How Doing Your 'Share' Has Enriched Facebook

There are several – if not many – companies that have over a billion clients. Drink the world’s most popular soda or smoke its most popular cigarettes, and boom, you’re part of the customer base. But imagine a company with 1.2 billion registered users (give or take an Egypt or Germany’s worth of fake ones), many of them using its product for hours on end and cavalierly conveying their personal information while they’re at it. Founded in 2004, Menlo Park, Calif.-based Facebook (FB) is new enough that you’re probably familiar with its history. If not, here’s the one-sentence version: College kid notices how ugly MySpace is, makes something sleeker and markets it to post-adolescents. The phenomenon of Facebook, and the speed at which users joined and continue to join, is unprecedented. But just because a novelty is adopted by a large chunk of humanity, does that mean it’s inherently an economic powerhouse?

From Frothy to Flat, and to Frothy Again

If you believe that an overvalued juggernaut shouldn’t take more than two years to reenter the atmosphere, then the answer is most likely yes. Facebook stock lost half its value within three months of going public in May 2012, only to quadruple in value from that nadir. The stock still sits at close to an all-time high, resulting in a company with a market capitalization of $160 billion. That large number is the result of anticipation that Facebook will one day realize growth beyond its current apparent capacity. The company’s book value sits at a considerably less remarkable $15 billion, which is still substantial for an entity that didn’t even exist a decade ago and which doesn’t exactly provide an indispensable good or service.

Facebook's Real Users

Last year Facebook turned a profit of $1.5 billion on revenues of just under $8 billion, an enviable profit margin regardless of market sector. But unlike the company’s cohorts on the list of the world’s largest, Facebook doesn’t sell directly to customers. Tempting though it might be to collect even a nominal fee from each of those 1.2 billion users, the company charges them nothing to use the site. Instead, as you presumably know if you’re one of those 1.2 billion, Facebook’s true customers are advertisers. Some of the world’s largest purchasers of advertising, such as AT&T (T) and General Motors Co. (GM), have Facebook pages whose “likes” number in the millions. 

But large corporations are only part of Facebook’s true clientele. The company’s advertisers range from multinational oil refiners to neighborhood craft stores, each convinced that reaching potential customers by spending money on the world’s largest social media site is mandatory, not optional.

Rise of Mobile

As use of mobile devices has increased relative to desktop computers in recent years, Facebook and its advertising have followed suit. 2013 represented a watershed year in that for the first time, most of the company’s money came from smartphone/tablet advertising. That’s not the result of a small sample size, either. 2013 was also the year in which Facebook welcomed its millionth advertiser, confirming the truth that online advertising has left its legacy media brethren of print, radio and television behind, probably forever. 

Facebook might be a glorified coupon book, a constantly updated one on which you can post your vacation photos and wait for your friends and friend equivalents to leave banal comments, but there’s more to the company’s revenue streams than just advertising. Somewhat surprisingly, Facebook derives a lower percentage of its revenue from advertising than does its competitor in documenting every detail of its users’ lives, Google Inc. (GOOG). In fact, in its short existence Facebook has gone from exclusively dependent on advertising to operating a model in which 10% of revenue comes from payments. That most likely means via games. Play Candy Crush Saga or some other video game, buy 99 cents worth of additional gameplay, hundreds of times over, and not only have you thrown away enough money to buy a few shares of Facebook, but you’ve contributed to the company’s prospering secondary revenue source. Multiply by tens or hundreds of millions of users, and you get the idea.

The Bottom Line

A generation ago, the idea of a virtual meeting place for people of common interests to congregate was conceivable, if not necessarily practicable. The idea of monetizing such a place was even further removed from common understanding. As for monetizing it to the tune of tens of billions, buttressed by a population eager to spend money on non-physical trinkets and be advertised to continuously…well, that’s what makes Facebook’s rise so remarkable, and the company itself so distinctive a player among the world’s largest and most successful.

Market capitalisation: the value of a company

Oftentimes, certain opportunities present themselves within companies of different sizes. This lesson will introduce you to the different types of companies, the benefits and risks of each type, and how to structure your portfolio for your individual risk levels.

First of all, we will explain what market cap is and how you can determine the size of a company.

Determining how large or small a company is

The most common method of calculating the value of a company is to look at its market capitalisation – often referred to as the "market cap".

The market capitalisation of a company is the value of a company based on the total value of all its outstanding shares.

Market capitalisation formula: outstanding shares x share value = market cap

So if a company had 100,000 outstanding shares and they were worth $10 each, then the market capitalisation would be $1,000,000.

The market capitalisation therefore shows how much it would cost to purchase the entire company at the current share value, in other words, buying all of its shares. When a company's share price goes up or down, the market capitalisation will increase or decrease respectively.

Market cap allows you to see how much the company is worth

An individual share price does not tell you how much the company is worth as a whole. A company with a lower value of stock may actually be worth more than one with a higher share value, if it has more of them outstanding.

In this sense, it allows you to make a quick judgement of a company, without having to look into details such as the company's balance sheet, equity and debt value.

Companies are grouped together based on market cap

Working out the size of a company's value allows investors to group together certain companies in order to diversify their investments. The groups are divided into small-cap, medium cap and large-cap companies.

Small-cap companies

Small-cap companies usually have a market value of between $500 million to $2 billion, however, this is not set in stone.

They are usually new companies that are not followed as much or are not as widely recognised as larger companies.

Advantages of small-cap companies

Small-cap companies can present good opportunities as their shares are usually much cheaper to buy.

With the exception of periods of economic turmoil, small-cap companies can outperform companies of a larger size due to their greater growth potential.

During periods of economic growth, traders may turn their attention to smaller companies because confidence is high and they are likely to increase their risk tolerance for greater returns.

Finding an edge with small-cap companies

With smaller companies, many investors may buy or sell shares based on a more personal approach. For example, customers of some companies may have more of an insight into how a company operates. They will usually be the first to see new products or services that the company may offer. They may even have a sixth sense of upcoming changes, just simply being involved with it.

Increased volatility of share price gives a sign

The volatility of smaller companies can often make it easier to sense when a change is coming. The lower liquidity of smaller companies means volatility can often be much higher and so a sudden increase in price action can be a giveaway that other traders are interested in their stock.

Disadvantages of small-cap

Small-cap companies are generally associated with higher risk, because they are usually new. There is a greater chance of a small company going out of business than mid-cap or large-cap companies that have established brands.

Small-cap companies pay little in the way of consistent dividends to investors. This is because they need to reinvest profit back into the company to grow. This is not to say they do not pay dividends at all, because sometimes they may do so in order to attract new investors. However they are less likely to do so on a regular basis.

Trading small-cap shares can be more difficult because they have less liquidity than mid-cap and large-cap companies. This is due to the fact that less people trade them. This can make their share price more volatile and make it more difficult to get the desired price.

Mid-cap companies

Mid-cap companies are those that have a market capitalisation of around $2 billion to $10 billion.

In some cases mid-cap companies are former large-cap companies that have seen a decrease in share value, but they still have the potential to grow.

Advantages of mid-cap

A mid-cap company is seen as the middle of the road in terms of risk, because there is less potential that they go out of business than in the case of small-cap companies.

Once a company has reached the size of a mid-cap, they usually have access to higher levels of funding than small-cap companies, which is an advantage during times of economic hardship.

Mid-cap companies have growth opportunities through product development and customer acquisition, compared to larger companies that may have reached their limit of organic growth.

They are also more likely to pay dividends more consistently than small-cap companies.

Finding and edge with mid-cap companies

As well as having the above advantages over small-cap companies, mid-cap companies can still hold many of the benefits that smaller firms do as well.

For example, in periods of growth in the economy, mid-sized firms also do well because of their growth potential.

It is often easier to analyse the potential of medium sized companies because their balance sheets and financial statements are generally much smaller and can be easier to read than companies of a larger size. This makes it easier to determine what they are working on, in terms of new products, and what their prospects are for the future.

Mid-cap companies have more access to a decent amount of funding and so if a trader determines that a new product development could result in significant revenue increase, then this could result in a decent return for a trader looking to buy those shares.

Disadvantages of mid-cap companies

The growth prospects of mid-caps can be lower than those of small-cap companies.

Although less risky than a small-cap stock, they are more risky than large-caps. This is because mid-caps are more exposed to adverse changes in economic conditions than large-cap companies.

Despite the growth potential that a mid-cap company has over a large-cap company, a mid-cap company can become stagnant. Determining which mid-caps will actually grow into large-cap companies can be difficult.

There is also less liquidity trading mid-caps than large-cap stock.

Large-cap companies

Large-cap companies, also known as blue chip companies, have a market capitalisation of over $10 billion.

Advantages of large-cap companies

Large-cap companies are usually seen as the safest investment for those looking to gain a stable return, as they usually pay dividends on a more consistent basis than small or mid-cap companies.

Large-cap companies have access to greater funding and cash, which make them more secure in volatile economic circumstances. During economic downturns, you may actually see an influx of investment into these companies because of their safety.

Liquidity is higher for large-cap companies, resulting in lower volatility and a better chance of securing the price you want when you trade them.

A firm that has reached this size usually is able to invest further into developing products that already have a brand behind them. When large firms make an announcement that they have developed a new technology or a cutting-edge product, there is usually a positive response from trader and investors.

Finding an edge with large-cap companies

Finding an edge for large-cap companies is more difficult to find than small or mid-cap companies, because there is little in the way of public information that will not be available for all those that are trading it.

Those looking for an edge to determine which large-cap companies will usually analyse the company in-depth to determine if the company is undervalued or not. Sometimes this can be enough, because some traders are more willing to analyse companies more than others.

For example, large-cap companies produce very large and complicated company and earnings reports. A trader that will go through this information in-depth may determine something that shows the company is undervalued and find an opportunity.

Disadvantages of large-cap

Large companies have the least potential for significant growth, because they have usually reached a limit in their ability to acquire new customers organically.

Due to the fact that these shares are the most popular and well established, they are generally the most expensive. This means you will be less likely to purchase larger quantities of them.

There is still risk in investing in large-cap and despite historic performance, there is no guarantee that having a low risk blue chip portfolio will give consistent stable returns.

For example, banks were once seen as stable large-cap companies. However, since 2008, many banks have seen their share prices collapse, dividends suspended and their existence even threatened because of the sudden instability of the banking sector.

Diversifying your trading into different caps

Diversifying your portfolio among companies of different capitalisation can avoid your portfolio being too one sided. Having a higher percentage of large-caps would limit your potential for growth, whilst a high percentage of small-cap companies can be too risky.

When you are looking to trade, or invest into, different shares, it is a good idea not to expose yourself to only one aspect of the market.

Many traders and investors advocate that it is a good idea to have large companies in a portfolio for consistent returns, but also hold a selection of mid and small-cap stock for growth potential and large gains.

How to buy and sell shares

How do you actually trade shares?

The answer to this question usually depends on how active you want to be as an investor or a trader. Those that want to buy and hold shares for many years can go to a bank, who usually have the means to buy shares. The fees that a traditional bank charge – you are usually charged twice, once to buy and again to sell – are high. The rise in value of those shares over the long term will generally more than compensate for the fees you have to pay.

You can use an online broker to trade more frequently

However, if you want to buy and sell shares quickly, to take advantage of short term price movements, then this method, due to the high cost of trading, will not suit you.

To be more active in the markets, it would be best to trade through an online broker.

It's a fairly straightforward process where you place an order with a broker using a piece of software called a trading platform, and it will execute buy and sell orders on your behalf.

There are two different ways of trading shares

The way you can trade shares has altered in recent years. It used to be the case that in order to buy a share, you would take ownership over the actual share and have that ownership until you sold that share again.

There is now another way in which you can trade shares and this is by using what is called a contract for difference.

A contract for difference, or CFD, allows you to take advantage of the same price movements, but you do not take ownership of the shares at any point.

A CFD is an agreement between a buyer and a seller

A CFD is an agreement between two parties, one of which is a buyer and the other a seller – one party is usually the broker or a CFD provider.

If a person buys a CFD of a share and the price of that share is higher when the trade is closed, the buyer will receive the difference in the price from the seller.

If the price of the share is lower at the time the trade is closed, the buyer has to give the seller the difference in price.

The agreement is based on the price movement only. So if you buy a CFD of a share, the actual transfer of the share does not take place.

The price of the CFD is based on the underlying share

The underlying share is the actual share that the CFD is based on – remember you are not actually taking ownership and therefore trading the share.

When you trade a CFD of a share, the price of the CFD and the share will be the same – they do not trade any differently.

Using leverage

An advantage to trading with CFDs is that you can use leverage.

When conventionally buying shares, you would have to have the amount that you wished to purchase in your account. For example, if a company had shares worth $10 and you wished to purchase 1000 for them, then you would have $10,000 in your account in order to do so.

However, you may not have $10,000 in your account to do so.

Using leverage means that you essentially borrow money from the broker in order to trade more shares than you usually would with your account.

Taking the same example, if you only have $1000 in your account and you still wished to purchase 1000 shares, the broker would effectively lend you $9000 and you purchase the shares with the combined amount of $10,000. This means that if the shares went up by $0.1, then you have still made $100 on this trade.

When you sell the CFDs again, then the money that was financed by the broker is returned and you are left with $1100 in your account.

This is usually known as either a leverage amount of 10:1 or a margin of 10% – you need 10% of the total value to make the trade.

This allows you to gain a higher return on your initial investment than if you traded shares in the conventional method.

Danger using leverage

You must also note, however, that you can also lose just as much as if you had a larger account size. To take the example above, if the share went down by $0.1, then you would have lost $100 and your total capital would have then gone down to $900 – you would have lost 10% of your account.

In order to ensure that a few losing trades do not wipe out your account, you should only ever risk a maximum of 2% of your total trading capital on any single trade.

Costs of trading

For any trade, whether you are trading shares in the conventional way or are trading with CFDs, you need to pay your broker or provider a fee when you open and close your position.

Spreads and commission

Most CFD brokers will charge a spread or a commission of each side of the trade. That means that there will be a charge for both opening and closing the position.

Overnight financing fees

When trading with CFDs, you are liable to pay a financing fee for any long position that you hold overnight. This is usually based on the interbank or LIBOR lending rate, but in some cases it can simply be set by the broker.

If you are short, you are usually credited the lending rate fee, unless the lending rate is extremely low.

CFDs pay dividends

When trading CFDs of shares, you are entitled to dividend payments, as long as you hold the CFD the day before the ex-dividend date, that is the day before which you must own the stock/CFD so that you qualify for receiving the payment. You can find the date on the investor relations webpage of the company whose stock you trade.

To receive a dividend payment, you must hold a long position. You will receive a payment of whatever the dividend is for that company for every share you have. For example, if you owned shares in a company that pays a quarterly dividend of $0.10 per share, you would be credited $0.10 for every share you held.

The process of receiving payments for dividends is usually more straight forward than owning the actual share. When owning a share, the dividend payment may be a few weeks after the ex-dividend date, whereas you usually receive payment the next working day for a CFD.

You are liable for the dividend payment for short positions

You should be aware that holding a short position will make you liable for the dividend payment. If you short sell a CFD of a company's share that pays a dividend, you would be charged the dividend payment for each share that you own.

Even though you are entitled to dividends, you do not have all the same rights as an actual owner. For example, someone who owns shares in a company may be entitled to go to shareholder meetings or have voting rights – owning a CFD does not entitle you to this.

Trading shares vs CFDs

Whether you decide to trade using CFDs or trading the underlying share is down to the preference of the trader – both have advantages. For example, if you would like to hold a position for a significant period of time, then you may wish to buy the actual shares instead of trading with a CFD, because there are no financing costs involved.

It is easier to be able to short sell CFDs than holding the actual shares, because the agreement is usually between you and the broker. When shorting actual shares, an entity would have to lend you the shares to be sold in order to buy them back at a lower price.

Regulation also, from time-to-time, prohibits the short selling of shares, depending on the regulator. Sort selling on CFDs very rarely comes under such restriction.

However, when using CFDs you are able to take advantage of increased return on investment because you can make use of leverage.

Buy low, sell high

Understanding the price-to-earnings (P/E) ratio can help you buy in the troughs and sell on the peaks, says Mike Deverell of Equilibrium Asset Management.

Back to basics

It’s the most basic principle in investing: 'buy low, sell high'.

Few people would disagree with this simple rule. Unfortunately, it isn’t that easy to apply as it’s impossible to say when markets are going to peak or bottom out. However, it is possible to implement a strategy that's a subtle variation on 'buy low, sell high'. Put simply, by buying when cheap and selling when expensive you will enhance your returns.

Sounds obvious, but how do you determine whether shares are cheap?

What is the P/E ratio?

The price/earnings (P/E) ratio is a great starting point. This is simply the price of a stock divided by its earnings per share. From this, a market average is calculated. If we compare this with other markets and historic averages, we can assess how cheap the market seems to be.

Research shows that if you buy equities when the P/E ratio is low, you are likely to end up with a much greater return than if you buy when P/E ratios are high. There is a strong correlation between the P/E ratio at the time of investment and the returns over the next 10 years.

This only really works at market level, where there is a wide enough spread to diversify away stock- or sector-specific risks. This helps to avoid 'value traps'.

Putting the theory to the test

It may seem intuitive, but it always surprises me how many investors ignore the simple principle of buying when 'cheap'. We recently carried out research to prove that returns can be enhanced using a P/E ratio strategy.

We back-tested a simple portfolio with a base allocation of 50% cash and 50% equities. We created a model to tell us whether we should over- or underweight equities at any time, and how to allocate between the different equity regions.

Our model said that if the P/E ratio was 50% below the long-term average, we should overweight equity by 50%. If it was 10% below average, we should overweight by 10%. If the P/E was 50% higher than average, we should underweight by 50% and so on.

This means equity could range from 25% to 75% of a portfolio. The portfolio was just changed once a year, in January. Just to be clear, this is not a system we blindly follow – just the model we tested in our research.

We then compared how the model portfolio would compare with a 'buy and hold' strategy, where we simply invested 50% in equity, held the rest in cash, and did not change it. We also compared our model against an annually rebalancing strategy, where each January we simply rebalanced back to 50/50.

How To Buy Stocks And Shares

The Stock Market is where shares are bought and sold, it is often seen as being an exciting and bustling place and you may have seen pictures on the television of people in bright coloured jackets at the New York, Tokyo or London Stock Exchange. The Stock Market is worth trillions of pounds and brings buyers and sellers together.

This is all well and good but if you are a novice how do you go about buying Stocks and Shares? One of the best things you can do is read up and get as much information as you can as well as looking at different share prices. Reading up about shares and keeping an eye on how they move up and down in price gives you an idea of how quickly things can change. Buying low and selling high is obviously the key, however, you may never know when the best time to make a move is. Of course probably one of the things you need to do if you have not bought into the Stock Market previously is to get some professional advice. There is free advice available through the internet or get in touch with somebody who is an expert in the field.

They can advise you how to get started, opening up an account and starting to buy shares. Buying and then going on to sell shares for a profit is a long game and you may have to wait years to get a decent return, however it can work towards your favour and you could make good profits. With the current state of global finance, it may well be a good time to buy low value shares and sell when the markets pick up. So if you are looking for a long term investment and realise that a good return may not be a guarantee but a possibility, get involved in the Stock Market and see where it takes you.

Posted in Business Strategy

Market News and Analysis

Keep in mind that futures prices are more volatile than stock prices. An established company that has enjoyed a long history of solid earnings will probably continue to do so. But a commodity that has trended up during one year, may turn around in the opposite direction the next year - and very quickly, too. For this reason, the commodity trader cannot sit back and relax knowing that his futures contract will bring in smooth returns. He must do his homework. In the futures market that means forecasting using fundamental analysis, technical analysis (charting), or both.

Information Sources for Fundamental Analysis

The fundamental approach to forecasting futures prices involves monitoring demand and supply. Traders gather this information from a number of sources trade organizations, private news gathering and research firms, and the press. The most complete source of information is the U.S. government through the Departments of Agriculture, Treasury and Commerce and the Federal Reserve Banks.

Several brokerage firms issue market letters, which are usually in the form of digests of market information with opinions on future price trends.

Also, a few private advisory services provide commodity market information. They analyze available information from government and other sources, and make their own market and price forecasts.

Technical Analysis - the Philosophy of Charting

The cornerstone of technical trading is the belief that fundamental information, political events, natural disasters and psychological factors will quickly show up in some form of price movement. The chartist, therefore, searches for certain formations or patterns which indicate bullish or bearish shifts in fundamentals. If his analysis is correct, he can quickly profit from the changes without necessarily knowing the specific reasons for them.

Fundamental traders can also use charting information. Since the market price itself may react before the fundamental information comes to light, chart action can alert the fundamental analyst that something is happening and encourage closer market analysis.

How Charting Works

Bar charts, one of the more popular tools of traders, include information on a particular futures market's price movements, volume and open interest. Such charts are produced daily, weekly and monthly. Studying historical patterns can help to provide a long-term perspective on the market.

In addition to studying chart patterns, traders also look at moving averages, oscillators and other devices in ascertaining how bullish or bearish a market may be growing. Computer models are also used to check trend direction.

Charting is not an exact science. Allowances must be made for errors, and unexpected events can disrupt forecasts made on chart patterns. Even so, many market participants - both fundamental and technical traders - find that charting helps them stay on the right side of the market as well as pin down entry and exit points.

How To Choose A Profitable Share Or Forex Currency

The decision to buy something is relatively easy.

What, specifically, to buy is an altogether different problem. Before you drive your new car home, you have to choose a certain make, a certain model, certain upholstery, a certain color scheme.

You decide between six cylinders and eight, between regular shift and automatic transmission, and say yes or no to white walls, radio, heater, and a dozen other optional extras.

So with securities. Although there are only two major categories-bonds and stocks-to select from, the variations and refinements and optional extras are as numerous as they are confusing.

For many investors, one factor may be sufficient reason to determine a choice. The man of modest means will very likely find corporate bonds at $1,000 apiece too steep and their 3 per cent interest payment too small for what he is trying to achieve.

A wealthier investor might be fascinated by the potential in common stock but find that he would obtain a greater yield from tax-exempt municipals. All investors, however, will do well to become familiar with the various kinds of securities represented in corporate capital structures in order to understand their effect on each other and their bearing on the choice he eventually makes for himself.

The corporation is an entity marvelously adapted to the requirements of all parties involved. It developed in response to the needs of the business community for funds over and beyond its own resources to enable it to build, expand, and grow.

The basic, one-celled form of business life is the individual entrepreneur-the store owner who merchandises goods, the artisan supplying services, the small manufacturer-whose capital needs are met out of savings or through a modest bank loan.

Somewhat more complex is the partnership, the pooling of the resources of several individuals to share in a joint venture. Presumably the credit of the group is somewhat stronger than that of the individual. The partners also assume responsibility for management of their company, participate in all profits accruing, and are legally liable for all debts outstanding.

As long as firms remain relatively small, either type of organization is adequate. As opportunities for expansion present themselves, however, when new plant and equipment are required, when greater amounts of raw materials must be stockpiled, and branch offices and distributors underwritten, and personnel increased, the individual and the partners are hard pressed. Their surplus generally is too small, their normal lines of credit too limited to do the job.

Enlargement of the partnership is no answer. Outside investors willing to take on the mutual responsibilities of partnership, or to immobilize their funds in a partnership agreement, are hard to come by. In any event, the range of financial needs at this stage usually is so great that only by increasing the partnership to ridiculous proportions could they be met.

The solution? A public stock corporation. Ownership thereby is spread among as many hundreds or thousands of people as are willing to buy in, their proportional part of the firm being represented by the amount of stock or number of shares they hold. Their reward is likewise a proportional share of their firm's profits.

Their control is exercised through the board of directors they elect. And because their stock is a standardized, known quantity-and because there are stock exchanges they can readily withdraw from the company and sell their piece of ownership to someone else.

The corporation, once established and in being, is an impersonal thing of indeterminate duration. Directors and officers may come and go, investors may buy in and sell out, but the corporation has a momentum and life force which may enable it to run on indefinitely.

With the Forex picking one currency against another is also similar, but you have the benefit of using Forex software to help you nowadays which can sometimes be downloaded free.

Stop Loss Basics

One of the trickiest concepts in forex trading is management of stop orders. A stop loss order is an order that closes out your trading position with the intent of cutting your losses when the market moves against you.

There is no clear rule of thumb when it comes to placing stops, it all depends on your trading strategy.

If your trading strategy is more of a forex day trading style, you might place a stop just outside of the daily range of the currency pair that you are trading. This way, if the market suddenly breaks the trend that you are trading and moves far enough in the opposite direction, your account is protected because your position is closed.

If your trading style is more of a swing trading style, you might set your stop loss outside of twice to three times the daily range.

Remember, the point of the stop loss is to end the trade when the market goes far enough in the opposite direction, that your trade no longer makes sense. It can be difficult facing the fact that you made the wrong decision, but the markets are as unpredictable as the weather. Sometimes you look at things expecting what seems obvious, only to have the market behave unexpectedly. Setting the stop loss at the time that you enter the trade can help you to draw a “line in the sand” for protection.

No matter what stop loss strategy you choose, remember not to move your stop loss further out to prevent the trade from being stopped out. There are exceptions to every rule, but generally if your stops are getting hit on good trades, you aren’t placing them correctly to begin with. It is better to modify your stop loss strategy. By moving your stop loss to avoid having it hit, you are defeating the protective purpose of it.

When coming up with your stop loss strategy, just remember to set stops that make sense for your account and trading style. The whole point is to limit your losses when you are wrong. If your losses continue to be excessive or your stops are constantly hit, you may need to rethink your system.

The Basics Of Outstanding Shares And The Float

Financial lingo is very important for anybody interested or invested in products like stocks,bonds or mutual funds. Many of the financial ratios used in fundamental analysis include things like outstanding shares and the float. Let's go through these terms so that next time you come across them, you will know their significance.

Restricted and Float

When you look a little closer at the quotes for a company, you may see some obscure terms that you've never encountered. For instance, restricted shares refer to a company's issued stock that cannot be bought or sold without special permission by the SEC. Often, this type of stock is given to insiders as part of their salaries or as additional benefits. Another term you may encounter is "float." This refers to a company's shares that are freely bought and sold without restrictions by the public. Denoting the greatest proportion of stocks trading on the exchanges, the float consists of regular shares that many of us will hear or read about in the news.

Authorized Shares 

Authorized shares refer to the largest number of shares that a single corporation can issue. The number of authorized shares per company is assessed at the company's creation and can only be increased or decreased through shareholders' vote. If at the time of incorporation the documents state that 100 shares are authorized, then only 100 shares can be issued.

But just because a company can issue a certain number of shares doesn't mean it will issue all of them to the public. Typically companies will, for many reasons, keep a portion of the shares in their own treasury. For example, company XYZ may decide to maintain a controlling interest within the treasury just to ward off any hostile takeover bids. On the other hand, the company may have shares handy in case it wants to sell them for excess cash (rather than borrowing). This tendency of a company to reserve some of its authorized shares leads us to the next important and related term: outstanding shares.

Outstanding Shares

Not to be confused with authorized shares, outstanding shares refer to the number of stocks that a company actually has issued. This number represents all the shares that can be bought and sold by the public, as well as all the restricted shares that require special permission before being transacted. As we already explained, shares that can be freely bought and sold by public investors are called the float. This value changes depending on whether the company wishes to repurchase shares from the market or sell out more of its authorized shares from within its treasury.

Let's look back at our company XYZ. From the previous example, we know that this company has 1,000 authorized shares. If it offered 300 shares in an IPO, gave 150 to the executives and retained 550 in the treasury, then the number of shares outstanding would be 450 shares (300 float shares + 150 restricted shares). If after a couple years XYZ was doing extremely well and wanted to buy back 100 shares from the market, the number of outstanding shares would fall to 350, the number of treasury shares would increase to 650 and the float would fall to 200 shares since the buyback was done through the market (300 – 100).

Hold on a minute, though - this is not the only way the number of outstanding shares can fluctuate. In addition to the stocks they issue to investors and executives, many companies offer stock options and warrants. These are instruments that give the holder a right to purchase more stock from the company's treasury. Every time one of these instruments is activated, the float and shares outstanding increase while the number of treasury stocks decrease. For example, suppose XYZ issues 100 warrants. If all these warrants are activated, then XYZ will have to sell 100 shares from its treasury to the warrant holders. Thus, by following the most recent example, where the number of outstanding shares is 350 and treasury shares total 650, exercising all the warrants would change the numbers to 450 and 550, respectively, and the float would increase to 300. This effect is known as dilution.

The Bottom Line

Because the difference between the number of authorized and outstanding shares can be so large, it's important that you realize what they are and which figures the company is using. Different ratios may use the basic number of outstanding shares while others may use the diluted version. This can affect the numbers significantly and possibly change your attitude toward a particular investment. Furthermore, by identifying the number of restricted shares versus the number of shares in the float, investors can gauge the level of ownership and autonomy that insiders have within the company. All these scenarios are important for investors to understand before they make a decision to buy or sell.

Preparing For Contradictions

An important fact about investing is that there are no indisputable laws, nor is there one correct way to go about it. Furthermore, within the vast array of different investing styles and strategies, two opposite approaches may both be successful at the same time. 

One explanation for the appearance of contradictions in investing is that economics and finance are social (or soft) sciences. In a hard science, like physics or chemistry, there are precise measurements and well-defined laws that can be replicated and demonstrated time and time again in experiments. In a social science, it's impossible to "prove" anything. People can develop theories and models of how the economy works, but they can't put an economy into a lab and perform experiments on it. 

In fact, humans, the main subject of the study of the social sciences are unreliable and unpredictable by nature. Just as it is difficult for a psychologist to predict with 100% certainty how a single human mind will react to a particular circumstance, it is difficult for a financial analyst to predict with 100% certainty how the market (a large group of humans) will react to certain news about a company. Humans are emotional, and as much as we'd like to think we are rational, much of the time our actions prove otherwise. 

Economists, academics, research analysts, fund managers and individual investors often have different and even conflicting theories about why the market works the way it does. Keep in mind that these theories are really nothing more than opinions. Some opinions might be better thought out than others, but at the end of the day, they are still just opinions. 

Take the following example of how contradictions play out in the markets: 

Sally believes that the key to investing is to buy small companies that are poised to growat extremely high rates. Sally is therefore always watching for the newest, most cutting-edge technology, and typically invests in technology and biotech firms, which sometimes aren't even making a profit. Sally doesn't mind because these companies have huge potential. 

John isn't ready to go spending his hard-earned dollars on what he sees as an unproven concept. He likes to see firms that have a solid track record and he believes that the key to investing is to buy good companies that are selling at "cheap" prices. The ideal investment for John is a mature company that pays out a large dividend, which he feels has high-quality management that will continue to deliver excellent returns to shareholders year after year. 

So, which investor is superior? 

The answer is neither. Sally and John have totally different investing strategies, but there is no reason why they can't both be successful. There are plenty of stable companies out there for John, just as there are always entrepreneurs creating new companies that would attract Sally. The approaches we described here are those of the two most common investing strategies. In investing lingo, Sally is a growth investor and John is a value investor. 

Although these theories appear to contradict one another, each strategy has its merits and may have aspects that are suitable for certain investors. Your goal is to be informed enough to understand and analyze what you hear. Then you can decide which theories fit with your investing personality. 

The Concept Of Compounding

Albert Einstein called compound interest "the greatest mathematical discovery of all time". We think this is true partly because, unlike the trigonometry or calculus you studied back in high school, compounding can be applied to everyday life. 

The wonder of compounding (sometimes called "compound interest") transforms your working money into a state-of-the-art, highly powerful income-generating tool. Compounding is the process of generating earnings on an asset's reinvested earnings. To work, it requires two things: the re-investment of earnings and time. The more time you give your investments, the more you are able to accelerate the income potential of your original investment, which takes the pressure off of you. 

To demonstrate, let's look at an example: 

If you invest $10,000 today at 6%, you will have $10,600 in one year ($10,000 x 1.06). Now let's say that rather than withdraw the $600 gained from interest, you keep it in there for another year. If you continue to earn the same rate of 6%, your investment will grow to $11,236.00 ($10,600 x 1.06) by the end of the second year. 

Because you reinvested that $600, it works together with the original investment, earning you $636, which is $36 more than the previous year. This little bit extra may seem like peanuts now, but let's not forget that you didn't have to lift a finger to earn that $36. More importantly, this $36 also has the capacity to earn interest. After the next year, your investment will be worth $11,910.16 ($11,236 x 1.06). This time you earned $674.16, which is $74.16 more interest than the first year. This increase in the amount made each year is compounding in action: interest earning interest on interest and so on. This will continue as long as you keep reinvesting and earning interest. 

Starting Early 
Consider two individuals, we'll name them Pam and Sam. Both Pam and Sam are the same age. When Pam was 25 she invested $15,000 at an interest rate of 5.5%. For simplicity, let's assume the interest rate was compounded annually. By the time Pam reaches 50, she will have $57,200.89 ($15,000 x [1.055^25]) in her bank account. 

Pam's friend, Sam, did not start investing until he reached age 35. At that time, he invested $15,000 at the same interest rate of 5.5% compounded annually. By the time Sam reaches age 50, he will have $33,487.15 ($15,000 x [1.055^15]) in his bank account. 

What happened? Both Pam and Sam are 50 years old, but Pam has $23,713.74 ($57,200.89 - $33,487.15) more in her savings account than Sam, even though he invested the same amount of money! By giving her investment more time to grow, Pam earned a total of $42,200.89 in interest and Sam earned only $18,487.15. 

Editor's Note: For now, we will have to ask you to trust that these calculations are correct. In this tutorial we concentrate on the results of compounding rather than the mathematics behind it. 

Both Pam and Sam's earnings rates are demonstrated in the following chart: 


You can see that both investments start to grow slowly and then accelerate, as reflected in the increase in the curves' steepness. Pam's line becomes steeper as she nears her 50s not simply because she has accumulated more interest, but because this accumulated interest is itself accruing more interest. 





Pam's line gets even steeper (her rate of return increases) in another 10 years. At age 60 she would have nearly $100,000 in her bank account, while Sam would only have around $60,000, a $40,000 difference! 


When you invest, always keep in mind that compounding amplifies the growth of your working money. Just like investing maximizes your earning potential, compounding maximizes the earning potential of your investments - but remember, because time and reinvesting make compounding work, you must keep your hands off the principal andearned interest.

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What are stocks and shares?

The stock market is one of the most recognisable and talked about areas of financial trading. Each day billions of dollars are exchanged by traders, buying and selling shares of individual companies on the stock market.

What exactly are shares (also often referred to as "stocks") and what exactly is the stock market?

Shares are a unit of ownership in a company
If you buy a share of a company, you have bought a unit of ownership of that company. This is why companies that allow people to buy their shares are referred to as public companies – they are owned, in part, by the public.

If you own just one share of a public company, you are a shareholder of that company. The more shares of a company you have, the higher the percentage of the company you own.

People buy and sell shares to make a profit

The main reason that anyone will buy a share of a company is to make money. They believe they will either get a return from dividend payments – part of the company's profit made to the shareholder by the company – or that the demand for the shares they buy will increase and they will be able to sell them at a later date for a profit.

If the demand for the shares of a company increases, then the price of those shares also increases.
There are multiple reasons why the demand for shares goes up, however, to illustrate this, let's use a simple example.

Due to the fact that buying shares can give the owner benefits, such as dividend payouts, there is a certain amount of demand for them.

If the company is very healthy and increases its profit, then the dividend payout is likely to go up. More people will want to buy those shares, which means that the price of those shares will also increase. This is just one scenario in which the demand for a company's shares will go up.

Does it make sense to buy and sell shares?

Buying and selling stocks and shares is riskier than holding cash in a savings account. Over the long term however, it tends to produce much better returns.

Compared with typical annual returns of 3% for a savings account, or 5% for a high-interest savings account, you could make profit of as much as 50% per year through trading shares in a single company - if you stock pick correctly. That said, you also face the risk of a similar sized loss.

Shares in general do however tend to outperform both cash and fixed-income products like bonds. Simply buying the FTSE 100 index of large UK-listed stocks could earn you 5% to 15% a year if held over the long term.

You could also achieve this by investing in a well diversified portfolio. Read the Intro to portfolio building to find out how.

Trading shares

Traders will try to determine whether the demand for those shares will increase in the future, so they can buy them at a low price and sell them for a higher price.

Through a mechanism call short selling – selling share without actually owning them – traders will also try and sell shares in the anticipation that they will decrease in value, in order to buy them back at a lower price.

The methods that people use to judge whether the shares of a company will go up or down in value are numerous.

For example, traders will look at the financial statements of a company, the products that the company is developing, possible growth prospects, the current business environment, as well as price charts – anything to determine whether the demand, and hence the price, will increase or decrease.

Shares are bought at the stock market through brokers

An individual cannot buy shares directly from someone or directly from a company (there are special circumstances where you can purchase shares directly, but we will focus on trading in the stock market for the purpose of this lesson).

People have to go to a stock market to buy and sell shares and access to the market is provided via a broker.

Short term trading vs long term trading

Traders will open long or short positions and can hold these positions for any time span they wish. Some traders prefer short term trading, holding trades for a few minutes and some prefer holding trades for longer periods.

Short term traders

Traders who are focused on short term horizons are likely to focus on technical analysis to take advantage of short term price movement. The long term prospects of a company are much less relevant because the trader is not looking to hold a trade for longer than a day, a few hours or even a few minutes.

This is not to say that the fundamentals of a company are completely ignored, because there are certain news announcements that can change the price of a share and short term traders can take advantage of this.

Longer term trading

Traders that hold positions for a longer term focus more on the fundamentals of a company to see if a price movement is likely to continue. A price movement will continue if the demand for those shares is sustained and so those looking to hold on to shares for a while will look at the longer term prospects of the company.

Technical analysis is not abandoned when trading on a longer time frame – a price chart can show good points to buy and sell. Predominantly, however, they rely on the fundamental analysis of a company to determine whether they are going to trade the shares of a particular company in the first place.