Month: May 2013 (Page 5)

Editors Note: Comparing different investments with different dollar amounts and time periods is arithmetically more challenging than it first appears. When I do my side-by-side comparisons (such as IBM, Decker, or Boston Beer), I always do the same dollar amount and the same time period. Simon does a really good job of explaining how to do this if they are not the same dollar and time period.

Guest Post by Simon B Veal

Ralph and Jackie are both keen investors in the stock market. In this article I’m going to explain how they can use two different methods of calculating a rate of return in order to compare the performance of their investments.

Ralph buys $1000 worth of stock in AlphaCorp. He holds it for exactly 2 years and then sells it for $1200. Jackie buys $3000 worth of stock in BetaCorp. She holds her stock for 1 year, and sells it for $3300. Just to keep the example simple, we’ll assume that neither Ralph nor Jackie receive any dividend payments from their stock.

Ralph and Jackie now want to compare their investments. They know that there are two main methods they could use: the Arithmetic Return and the Logarithmic Return (often shortened to Log Return).

Ralph’s total profit is $200, and Jackie’s is $300. So this tells them that Jackie has made more money overall. But she also invested more. Investing more usually means she took a greater risk (if the stock went down she would lose more money). To take this into account, they want to know the profit as a percentage of the amount invested. This is exactly what the Arithmetic Return gives them.

For Ralph’s investment in AlphaCorp the arithmetic return is 20%. For Jackie’s investment in BetaCorp the arithmetic return is 10%. So based on the arithmetic return, it looks like Ralph has made the better investment, as his gained 20% in value compared to 10% for Jackie’s investment.

But notice that Jackie sold her stock after 1 year, while Ralph held his for 2 years. The arithmetic return doesn’t include the duration of the investment, so these values cannot really be compared meaningfully. So now Ralph and Jackie compare their investments using the Logarithmic Return, which does take this into account to give an annual rate of return for each investment.

For Ralph’s investment in AlphaCorp the log return is 9.12%. For Jackie’s investment in BetaCorp the log return is 9.53%. Both of these are annual rates, so they can be directly compared.

So who made the better investment?

Based on the logarithmic return, Jackie’s investment was slightly better than Ralph’s. However, there is a slight caveat to mention, which is that Jackie sold her investment after 1 year, while Ralph held his for 2 years. If she really wants to do better than Ralph over 2 years, she will need to find another investment to make for the second year that does at least as well as Ralph’s 9.12%.

Both the Arithmetic Return and the Log Return are useful ways to compare the return on investments. The log return is normally the best choice for investments that were held for different lengths of time because it gives you an annual rate that you can compare between investments.

Article Source: http://EzineArticles.com/?expert=Simon_B_Veal and http://EzineArticles.com/7167133

You need to have an account at a stockbroker (broker) in order to buy or sell stock. The two prominent exchanges, NYSE and NASDAQ, are like private clubs whose members only buy and sell to each other. The members of these clubs will buy and sell your stocks for you.

You can get a list of stockbrokers on the web by going to http://www.Confident-Investor.com/brokerlist. You will need to be a registered book owner to access this page but you can register easily and for free by following the instructions on the site.

You can set up an account at a broker fairly simply. Each broker will probably ask you some personal information that includes your social security number and contact information. They will also probably ask you to make a deposit into your new account for a minimum amount. Once that deposit check or transfer has cleared, you are ready to go.

Stockbrokers charge commissions or fees for transactions. These costs affect your earnings and losses. The costs are usually based on four factors: the actual transaction charge (usually a charge to buy or sell), the number of negotiated stocks, the cost of stocks you are buying/selling, and the total amount of the order.

Full-service brokerage firms usually charge the highest fees and commissions. Regional brokerage firms tend to be slightly cheaper than the national firms. Discount brokerage firms or online firms offer reduced commissions and reduced or no fees.

Paying $50 in fees to a full-service broker instead of $7 at a deep discounter can make a significant difference in your total return. If the stock price is $30 in a 100 stock transaction, you pay 1.6% of the stock price ($50 divided by $3000) to a full-service broker to purchase the stock. You will pay the same amount when you sell the stock for a total of 3.2%. A discount broker will charge you 0.4% for the round trip transaction. This means that the stock would have to appreciate to $31 just to make money with a full-service broker. The discount broker only needs the share price to increase 12 cents to break even on the trade.

Full-service brokers become acquainted with your financial situation. They may provide opinions on stocks / bonds, or offer financial research service. In many cases, a personal relationship is developed with a full-service broker. The full-service brokerage firms may offer a diversified range of financial services including estate planning, exclusive investment choices, and tax preparation assistance. In some cases, a full-service broker can offer their best clients IPO or special situation investment options.

Discount brokerage firms offer reduced commissions and, in some cases, reduced services. Brokers in a discount brokerage firm make trades for clients but may not provide the same personal service as a full-service broker. In fact, at a discount broker, personal brokers may not be specifically assigned to an investor.

The electronic trading or on-line brokers allow you to perform your trades using a computer. The on-line costs can vary from $5 to $40 for each sell or buy. Research information on companies is usually very accessible through these online services.

The goal of my book, The Confident Investor, is to teach you how to be confident in your trades. You will learn how to evaluate companies. You will also learn how to decide the right time to buy or sell shares. With this personal knowledge, there is little reason to have a relationship with a full-service broker. Instead, I suggest that you open an account at an online discount broker and save the fees and commission charges.

You can purchase my book wherever books are sold such as Amazon, Barnes and Noble, and Books A Million. It is available in e-book formats for Nook, Kindle, and iPad.