- Personal Finance
Understanding Essential Stock Market Terminology
We as an engaged, diversely experienced stock trading society, dedicated participant and owner of a basic employee sponsored 401K plan or other tax deferred retirement program, all have acquired at least a fundamental understanding as it pertains to the covert, distinctly separate world of Wall Street finance and equity exchange. Subsequent to active engagement, we rapidly arrive at the logical conclusion that investing in stocks and related derivatives, is one of the most complex, yet potentially rewarding ventures you can participate in. Whether you're a novice ready to make your first equity or debt security purchase, or the mildly seasoned intermediate player who has more than a few transactions under his or her belt, the following detailed entry presents a unique explanation containing expert perspective with regard to what I as a former financial services professional, consider to be three of the most critically important stock market terms all present and or future investors need to understand prior to depressing the virtual "Buy" button and executing the first trade, or consummating the 100th transaction.
Chances are, you will probably find this mundanely common, frequently used terminology annotated within financial dictionaries or law related lexicons, however, these helpful resources as important as they are, typically provide the reader with a brief, succinct, and sometimes inadequate bare bones explanation or definition of what the word means coupled with a very basic, un-relatable or disconnected example of how it might work in theory. What you will essentially discover from this type of resource is a legitimate, good faith definition to lay a solid foundation, yet one which may actually conflict in totality with the reality of how the basic concept works in actual practice. All active players on Wall Street understand the critical importance of the following info shared within the context of this entry, and for those of you who may be inexperienced or unfamiliar with how the underlying dynamics tick, here's my unique, former Wall Street Professional's invaluable perspective, insight, and opinion which may ultimately save you some time, wear and tear on your patience, and of course, hard earned money.
No, it's not an immensely bloated, over sized ornamental New Years spectacular gliding down the crowded street in the Macy's Day Parade, or a meticulously hand woven, brilliantly colored gliding collection of indigenous or exotic flora in the Rose Bowl Parade, on the contrary, in stock market terms it refers to the total number of shares of any given company that are currently held by, and in the respective hands of investors / owners. There are several different stock classifications which will be discussed in future articles, but for now, let's simply concentrate specifically on the "FLOAT" which is the total number of shares that are actively traded on the open market. The NYSE, NASDAQ, etc.
Here's the basic procedure which is explicitly followed when shares of stock for a privately owned entity, are initially issued i.e."IPO" ( Initial Public Offering ). The IPO is the first essential step which must be executed by the founders or other authorized persons within a company to enable a transition of the venture from private ownership, to a publicly owned and operated corporation. Essentially, a transfer of ownership from an intimate select few or group of individuals who had exclusive control prior to this initiative, to a much larger and diverse pool of distant, interested parties who will now exercise common stock voting rights to implement change.
In summary, A company initially "Authorizes" A specific number of shares, however the entire allotment may not be issued to the public at that time. A certain number of shares may be held in "Reserve" as "Treasury Stock" to be sold or distributed to individuals or entities at a later date, possibly as a substitution for monetary award gifted to officers of the company, or, to be sold directly to the public in a secondary type offering in an effort to raise additional working capitol etc. In effect, the total Float, or number of shares currently traded by the public, may differ substantially from the total number of shares in which the company had been "Authorized" to sell or distribute.
Why is it essential to know the "Float" size of any given company BEFORE you invest?
Like any other asset or commodity, one of the most important factors that you need to accurately calculate and determine before making a firm offer and investing hard earned money is "SUPPLY". The availability or lack there of is what ultimately drives future price and intrinsic or perceived value. There is no magical formula to be disclosed as to why a stock price goes up or down, per share value is uncompromisingly tied to the very same principal as all other assets and commodities listed on the open market that can be bought and sold. Although there are other influential components which will be discussed in the future, it boils down to "Supply & Demand", it's really that simple.
For instance, if you're an antique car collector contemplating a sizable or exceedingly generous bid on a classic Ferrari, Maserati, or BMW to be held as an investment, what's the first critical piece of defining information you as consumer need to uncover through extensive research and due diligence before a top dollar price you're willing to pay for the vehicle is determined? Perhaps your prioritized first line of investigation would include gathering valid information which will reveal statistics related to how many other cars in the same class are currently in existence, right? On the other hand, if it's a car that you simply just need to have regardless of price considerations or excessively inflated bids, then discovering the total number of fungible vehicles on the market at that precise point in time may not be an important issue. Regardless of prevailing circumstances, all professionals within the financial industry understand the prudent course of action to take is to find out how many cars of the same make and model were produced, and roughly how many are still on the road. The same principals apply to baseball card collecting, coin collecting etc. and of course stocks.
So just remember the following when tuning into any number of business channels as they present a spun version of their daily rundown on individual stocks, indices, and overall business activity. While there are several factors and fluid market dynamics that are constantly at play which may ultimately influence stock prices and market capitalization of specific companies, the underlying reason for up and down fluctuations in value or bid / ask prices comes full circle and right back down to basics, "Supply & Demand". Price will go up if more buyers are active, and down if there are more sellers.
- The "Float" is the total number of shares that are actually traded by the public -
Stop Loss Order
First, let's take a look at the definition of a stop loss order and then move on to discuss effectiveness. In theory, it's a specific type of stock order which is designed explicitly to do exactly what the name implies, potentially "STOP" or minimize monetary losses related to a swift, sudden, unforeseen, or even gradual decline in stock price.
For example, let's say you purchase 100 shares of common stock just prior to taking that long anticipated fun filled vacation and you're ready to board the next air bus flight to San Diego or the French Riviera. If your intentions are to enjoy the getaway to its fullest, we would have to assume the last item on your itinerary to be acted upon once you arrive at the awaiting hotel, is to engage in a grueling 24/7 CNBC marathon while in panic mode to keep tabs on that high beta, disturbingly volatile stock you just purchased in a herculean effort to ensure you have ample time to swiftly connect with a full service broker or directly with a discount account to liquidate the entire position before the stock performs its version of the Poseidon Adventure. So, to avoid this anxiety filled, uncomfortable scenario by empowering you with the freedom to enjoy your long anticipated vacation, the stock trading "Book" advises you as owner of stock, to place what is called a "Stop Loss Order". A protective, "Ease of Mind Order" executed so you and loved ones or business associates can embark upon a vacation while leaving all your stock market worries behind.
- "Stop Loss Order" - A "Limit Order" which is automatically "Triggered" and converts to a "Market Order" when the stock reaches a pre-determined price. The stock is then sold at the next available price.
In theory, the proactive, defensive strategy of placing this type of conditional sell order to avoid significant losses works in most circumstances. Typically, the order is placed below the price in which you had originally paid for the shares. If the stock in question obeys your command and goes up, the order is not triggered and thereby the stock is not sold on your behalf. The investor now has the opportunity to "Lock In" more profit if the price has increased by canceling the original Stop Loss Order and placing another at a higher price. This routine can be repeated using an incrementally escalating strategy if the price continues to rise. In the opposite scenario, after you purchase the stock and subsequent to placing the Stop Loss Order, if the stock in question does indeed experience a decrease in price, the Stop Loss will be triggered if your designated price is breached and it will be sold at the next available market price. The automatic trigger mechanism contained within this type of order can limit disastrous results by protecting you against substantially higher losses and preserving equity.
The preceding two examples are the most common. However, there is one scenario where the "Stop Loss Order" may be rendered impotent or completely ineffective. "Pre - Market Trading" is a highly anticipated activity which occurs every morning Monday thru Friday. Unfortunately for traders, news which can negatively impact the overall markets and or individual stocks is not subject to spigot control, it cannot be turned on and off to accommodate investors who may not be vigilant with regard to holdings, it is disseminated without delay to the general public in real time, 24/7. So let's say prior to the opening bell on the NYSE, the earnings report for a stock you purchased the day before did not meet "The Streets" expectations, thereby causing an immediate, continuous, relentless price decent with no tangible signs of reversal of trend in sight, an anxiety riddled event which commenced before the market opened for regular trading at 6:30 am Est. Your "Stop Loss Order", the infallible strategy designed to protect you from substantial losses, will in all likelihood, become ineffective due to the overwhelmingly abrupt, significant price movement or what is more commonly known to the pros as a "Gap Down" before regular trading hours begin. Depending upon who you talk to, the preceding is either a common or uncommon occurrence within the industry. I've personally observed this tragic event on several occasions as corroborating evidence to support the fact that a "Stop Loss Order" is certainly not a guarantee of a favorable or positive outcome when investing in stocks.
If the stock does indeed gap down before the market officially opens, there is very little if anything you can do to mitigate losses or regain disappearing equity. Your sell order will be executed at the next available price which could be well below your "Stop Loss Order" designation.
Bottom line is the following, even though a "Stop Loss Order" can be an effective, equity protection tool when used properly and the market cooperates, on the flip side, unpredictable, unforeseen, or extenuating circumstances contribute to the fact that it doesn't work 100% of the time.
Executive Stock Purchases or Sales
Executives and or officers buy and sell company shares all the time. Shares they may have acquired over the years through an open market purchase, or awarded to them by the company as compensation enhancement for performing his or her duties in an exemplary fashion etc. It's no closely held secret, most executives own a certain number of shares in the company they help operate. Periodically, during the course of their tenure, these officers file the necessary paperwork and submit it to the applicable overseeing agency to enable them to buy or sell a pre-determined number of shares. There are innumerable stock investing Web Sites which provide this critically important, buy/sell disclosure information for free, with a simple click. Unfortunately for the novice investor, this type of "Off the Radar", unconventional stock trading activity can, and usually is one of the most misinterpreted aspects of essential due diligence.
Many novice stock traders have the innate tendency to simply ignore the underlying complexities or nuances involved in making a wise, prudent decision and simply scan the numbers at the surface without actually investigating, or digging in deeper to uncover the true reasonswhy an executive may either buy or sell their own company stock. The novice will just take a quick look at the consummated or pending transactions and come to the ill-conceived conclusion that it's always a bad sign if an executive sells shares of their own company stock, and conversely, it's always a good sign if they buy shares. Sounds pretty good and it seems to makes sense at first glance, however, to exact a more accurate, precise, and complete evaluation of what executive transactions actually signify, substantially more research, study, and analysis needs to be performed to determine the explicit reasons why these particular buy/sells were indeed executed.
For instance, it is quite conceivable the sale of stock was executed so the proceeds could be used to purchase a new car, or to finance a child's college education, or any number of other reasons which may have absolutely nothing of substance to do as it relates to the financial condition, solvency or lack thereof, or overall well being of the company. A substantial downturn is sales, revenue, or lack of prospects for an improved line of products or services in the future, or any number of other negative scenarios is usually how an executive sell transaction is interpreted by the novice investor and the majority of the general public. A slew of buy transactions indicates a vibrant, exuberantly healthy company right?, At least that's what the inexperienced investor would most likely extract from this information. Always d a little deeper before relying upon "Executive Transactions" as a valid component within stock market research.
In conclusion, taking an executives buy or sell transaction at face value without further research as to the reasons why it was made can lead to a decision based solely upon potentially inaccurate interpretations.
- I hope you found this Hub interesting & helpful, please feel free to leave a comment and share your stock market experiences.
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About the author - Alternative Prime is an expert in many divergent fields of study, theory, and practice including Finance, Real Estate, Banking, Creative Writing, Photography, and Music Production - A former Professional Wall Street Stock Broker / Investment Banker / Commercial Banker with over two decades of Equity, Debt, & Options experience within a "Broker/Dealer" , "Retail Banking", and privately funded environment -