the trading floor.

Commission Brokers, usually floor brokers, work for member firms. They

use their experience, judgment and execution skill to buy and sell for the

firm’s customer for a commission.

Independent Floor Brokers are individual entrepreneurs who act for a

variety of clients. They execute orders for other floor brokers who have

more volume than they can handle, or for firms whose exchange members are

not on the floor.

Registered Competitive Market Makers have specific obligations to trade

for their own or their firm’s accounts–when called upon by an Exchange

official–by making a bid or offer that will narrow the existing quote

spread or improve the depth of an existing quote.

Competitive Traders trade for their own accounts, under strict rules

designed to assure that their activities contribute to market liquidity.

[pic]

And last, but not least, come Stock Specialists. The Exchange tries to

preserve price continuity– which means that if a stock has been trading at,

say, 35, the next buyer or seller should be able to an order within a

fraction of that price. But what if a buyer comes in when no other broker

wants to sell close to the last price? Or vice versa for a seller? How is

price continuity preserved? At this point enters the Specialist. The

specialist is charged with a special function, that of maintaining

continuity in the price of specific stocks. The specialist does this by

standing ready to buy shares at a price reasonably close to the last

recorded sale price when someone wants to sell and there is a lack of

buyers, and to sell when there is a lack of sellers and someone wants to

buy. For each listed stock, there are one or more specialist firms assigned

to perform this stabilizing function. The specialist also acts as a broker,

executing public orders for the stock, and keeping a record of limit orders

to be executed if the price of the stock reaches a specified level. Some of

the specialist firms are large and assigned to many different stocks. The

Exchange and the SEC are particularly interested in the specialist

function, and trading by the specialists is closely monitored to make sure

that they are giving precedence to public orders and helping to stabilize

the markets, not merely trying to make profits for themselves. Since a

specialist may at any time be called on to buy and hold substantial amounts

of stock, the specialist firms must be well capitalized.

In today's markets, where multi-million-dollar trades by institutions

(i. e. banks, pension funds, mutual funds, etc.) have become common, the

specialist can no longer absorb all of the large blocks of stock offered

for sale, nor supply the large blocks being sought by institutional buyers.

Over the last several years, there has been a rapid growth in block trading

by large brokerage firms and other firms in the securities industry. If an

institution wants to sell a large block of stock, these firms will conduct

an expert and rapid search for possible buyers; if not enough buying

interest is found, the block trading firm will fill the gap by buying

shares itself, taking the risk of owning the shares and being able to

dispose of them subsequently at a profit. If the institution wants to buy

rather than sell, the process is reversed. In a sense, these firms are

fulfilling the same function as the specialist, but on a much larger scale.

They are stepping in to buy and own stock temporarily when offerings exceed

demand, and vice versa.

So the specialists and the block traders perform similar stabilizing

functions, though the block traders have no official role and have no

motive other than to make a profit.

3. SECURITIES. CATEGORIES OF COMMON STOCK

There is a lot to be said about securities. Security is an instrument

that signifies (1) an ownership position in a corporation (a stock), (2) a

creditor relationship with a corporation or governmental body (a bond), or

(3) rights to ownership such as those represented by an option, subsription

right, and subsription warrant.

People who own stocks and bonds are referred to as investors or,

respectively, stockholders (shareholders) and bondholders. In other words a

share of stock is a share of a business. When you hold a stock in a

corporation you are part owner of the corporation. As a proof of ownership

you may ask for a certificate with your name and the number of shares you

hold. By law, no one under 21 can buy or sell stock. But minors can own

stock if kept in trust for them by an adult. A bond represents a promise by

the company or government to pay back a loan plus a certain amount of

interest over a definite period of time.

We have said that common stocks are shares of ownership in

corporations. A corporation is a separate legal entity that is responsible

for its own debts and obligations. The individual owners of the corporation

are not liable for the corporation's obligations. This concept, known as

limited liability, has made possible the growth of giant corporations. It

has allowed millions of stockholders to feel secure in their position as

corporate owners. All that they have risked is what they paid for their

shares.

A stockholder (owner) of a corporation has certain basic rights in

proportion to the number of shares he or she owns. A stockholder has the

right to vote for the election of directors, who control the company and

appoint management. If the company makes profits and the directors decide

to pay part of these profits to shareholders as dividends, a stockholder

has a right to receive his proportionate share. And if the corporation is

sold or liquidates, he has a right to his proportionate share of the

proceeds.

What type of stocks can be found on stock exchanges? The question can

be answered in different ways. One way is by industry groupings. There are

companies in every industry, from aerospace to wholesale distributers. The

oil and gas companies, telephone companies, computer companies,

autocompanies and electric utilities are among the biggest groupings in

terms of total earnings and market value. Perhaps a more useful way to

distinguish stocks is according to the qualities and values investors want.

3.1 Growth Stocks.

The phrase "growth stock" is widely used as a term to describe what

many investors are looking for. People who are willing to take greater-than-

average risks often invest in what is often called "high-growth"

stocks—stocks of companies that are clearly growing much faster than

average and where the stock commands a premium price in the market. The

rationale is that the company's earnings will continue to grow rapidly for

at least a few more years to a level that justifies the premium price. An

investor should keep in mind that only a small minority of companies really

succeed in making earnings grow rapidly and consistently over any long

period. The potential rewards are high, but the stocks can drop in price at

incredible rates when earnings don't grow as expected. For example, the

companies in the video game industry boomed in the early 1980s, when it

appeared that the whole world was about to turn into one vast video arcade.

But when public interest shifted to personal computers, the companies found

themselves stuck with hundreds of millions of dollars in video game

inventories, and the stock collapsed.

There is less glamour, but also less risk, in what we will call—for

lack of a better phrase—"moderate-growth" stocks. Typically, these might be

stocks that do not sell at premium, but where it appears that the company's

earnings will grow at a faster-than-average rate for its industry. The

trick, of course, is in forecasting which companies really will show better-

than-average growth; but even if the forecast is wrong, the risk should not

be great, assuming that the price was fair to begin with.

There's a broad category of stocks that has no particular name but that

is attractive to many investors, especially those who prefer to stay on the

conservative side. These are stocks of companies that are not glamorous,

but that grow in line with the economy. Some examples are food companies,

beverage companies, paper and packaging manufacturers, retail stores, and

many companies in assorted consumer fields.

As long as the economy is healthy and growing, these companies are

perfectly reasonable investments; and at certain times when everyone is

interested in "glamour" stocks, these "non-glamour" issues may be neglected

and available at bargain prices. Their growth may not be rapid, but it

usually is reasonably consistent. Also, since these companies generally do

not need to plow all their earnings back into the business, they tend to

pay sizable dividends to their stockholders. In addition to the real growth

that these companies achieve, their values should adjust upward over time

in line with inflation—a general advantage of common stocks that is worth

repeating.

3.2 Cyclical Stocks.

These are stocks of companies that do not show any clear growth trend,

but where the stocks fluctuate in line with the business cycle (prosperity

and recession) or some other recognizable pattern. Obviously, one can make

money if he buys these near the bottom of a price cycle and sells near the

top. But the bottoms and tops can be hard to recognize when they occur; and

sometimes, when you think that a stock is near the bottom of a cycle, it

may instead be in a process of long-term decline.

3.3 Special Situations.

There’s a type of investment that professionals usually refer to as

“special situations”. These are cases where some particular corporate

development–perhaps a merger, change of control, sale of property, etc.–

seems likely to raise the value of a stock. Special situation investments

may be less affected by general stock market movements than the average

stock investment; but if the expected development doesn’t occur, an

investor may suffer a loss, sometimes sizable. Here the investor has to

judge the odds of the expected development’s actually coming to pass.

4. PREFERRED STOCKS

A preferred stock is a stock which bears some resemblances to a bond

(see below). A preferred stockholder is entitled to dividends at a

specified rate, and these dividends must be paid before any dividends can

be paid on the company's common stock. In most cases the preferred dividend

is cumulative, which means that if it isn't paid in a given year, it is

owed by the company to the preferred stockholder. If the corporation is

sold or liquidates, the preferred stockholders have a claim on a certain

portion of the assets ahead of the common stockholders. But while a bond is

scheduled to be redeemed by the corporation on a certain "maturity" date, a

preferred stock is ordinarily a permanent part of the corporation's capital

structure. In exchange for receiving an assured dividend, the preferred

stockholder generally does not share in the progress of the company; the

preferred stock is only entitled to the fixed dividend and no more (except

in a small minority of cases where the preferred stock is "participating"

and receives higher dividends on some basis as the company's earnings

grow).

Many preferred stocks are listed for trading on the NYSE and other

exchanges, but they are usually not priced very attractively for individual

buyers. The reason is that for corporations desiring to invest for fixed

income, preferred stocks carry a tax advantage over bonds. As a result,

such corporations generally bid the prices of preferred stocks up above the

price that would have to be paid for a bond providing the same income. For

the individual buyer, a bond may often be a better buy.

4.1 Bonds-Corporate

Unlike a stock, a bond is evidence not of ownership, but of a loan to a

company (or to a government, or to some other organization). It is a debt

obligation. When you buy a corporate bond, you have bought a portion of a

large loan, and your rights are those of a lender. You are entitled to

interest payments at a specified rate, and to repayment of the full "face

amount" of the bond on a specified date. The fixed interest payments are

usually made semiannually. The quality of a corporate bond depends on the

financial strength of the issuing corporation.

Bonds are usually issued in units of $1,000 or $5,000, but bond prices

are quoted on the basis of 100 as "par" value. A bond price of 96 means

that a bond of $1,000 face value is actually selling at $960 And so on.

Many corporate bonds are traded on the NYSE, and newspapers carry a

separate daily table showing bond trading. The major trading in corporate

bonds, however, takes place in large blocks of $100,000 or more traded off

the Exchange by brokers and dealers acting for their own account or for

institutions.

4.2 Bonds-U. S. Government

U.S. Treasury bonds (long-term), notes (intermediate-term) and bills

(short-term), as well as obligations of the various U. S. government

agencies, are traded away from the exchanges in a vast professional market

where the basic unit of trading is often $ 1 million face value in amount.

However, trades are also done in smaller amounts, and you can buy

Treasuries in lots of $5,000 or $10,000 through a regular broker. U. S.

government bonds are regarded as providing investors with the ultimate in

safety.

4.3 Bonds-Municipal

Bonds issued by state and local governments and governmental units are

generally referred to as "municipals" or "tax-exempts", since the income

from these bonds is largely exempt from federal income tax.

Tax-exempt bonds are attractive to individuals in higher tax brackets

and to certain institutions. There are many different issues and the

newspapers generally list only a small number of actively traded

municipals. The trading takes place in a vast, specialized over-the-counter

market. As an offset to the tax advantage, interest rates on these bonds

are generally lower than on U. S. government or corporate bonds. Quality is

usually high, but there are variations according to the financial soundness

of the various states and communities.

4.4 Convertible Securities

A convertible bond (or convertible debenture) is a corporate bond that

can be converted into the company's common stock under certain terms.

Convertible preferred stock carries a similar "conversion privilege". These

securities are intended to combine the reduced risk of a bond or preferred

stock with the advantage of conversion to common stock if the company is

successful. The market price of a convertible security generally represents

a combination of a pure bond price (or a pure preferred stock price) plus a

premium for the conversion privilege. Many convertible issues are listed on

the NYSE and other exchanges, and many others are traded over-the-counter

4.5 Options

An option is a piece of paper that gives you the right to buy or sell a

given security at a specified price for a specified period of time. A

"call" is an option to buy, a "put" is an option to sell. In simplest form,

these have become an extremely popular way to speculate on the expectation

that the price of a stock will go up or down. In recent years a new type of

option has become extremely popular: options related to the various stock

market averages, which let you speculate on the direction of the whole

market rather than on individual stocks. Many trading techniques used by

expert investors are built around options; some of these techniques are

intended to reduce risks rather than for speculation.

4.6 Rights

When a corporation wants to sell new securities to raise additional

capital, it often gives its stockholders rights to buy the new securities

(most often additional shares of stock) at an attractive price. The right

is in the nature of an option to buy, with a very short life. The holder

can use ("exercise") the right or can sell it to someone else. When rights

are issued, they are usually traded (for the short period until they

expire) on the same exchange as the stock or other security to which they

apply.

4.7 Warrants

A warrant resembles a right in that it is issued by a company and gives

the holder the option of buying the stock (or other security) of the

company from the company itself for a specified price. But a warrant has a

longer life—often several years, sometimes without limit As with rights,

warrants are negotiable (meaning that they can be sold by the owner to

someone else), and several warrants are traded on the major exchanges.

4.8 Commodities and Financial Futures

The commodity markets, where foodstuffs and industrial commodities are

traded in vast quantities, are outside the scope of this text. But because

the commodity markets deal in "futures"—that is, contracts for delivery of

a certain good at a specified future date— they have also become the center

of trading for "financial futures", which, by any logical definition, are

not commodities at all.

Financial futures are relatively new, but they have rapidly zoomed in

importance and in trading activity. Like options, the futures can be used

for protective purposes as well as for speculation. Making the most

headlines have been stock index futures, which permit investors to

speculate on the future direction of the stock market averages. Two other

types of financial futures are also of great importance: interest rate

futures, which are based primarily on the prices of U.S. Treasury bonds,

notes, and bills, and which fluctuate according to the level of interest

rates; and foreign currency futures, which are based on the exchange rates

between foreign currencies and the U.S. dollar. Although, futures can be

used for protective purposes, they are generally a highly speculative area

intended for professionals and other expert investors.

5. STOCK MARKET AVERAGES READING THE NEWSPAPER QUOTATIONS

The financial pages of the newspaper are mystery to many people. But

dramatic movements in the stock market often make the front page. In

newspaper headlines, TV news summaries, and elsewhere, almost everyone has

been exposed to the stock market averages.

In a brokerage firm office, it’s common to hear the question “How’s the

market?” and answer, “Up five dollars”, or “Down a dollar”. With 1500

common stocks listed on the NYSE, there has to be some easy way to express

the price trend of the day. Market averages are a way of summarizing that

information.

Despite all competition, the popularity crown still does to an average

that has some of the qualities of an antique–the Dow Jones Industrial

Average, an average of 30 prominent stocks dating back to the 1890s. This

average is named for Charles Dow–one of the earliest stock market

theorists, and a founder of Dow Jones & Company, a leading financial news

service and publisher of the Wall Street Journal.

In the days before computers, an average of 30 stocks was perhaps as

much as anyone could calculate on a practical basis at intervals throughout

the day. Now, the Standard & Poor’s 500 Stock Index (500 leading stocks)

and the New York Stock Exchange Composite Index (all stocks on the NYSE)

provide a much more accurate picture of the total market. The professionals

are likely to focus their attention on these “broad” market indexes. But

old habits die slowly, and someone calls out, “How’s the market?” and

someone else answers, “Up five dollars,” or “Up five”–it’s still the Dow

Jones Industrial Average (the “Dow” for short) that they’re talking about.

The importance of daily changes in the averages will be clear if you

view them in percentage terms. When the market is not changing rapidly, the

normal daily change is less than Ѕ of 1%. A change of Ѕ% is still moderate;

1% is large but not extraordinary; 2% is dramatic. From the market

averages, it’s a short step to the thousands of detailed listings of stock

prices and related data that you’ll find in the daily newspaper financial

tables. These tables include complete reports on the previous day’s trading

on the NYSE and other leading exchanges. They can also give you a

surprising amount of extra information.

Some newspapers provide more extensive tables, some less. Since the

Wall Street Journal is available world wide, we’ll use it as a source of

convenient examples. You’ll find a prominent page headed “New York Stock

Exchange Composite Transactions”. This table covers the day’s trading for

all stocks listed on the NYSE. “Composite” means that it also includes

trades in those same stocks on certain other exchanges (Pacific, Midwest,

etc.) where the stocks are “dually listed”. Here are some sample entries:

|52 Weeks | | |Yld |P-E |Sales | | | |Net |

|High |Low |Stock |Div |% |Ratio|100s |High |Low |Close |Chg. |

|52 |37 5/8|Cons Ed |2.68 |5.4 |12 |909 |49 |48 7/8|49 1/4|+1/4 |

|7/8 | | | | | | |3/8 | | | |

|91 |66 1/2|Gen El |2.52 |2.8 |17 |11924 |91 |89 5/8|90 |-1 |

|1/8 | | | | | | |3/8 | | | |

|41 |26 1/4|Mobil |2.20 |5.4 |10 |15713 |41 |40 1/2|40 7/8|+5/8 |

|3/8 | | | | | | | | | | |

Some of the abbreviated company names in the listings can be a

considerable puzzle, but you will get used to them.

While some of the columns contain longer-term information about the

stocks and the companies, we'll look first at the columns that actually

report on the day's trading. Near the center of the table you will see a

column headed "Sales 100s". Stock trading generally takes place in units of

100 shares and is tabulated that way; the figures mean, for example, that

90,900 shares of Consolidated Edison, 1,192,400 shares of General Electric,

and 1,571,300 shares of Mobil traded on January 8. (Mobil actually was the

12th "most active" stock on the NYSE that day, meaning that it ranked 12th

in number of shares traded.)

The next three columns show the highest price for the day, the lowest,

and the last or "closing" price. The "Net Chg." (net change) column to the

far right shows how the closing price differed from the previous day's

close—in this case, January 7.

Prices are traditionally calibrated in eighths of a dollar. In case you

aren't familiar with the equivalents, they are:

1/8 =$.125

1/4=$.25

3/8 =$.375

1/2 =$.50

5/8 =$.625

3/4=$.75

7/8 =$.875

Con Edison traded on January 8 at a high of $49.375 per share and a low

of $48 875, it closed at $49.25, which was a gain of $0.25 from the day

before. General Electric closed down $1.00 per share at $90 00, but it

earned a "u" notation by trading during the day at $91 375, which was a new

high price for the stock during the most recent 52 weeks (a new low price

would have been denoted by a "d").

The two columns to the far left show the high and low prices recorded

in the latest 52 weeks, not including the latest day. (Note that the high

for General Electric is shown as 91 1/8, not 91 3/8.) You will note that

while neither Con Edison nor Mobil reached a new high on January 8, each

was near the top of its "price range" for the latest 52 weeks. (Individual

stock price charts, which are published by several financial services,

would show the price history of each stock in detail.)

The other three columns in the table give you information of use in

making judgments about stocks as investments. Just to the right of the

name, the "Div." (dividend) column shows the current annual dividend rate

on the stock — or, if there's no clear regular rate, then the actual

dividend total for the latest 12 months. The dividend rates shown here are

$2.68 annually for Con Edison, $2.52 for GE, and $2.20 for Mobil. (Most

companies that pay regular dividends pay them quarterly: it's actually

$0.67 quarterly for Con Edison, etc.) The "Yid." (Yield) column relates tie

annual dividend to the latest stock price. In the case of Con Edison, for

example, $2.68 (annual dividend)/$49.25 (stock price) ==5.4%, which

represents the current yield on the stock.

5.1 The Price-Earnings Ratio

Finally, we have the "P-E ratio", or price-earnings ratio, which

represents a key figure in judging the value of a stock. The price-earnings

ratio—also referred to as the "price-earnings multiple", or sometimes

simply as the "multiple"—is the ratio of the price of a stock to the

earnings per share behind the stock.

This concept is important. In simplest terms (and without taking

possible complicating factors into account), "earnings per share" of a

company are calculated by taking the company's net profits for the year,

and dividing by the number of shares outstanding. The result is, in a very

real sense, what each share earned in the business for the year — not to be

confused with the dividends that the company may or may not have paid out.

The board of directors of the company may decide to plow the earnings back

into the business, or to pay them out to shareholders as dividends, or

(more likely) a combination of both; but in any case, it is the earnings

that are usually considered as the key measure of the company's success and

the value of the stock.

The price-earnings ratio tells you a great deal about how investors

view a stock. Investors will bid a stock price up to a higher multiple if a

company's earnings are expected to grow rapidly in the future. The multiple

may look too high in relation to current earnings, but not in relation to

expected future earnings. On the other hand, if a company's future looks

uninteresting, and earnings are not expected to grow substantially, the

market price will decline to a point where the multiple is low.

Multiples also change with the broad cycles of the stock market, as

investors become willing to pay more or less for certain values and

potentials. Between 1966 and 1972, a period of enthusiasm and speculation,

the average multiple was usually 15 or higher. In the late 1970s, when

investors were generally cautious and skeptical, the average multiple was

below 10. However, note that these figures refer to average

multiples–whatever the average multiple is at any given time, the multiples

on individual stocks will range above and below it.

Now we can return to the table. The P-E ratio for each stock is based

on the latest price of the stock and on earnings for the latest reported 12

months. The multiples, as you can see, were 12 for Con Edison, 17 for GE,

and 10 for Mobil. In January 1987, the average multiple for all stocks was

very roughly around 15. Con Edison is viewed by investors as a relatively

good-quality utility company, but one that by the nature if its business

cannot grow much more rapidly that the economy as a whole. GE, on the other

hand, is generally given a premium rating as a company that is expected to

outpace the economy.

You can't buy a stock on the P-E ratio alone, but the ratio tells you

much that is useful. For stocks where no P-E ratio is shown, it often means

that the company showed a loss for the latest 12 months, and that no P-E

ratio can be calculated. Somewhere near the main NYSE table, you'll find a

few small tables that also relate to the day's NYSE-Composite trading.

There's the table showing the 15 stocks that traded the greatest number of

shares for the day (the "most active" list), a table of the stocks that

showed the greatest percentage of gains or declines (low-priced stocks

generally predominate here); and one showing stocks that made new price

highs or lows relative to the latest 52 weeks.

You'll find a large table of "American Stock Exchange Composite

Transactions", which does for stocks listed on the AMEX just what the NYSE-

Composite table does for NYSE-listed stocks. There are smaller tables

covering the Pacific Stock Exchange, Boston Exchange, and other regional

exchanges.

The tables showing over-the-counter stock trading are generally divided

into two or three sections. For the major over-the-counter stocks covered

by the NASDAQ quotation and reporting system, actual sales for the day are

reported and tabulated just as for stocks on the NYSE and AMEX. For less

active over-the-counter stocks, the paper lists only "bid" and "asked"

prices, as reported by dealers to the NASD.

It is worth becoming familiar with the daily table of prices of U.S.

Treasury and agency securities. The Treasury issues are shown not only in

terms of price, but in terms of the yield represented by the current price.

This is the simplest way to get a bird's-eye view of the current interest

rate situation—you can see at a glance the current rates on long-term

Treasury bonds, intermediate-term notes, and short-term bills.

Elsewhere in the paper you will also find a large table showing prices

of corporate bonds traded on the NYSE, and a small table of selected tax-

exempt bonds (traded OTC). But unless you have a specific interest in any

of these issues, the table of Treasury prices is the best way to follow the

bond market.

There are other tables listed. These are generally for more experienced

investors and those interested in taking higher risks. For example, there

are tables showing the trading on several different exchanges in listed

options—primarily options to buy or sell common stocks (call options and

put options). There are futures prices— commodity futures and also interest

rate futures, foreign currency futures, and stock index futures. There are

also options relating to interest rates and options relating to the stock

index futures.

6. EUROPEAN STOCKMARKETS–GENERAL TREND

Competition among Europe’s securities exchanges is fierce. Yet most

investors and companies would prefer fewer, bigger markets. If the

exchanges do not get together to provide them, electronic usurpers will.

How many stock exchanges does a Europe with a single capital market

need? Nobody knows. But a part-answer is clear: fewer than it has today.

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