Wall Street Lingo Translated – Part II
Beta
The beta is a measure of market sensitivity (volatility) relative to the Standard & Poor’s 500 Index, which has a beta of 1.00. A stock that moves 20% more than the S&P in either direction would have a beta of 1.20. A well-constructed portfolio aimed at delivering worthwhile returns while managing sensitivity (a.k.a., risk) would have an average beta below 1.00
Bid and Asked Prices
There are actually two prices for each stock. One is the bid price, which is the price a
trader (usually an exchange specialist who handles huge quantities of shares)
will pay to buy a stock from an investor. The other is the asked price, which
is the price a trader will sell a stock for. The difference between the bid and asked
prices is known as the spread, which tends to be quite narrow in the case of
actively traded stocks.
The situation with bonds is similar, though
spreads tend to broaden when the trade involves a relatively small number of
bonds. For that reason, individual
investors are usually better served by investing in bond funds, which buy in
huge quantities that are bought with minimal spreads.
Round Lot
This is a phrase from decades ago that has largely
gone the way of the dodo. There was a
time when most stocks were bought in 100-share lots, otherwise known as round
lots. When stocks were bought in other
than round lots, they were known as odd lots, for which there was an additional
charge. Those conventions are gone and
today stocks can even be bought in fractional shares.
Surprises
Surprises are what make stocks jump or fall
unexpectedly. These surprises are
reports of profits significantly above or below the level that Wall Street
analysts and the investing public had been led to expect. Although earnings tend to be the focus,
surprises can also be in revenues, backlogs or incoming order flow. In each case, the impact on the stock’s price
may be significant.
Target Price
One of the most tempting - - - and dangerous -
- - numbers regularly bandied about is the target number for share prices. Target numbers are found on many investing websites. They are meaningless. Why?
Because attempts to come up with future prices tend to be based on
projections of future profits multiplied by the typical past valuation rates,
i.e., price-earnings multiples. In other
words, how much investors had valued those profits in the past.
The flaws of this speculation are several. The first is the projection of future profits, which at best is a good guess, but more often than not no better than dart throwing. The second is the hoped-for valuation rate. The third is a projection of where the market will be at some time in the future. Both of these are iffy since the market and individual stocks almost always sell well above or below what might be considered a normal valuation range.
N. Russell Wayne, CFP®
Any questions? Please contact me at nrwayne@soundasset.com
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