Your Questions About Successful Trading Companies

Steven asks…

Why does the value of a company increase over time?

If a publicly traded company is correctly valued on the stock market (i.e. its stock price is equivalent to the per-share value of the company), what causes the company’s value to go up? Is the only way that the value of the company can increase is if its future earnings exceed the expected earnings?

I’ve read a lot of other posts that discuss stock PRICE, but these posts haven’t been very helpful because I’m concerned with stock VALUE.
I understand the difference between stock price and value. My question is more related to value. If I buy a stock that is fairly valued, how/why would the VALUE (not price) of the company increase? Does this only occur if the company’s future earnings exceed their predicted earnings?

John answers:

As long as a company is profitable and those profits are used to increase the value of a share of stock then the price of a share of stock will most likely go up. By increasing the value of a share I mean either through dividends or reinvesting those profits back into the company in the form of purchasing new assets, training employees to be smarter or better at their jobs or increasing market share through more sales.

Expected earnings has no real relationship to value except that some people use these to project a per share market value of the stock. Expected earnings are someones best guess at how profitable a company will be. Sometimes they guess right and sometimes they guess wrong.

Bottom line is long term stock values increase because a company is successful not because they beat someones best guess of how much they are going to make. Short term beating or not beating the expected earnings number can have an impact on a stocks price but not long term.

My two cents.

Susan asks…

What is the best online stock trading company?

Specifically for a minor wishing to open a custodial account. Also any advice for a newbie would be nice.

John answers:

In North America a minor CAN NOT open a brokerage account nor can a minor open a custodian account. A custodian account MUST BE opened by an adult AND it can not be used by the minor.

By the wording of your question, you are not ready to open a brokerage account. There’s more to trading than entering buy and sell orders. It would be in your best interest to do some studying before you spend $0.01 on any stock

To be a trader you must first learn how to invest. You must know the products and the markets in which they trade, how security transactions are cleared and more importantly you must know the rules that govern those products and markets. So you must know what you’re doing, why you’re doing it, and how to do it. You should start by reading “Investing for Dummies” by Eric Tyson.

Here’s a list of books you should consider, at least read half of them
Bulls Make Money, Bears Make Money, Pigs Get Slaughtered, by Gallea
How to Trade in Stocks, Jesse Livermore
Millionaire Traders, Lein & Schlosberg
One Up on Wall Street by Peter Lynch
Reminiscences of a Stock Operator, Edwin Lefevre
The Disciplined Trader, Mark Douglas
Trader Vic-Methods of a Wall Street Master, Victor Sperandeo
Trader Vic II-Principles of Professional Speculation, Victor Sperandeo
Trading for a Living, by Alexander Elder
Trading in the Zone, Mark Douglas

And when you think you want to trade, try some paper trading to test your skills without spending you money

Before you enter your first order you need to address four major policies and have very strong discipline to follow them
1 – You need a written sound trading/investment plan with rules that will not only help you but more importantly protect you, mostly from yourself. Always use stops either to protect you on the down side or to lock in profits on the up side. Never trade on emotions, when emotions get involved walk away. Don’t try to out-smart the market, you’ll loose but if you always take what the market is willing to give you, you’ll be successful. Other words, you don’t trade against the trend since the market is always right. And NEVER trade on emotions, once you let emotions in your trades you will loose
2 – A written money management program is essential. Remember never invest 100% of your capital into any one security and never have 100% of your capital invested. Never go into a trade without knowing when and where you are going to get out of it. Never let a loss on a trade get greater than 8%-10%, always take you loss and walk away – don’t loose more than you need to and don’t be afraid to take the loss. Remember you never can get hurt taking a profit. Never average down, but you can average up.
3 – You must have sufficient trading/investment capital. Use your own money, there’s no need to go into debt so that you can trade and/or invest. Margin can be used but only with restraints, never let the account wall below 45% equity. Unless you fully understand margins you should not use it.
4 – A full and complete understanding of the rules & regulations of the industry. If your going to play in the game be sure you know the rules of the game and always follow them.

Unless you are willing to study and follow the above you will never make it as a trader. To be successful as a trader it takes work and constant study of the markets and the products traded in those markets, there is no easy way.

Donna asks…

What benefit is a stock split to a company?

I understand the concept but what benefit does it provide to shareholder’s of the company and the bottom line?

John answers:

The stock becomes more liquid. Because shares trade in 100 share lots, it is easier for investors to buy 100 shares of a $30 stock than 100 shares of a $120 stock. This applies mostly to individual investors who prefer to diversify and may be willing to spend $3,000 on a stock but not $12,000.

Other benefits are psychological. People like to receive things. A hold of 100 shares now has 200 or 300 shares and can sell part and still keep part.

A stock splits if its price has gone up, so it tells market participants that this stock has been successful. The split brings attention to the stock.

Lizzie asks…

What companies use the break-even analysis?

I am looking for a company that uses the break-even analysis. I also need to find a copy of the analysis. I have been researching for days and can’t seem to find one on my own.

John answers:

Mandy, every company — every decision-maker in business — uses break-even analyses. That may be why you have not found one — because it’s every one out there.

Let me give you a small example — that of a day-to-day business manager’s decision-making. And, I’ll give you a semi-hypothetical, semi-historical bigger example. The amount of zeroes in the figures really has nothing to do with the idea that both are examples of break-even analysis.

You can use this one — I ran across it yesterday, and still haven’t acted on it.

I have a tractor-trailer combination — an eighteen wheeler — and it can weigh, legally, at most 80,000 pounds at any one time. For $270.00, I can get a permit to allow this “truck” to carry at most 84,000 pounds. So, for $270.00 I can increase its ability to carry two extra tons per load for one year.

Analyses in business are about decision-making. In order to make a good decision, I may choose to do, for instance, a preparatory break-even analysis.

Let’s say that I know it costs me $21 per ton to haul in a certain material I need.

My initial outlay is $270.00, good for one year, and allows me to carry an extra two tons.
How many loads do I need to make in order to recoup my initial investment?

$270 / (2 * $21) = 6.4 loads

The next question is how many loads of material do I expect to need during this period (one year)?

If it is greater than 6.4, then the break-even analysis will say: DO IT!

The break-even long-run analysis is subsequent to your short-term cash flow analyses, so pointing that out will get you extra-credit, and understanding what that means will help you to become a successful businessperson.

Buying the permit is worth the initial investment. I really did do a break-even analysis. It is a real-world example, and my business is in Texas, so there’s a researched example for you to use.

Now, let’s think bigger. Like I said, it’s kind of hypothetical and kind of historical. Research “Enron and broadband” if you want to go further.

Let’s say that there is currently no market for broadband bandwidth trading. I’m the CEO of a major U.S. Corporation, and I forecast that the market for broadband bandwidth trading will rise to $30 billion in revenues seven years from now. I expect to be able to capture 40% of this market, and make a 15% profit.

In order to be able to trade broadband bandwidth, I need to invest $1 billion today (capital expenditures) in a fiber optic cable network, which will be built in one year. In addition to the purchase of those hard assets, I expect overhead expenses (administrative expenses, maybe), to be $75 million each year for five years after construction of the fiber optic network. In year seven I project to become profitable.

So I’ve told you when I expect to make a profit on the investment. But the real break-even is when the venture will reach the point where it pays for itself. To figure this out, we must do some figuring (and, of course, this is simplistic for example purposes). I will use the accounting convention of to express a cash outlay.

Year 1:
Years 2 through 6: = $75 million times 5 =

So at the start of Year 7, I have a deficit of $1.375 billion. But now I’m no longer running a loss. I’m making a profit — so I say now.

How much profit? Well, $30 billion (total market revenues) times .4 (40% of that market) times .15 (my projected profit margin) = $1.8 billion.

At the end of year 7, I will have brought in $1.725 billion in income (after taking out the $75 million, right?). My total investment was $1.45 billion.

At some point during year 7, I broke even.

Of course, I chose year 7 because it’s a standard time-frame, in business planning on the large-scale, for new ventures to reach profitability. Do not complicate the matter of researching who uses break-even analysis. Whether I’m debating should I buy a $270 permit or whether I should start a broadband bandwidth trading division — my decision-making will require analyses, and break-even is one of the most basic. It’s not just everywhere for companies; it’s day-to-day for not just executive-level decision-makers, but all decision-makers in business.

Break-even and cost-benefit are the bread-and-butter analyses of business. You don’t have to look far to find examples of them.

Hope that helps.

Linda asks…

What are my options for rolling over a company 401k?

I am a 23 year old man who has accumulated about $9k in a company 401k. I am planning on leaving the company very soon and have the intention of rolling over my 401k into a Roth IRA account with Scottrade– they seem to have the right tools for me versus Etrade, Charles Schwab, and Ameritrade. I have practiced trading stocks on in the past and did pretty well, I’m still a beginner however. I’m not interested in rapid growth because it tends to be risky. I’m also not gonna be happy earning a few cents a month. With that being said, I have a few questions.

1) What penalties and fees should I expect?
2) Do I have to use the entire amount to start the new account? In other words Can I use 1/3 to handle a few debts and the rest for the new account?
3) Is this even a good idea? If not, what can I do with the money? I don’t want it floating around? Also I want it to be a little easier to access than a 401k.

All input appreciated, professional advise preferred; and please be kind with your answers as I am just a novice.

Thank you

John answers:

You want to roll over the entire amount, not withdraw part of it. You’ll get killed with income tax and penalties for withdrawing (probably lose 30% or so on the amount you withdraw). I would not expect to pay a fee, although your 401k provider may charge one. It might be $50 or so if they do charge. The best way to do the rollover is to contact Scottrade and let them handle it with your 401k provider. Now if you choose to leave Scottrade in the future, who knows what their fees might be.

When you convert a 401k into a Roth IRA, you have to pay income tax on the amount you convert that was pretax money in the 401k. Be sure you have money to pay for that. If you convert to a traditional IRA, there are no tax issues.

You shouldn’t care about how easy it is to access. It’s going to be the foundation of your retirement savings and should not be touched. Don’t look at it as a savings account. That is how people end up being 50 years old and realizing they are screwed – because they have been dipping into their 401k and IRA whenever they wanted some extra money. They should have let that money grow over many decades.

I will warn you about trading stocks in your 401k. Practice trades aren’t the same as real trades. Real trades have costs, and when it’s real money at stake people act differently than when it’s just pretend money. If you really want to learn how to successfully invest for the long term, I suggest reading The Bogleheads Guide to Investing. Learn about asset allocation, periodic rebalancing, and the critical importance of low costs.

After reading that book, if you still want to trade stocks I will be surprised. Stock trading is gambling. Long-term investing in an appropriate mix of low-cost mutual funds is the way to success. But it’s not exciting… It’s just successful. You have a great opportunity at age 23 to build a foundation for the future.

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