Forex Investment and Currency Trading

There are only two ways to make money from stocks. The first is capital appreciation, selling your shares to someone else for a higher price than you bought them for. The second is dividend income, a piece of a company’s earnings that’s paid out to stockholders.
Capital Appreciation

Stocks don’t have one value, they have several. The first and simplest is the price that shares are selling for at any given moment.

Then there’s the longer-term, underlying value of the issuing corporation. If there are a million shares of a company, each share represents ownership of one millionth of the company. Shareholders essentially own a small piece of the company’s financial assets, such as cash and investments; physical assets, such as real estate and equipment; intellectual assets, such as copyrights and patents; and business assets, such as contracts with customers. Those assets are offset by costs, including payroll, rent, materials, and utilities. They also include outstanding loans, bond payments, and other financial commitments.

Beyond that, investors may also weigh a stock’s future value. As an example, following the bursting of the Internet bubble, some companies had market caps lower than the value of the cash they still had on hand from their IPOs! Investors knew these companies were going to spend that money on expenses and had no way of earning more, so they downgraded the future value of the stock accordingly. On the other hand, stock in a company with no profits and little money in the bank can still be valuable if the company has strong prospects for future business growth.

Market Speak
Market capitalization, a.k.a. market cap, is the value of all shares in a company. It’s calculated by multiplying the number of shares times the current price. So a company with a million shares selling for $ 10 each would have a market cap of $10,000,000. One way to judge a stock’s value is to calculate the market cap of the company behind it; it should match up favorably with the value of the actual business. Companies are also often described or grouped by cap size, roughly as follows:

Micro cop: Less than $250 million
Small cap: $250 million to $1 billion
Mid cap: $1 billion to $10 billion
Large cap: More than $ 10 billion

Dividend Income

Dividends are the second way you can make money from stocks. They’re calculated per share and are usually paid quarterly, although companies sometimes make special distributions, too.
The amount paid is set (or declared, in market-speak) by the company’s board of directors. For example, if you own 100 shares of a company paying a quarterly dividend of 5 cents a share, you’ll receive a check or electronic funds transfer for $5 every three months.

Many companies give you the option of using your dividends to buy more stock through dividend reinvestment plans, or DRIPs. If shares are selling for $50 each, your $5 dividend would let you add one tenth of a share to your account every quarter.

After you sign up, DRIPs reinvest for you automatically, so they’re convenient. Most charge low fees or no fee at all. And some even give you a discount on the price of the shares. As long as you want to keep buying stock and don’t need the cash, I recommend enrolling in DRIPs whenever you can.

Dividends Versus Capital Gains
Historically, dividends and capital gains have gone back and forth in relative importance. From the 1920s into the 1970s, dividend payments were prized as a source of income, with capital appreciation often seen as a secondary benefit.

The tables turned during the long bull market that stretched from 1982 through 2000. With the economy strong, many managements chose to reinvest earnings in their businesses rather than paying them out as dividends. For example, fast-growing technology firms such as Cisco Systems and Microsoft paid no dividends in their early years, but capital appreciation kept shareholders happy.

During this period, many companies also used earnings to buy back their own stock. This created value for shareholders by supporting the price of shares. But it had another important effect: it helped increase the value of stock options.

Stock Options and Taxes
Stock options have become a popular way to tie executive pay to the performance of the company. The thinking is that if the CEO benefits from rising share prices through stock options, he will be motivated to run the business in the best interests of shareholders. During the Internet boom of the late 1990s and early 2000, options became the incentive of choice for all levels of employees, who saw a chance to strike it rich as share prices rose.

Market Term
Stock Options give employees, usually executives, the right to buy a certain number of shares at some time in the future at a preset price. Normally, an executive can’t exercise these non-qualified or incentive options right away, but has to wait a year or more for them to vest. What happens then? Suppose your option agreement says that you’re allowed to purchase 1,000 shares at $50. If the market price is currently $60, you can make a profit of $ 10,000 (minus trading costs) simply by buying your shares and immediately reselling them.

But for options to be valuable, share prices had to keep rising—dividends didn’t count. This meant management had a vested interest in propping up prices with stock buybacks. And investors didn’t complain about buybacks taking the place of dividends … as long as share prices kept rising.

Taxes played a role, too. For one thing, people became increasingly aware that dividends were taxed twice: once as income to the company, and once as income to the shareholder they were paid to.

And whereas dividends were taxed as income every year, just like your salary, increases in share prices were taxed at a lower capital gains rate, and you only paid when you actually sold your shares. Obviously investors in higher income tax brackets had good reason to prefer capital gains to dividends.

The Tax Act of 2003 changed that, by placing a flat tax rate of 15 percent on dividends—the same as on capital gains. Meanwhile, shareholders have revolted against the hidden costs of stock options and are more likely to pay executives with grants of dividend-paying stock rather than grants of options.