Economic Indicators For The Do-It-Yourself Investor

Economic indicators are some of the most valuable tools investors can place in their arsenals. Consistent in their release, wide in their scope and range, metrics such as the Consumer Price Index (CPI) and written reports like the "beige book" are free for all investors to inspect and analyze. Policymakers, most notably those at the Federal Reserve, use indicators to determine not only where the economy is going, but how fast it's getting there.

Admittedly, economic indicator reports are often dry and the data is raw. In other words, information needs to be put into context before it can be helpful in making any decisions regarding investments and asset allocation, but there is valuable information in those raw data releases. The various government and non-profit groups that conduct the surveys and release the reports do a very good job of collating and cohesively presenting what would be logistically impossible for any one investor do to on his or her own. Most indicators provide nationwide coverage and many have detailed industry breakdowns, both of which can be very useful to individual investors.

In this article, we'll touch on the most important aspects of economic indicators and how they relate to individual investors. (For more detailed information, see Economic Indicators To Know.)

What is an economic indicator?
In its simplest form, an indicator could be considered any piece of information that can help an investor decipher what is going on in the economy. The U.S. economy is essentially a living thing; at any given moment, there are billions of moving parts - some acting, others reacting. This simple truth makes predictions extremely difficult - they must always involve a large number of assumptions, no matter what resources are put to the task. But with the help of the wide range of economic indicators, investors are better able to gain a better understanding of various economic conditions.

There are also indexes for coincident indicators and lagging indicators, the components of each are based on whether they tend to rise during or after an economic expansion. (For related reading, see What are leading, lagging and coincident indicators? What are they for?)

Use in Tandem, Use in Context
Once an investor understands how various indicators are calculated and their relative strengths and limitations, several reports can be used in conjunction to make for more thorough decision-making. For example, in the area of employment, consider using data from several releases; by using the hours-worked data (from the Employment Cost Index) along with the Labor Report and non-farm payrolls, investors can get a fairly complete picture of the state of the labor markets. Are increasing retail sales figures being validated by increased personal expenditures? Are new factory orders leading to higher factory shipments and higher durable goods figures? Are higher wages showing up in higher personal income figures? The savvy investor will look up and down the supply chain to find validation of trends before acting on the results of any one indicator release. (For related reading, check out Surveying The Employment Report.)

Personalizing Your Research
Some people may prefer to understand a couple of specific indicators really well and use this expert knowledge to make investment plays based on their analyses. Others may wish to be a jack of all trades, understanding the basics of all the indicators without relying on any one too much. A retired couple living on a combination of pensions and long-term Treasury bonds should be looking for different things than a stock trader who rides the waves of the business cycle. Most investors fall in the middle, hoping for stock market returns to be steady and near long-term historical averages (about 8-10% per year).

Knowing what the expectations are for any individual release is helpful, as well as generally knowing what the macroeconomic forecast is believed to be at become important functions. Forecast numbers can be found at several public websites, such as Yahoo! Finance or MarketWatch. On the day a specific indicator release is made, there will be press releases from news wires such as the Associated Press and Reuters, which will present figures with key pieces highlighted. It is helpful to read a report on one of the newswires, which may parse the indicator data through the filters of analyst expectations, seasonality figures and year-over-year results. For those that use investment advisors, these advisors will probably analyze recently-released indicators in an upcoming newsletter or discuss them during upcoming meetings. (For articles about analyzing and using this data, see Trading On News Releases and A Top-Down Approach To Investing.)

Inflation Indicators - Keeping a Watchful Eye
Many investors, especially those who invest primarily in fixed-income securities, are concerned about inflation. Current inflation, how strong it is, and what it could be in the future are all vital in determining prevailing interest rates and investing strategies.

There are several indicators that focus on inflationary pressure. The most notable in this group are the Producer Price Index (PPI) and the Consumer Price Index (CPI). The PPI comes out first in any reporting month, so many investors will use the PPI to try and predict the upcoming CPI. There is a proven statistical relationship between the two, as economic theory suggests that if producers of goods are forced to pay more in production, some portion of the price increase will be passed on to consumers. Each index is derived independently, but both are released by the Bureau of Labor Statistics. Other key inflationary indicators include the levels and growth rates of the money supply and the Employment Cost Index (ECI). (To learn more, read The Consumer Price Index: A Friend To Investors.)

Economic Output - Stock Investors Inquire Within
The gross domestic product(GDP) may be the most important indicator out there, especially to equity investors who are focused on corporate profit growth. Because GDP represents the sum of what our economy is producing, its growth rate is targeted to be in certain ranges; if the numbers start to fall outside those ranges, fear of inflation or recession will grow in the markets. To get ahead of this fear, many people will follow the monthly indicators that can shed some light on the quarterly GDP report. Capital goods shipments from the Factory Orders Report is used to calculate producers' durable equipment orders within the GDP report. Indicators such as retail sales and current account balances are also used in the computations of GDP, so their release helps to complete part of the economic puzzle prior to the quarterly GDP release. (For related reading, see The Importance Of Inflation And GDP and Understanding the Current Account In The Balance Of Payments.)
Other indicators that aren't part of the actual calculations for GDP are still valuable for their predictive abilities - metrics such as wholesale inventories, th "beige book", the Purchasing Managers' Index (PMI) and the Labor Report all shed light on how well our economy is functioning. With the assistance of all this monthly data, GDP estimates will begin to tighten up as the component data slowly gets released throughout the quarter; by the time the actual GDP report is released, there will be a general consensus of the figure. If the actual results deviate much from the estimates, the markets will move, often with high volatility. If the number falls right into the middle of the expected range, then the markets and investors can collectively pat themselves on the back and let prevailing investing trends continue.

Mark Your Calendar
Sometimes indicators take on a more valuable role because they contain very timely data. The Institute of Supply Management's PMI report, for instance, is typically released on the first business day of every month. As such, it is one of the first pieces of aggregate data available for the month just ended. While not as rich in detail as many of the indicators to follow, the category breakdowns are often picked apart for clues to things such as future Labor Report details (from the employment survey results) or wholesale inventories (inventory survey).

The relative order in which the indicators are presented does not change month to month, so investors may want to mark a few days on their monthly calendars to read up on the areas of the economy that might change how they think about their investments or time horizon. Overall, asset allocation decisions can fluctuate over time, and making such changes after a monthly review of macro indicators may be wise.

Conclusion
Benchmark pieces of economic indicator data arrive with no agenda or sales pitch. The data just is - and that is hard to find these days. By becoming knowledgeable about the what's and why's of the major economic indicators, investors can better understand the economy in which their dollars are invested, and be better prepared to revisit an investment thesis when the timing is right.

While there is no one "magic indicator" that can dictate whether to buy or sell, using economic indicator data in conjunction with standard asset and securities analysis can lead to smarter portfolio management for the do-it-yourself investor.

What You Should Know About Inflation

Inflation is defined as a sustained increase in the general level of prices for goods and services. It is measured as an annual percentage increase as reported in the Consumer Price Index (CPI), generally prepared on a monthly basis by the U.S. Bureau of Labor Statistics. As inflation rises, purchasing power decreases, fixed-asset values are affected, companies adjust their pricing of goods and services, financial markets react and there is an impact on the composition of investment portfolios.

Inflation, to one degree or another, is a fact of life. Consumers, businesses and investors are impacted by any upward trend in prices. In this article, we'll look at various elements in the investing process affected by inflation and show you what you need to be aware of. (For background reading, see All About Inflation.)

Financial Reporting and Changing Prices
Back in the period from 1979 to 1986, the Financial Accounting Standards Board (FASB) experimented with "inflation accounting", which required that companies include supplemental constant dollar and current cost accounting information (unaudited) in their annual reports. The guidelines for this approach were laid out in Statement of Financial Accounting Standards No. 33, which contended that "inflation causes historical cost financial statements to show illusionary profits and mask erosion of capital."

With little fanfare or protest, SFAS No. 33 was quietly rescinded in 1986. Nevertheless, serious investors should have a reasonable understanding of how changing prices can affect financial statements, market environments and investment returns.

Corporate Financial Statements
In a balance sheet, fixed assets - property, plant and equipment - are valued at their purchase prices (historical cost), which may be significantly understated compared to the assets' present day market values. It's difficult to generalize, but for some firms, this historical/current cost differential could be added to a company's assets, which would boost the company's equity position and improve its debt/equity ratio. In terms of accounting policies, firms using the last-in, first-out (LIFO) inventory cost valuation are more closely matching costs and prices in an inflationary environment. Without going into all the accounting intricacies, LIFO understates inventory value, overstates the cost of sales, and therefore lowers reported earnings. Financial analysts tend to like the understated or conservative impact on a company's financial position and earnings that are generated by the application of LIFO valuations as opposed to other methods such as first-in, first-out (FIFO) and average cost. (To learn more, read Inventory Valuation For Investors: FIFO And LIFO.)

Market Sentiment
Every month, the U.S. Department of Commerce's Bureau of Labor Statistics reports on two key inflation indicators: the Consumer Price Index (CPI) and the Producer Price Index (PPI). These indexes are the two most important measurements of retail and wholesale inflation, respectively. They are closely watched by financial analysts and receive a lot of media attention.

The CPI and PPI releases can move markets in either direction. Investors do not seem to mind an upward movement (low or moderating inflation reported) but get very worried when the market drops (high or accelerating inflation reported). The important thing to remember about this data is that it is the trend of both indicators over an extended period of time that is more relevant to investors than any single release. Investors are advised to digest this information slowly and not to overreact to the movements of the market. (To learn more, read The Consumer Price Index: A Friend To Investors.)

Interest Rates
One of the most reported issues in the financial press is what the Federal Reserve does with interest rates. The periodic meetings of the Federal Open Market Committee (FOMC) are a major news event in the investment community. The FOMC uses the federal funds target rate as one of its principal tools for managing inflation and the pace of economic growth. If inflationary pressures are building and economic growth is accelerating, the Fed will raise the fed-funds target rate to increase the cost of borrowing and slow down the economy. If the opposite occurs, the Fed will push its target rate lower. (To learn more, read The Federal Reserve.) All of this makes sense to economists, but the stock market is much happier with a low interest rate environment than a high one, which translates into a low to moderate inflationary outlook. A so-called "Goldilocks" - not too high, not too low - inflation rate provides the best of times for stock investors.

Future Purchasing Power
It is generally assumed that stocks, because companies can raise their prices for goods and services, are a better hedge against inflation than fixed-income investments. For bond investors, inflation, whatever its level, eats away at their principal and reduces future purchasing power. Inflation has been fairly tame in recent history; however, it's doubtful that investors can take this circumstance for granted. It would be prudent for even the most conservative investors to maintain a reasonable level of equities in their portfolios to protect themselves against the erosive effects of inflation. (For related reading, see Curbing The Effects Of Inflation.)

Conclusion
Inflation will always be with us; it's an economic fact of life. It is not intrinsically good or bad, but it certainly does impact the investing environment. Investors need to understand the impacts of inflation and structure their portfolios accordingly. One thing is clear: depending on personal circumstances, investors need to maintain a blend of equity and fixed-income investments with adequate real returns to address inflationary issues.

How Dividends Work For Investors

If we had published this article during the dotcom boom of the late 1990s, there's no doubt we would have been laughed at. Back then, everything was going up in double-digit percentages, and nobody wanted to fool around with the meager 2-3% gain from dividends. After all, we were in the new economy: the rules had changed and companies that paid dividends were "too old economy".

As Bob Dylan once sang, "The times, they are a-changin'." After the bull market of the '90s ended, the fickle mob once again found dividends attractive. For many investors, dividend-paying stocks have come to make a lot of sense. In this article, we'll explain what dividends are and how you can make them work for you.

Background on Dividends
A dividend is a cash payment from a company's earnings, announced by a company's board of directors and distributed among stockholders. In other words, dividends are an investor's share of a company's profits, given to him or her as a part-owner of the company. Aside from option strategies, dividends are the only way for investors to profit from ownership of stock without eliminating their stake in the company.

When a company earns profits from operations, management can do one of two things with the profits. It can choose to retain them - essentially reinvesting them into the company with the hopes of creating more profits and thus further stock appreciation. The other alternative is to distribute a portion of the profits to shareholders in the form of dividends. (Management can also opt to repurchase some of its own shares - a move that would also benefit shareholders. Read more about it in The Lowdown on Stock Buybacks.)

A company must keep growing at an above-average pace to justify reinvesting in itself rather than paying a dividend. Generally speaking, when a company's growth slows, its stock won't climb as much, and dividends will be necessary to keep shareholders around. This growth slowdown happens to virtually all companies after they attain a large market capitalization. A company will simply reach a size at which it no longer has the potential to grow at annual rates of 30-40% like a small cap, regardless of how much money is plowed back into it. At a certain point, the law of large numbers makes a mega-cap company and outperforming growth rates which outperform the market an impossible combination.

The changes witnessed in Microsoft in the last few years are a perfect illustration of what can happen when a firm's growth levels off. In Jan 2003, the company finally announced that it would pay a dividend: Microsoft had so much cash in the bank that it simply couldn't find enough worthwhile projects in which to invest - you can't be a high-flying growth stock forever!

The fact that Microsoft started to pay dividends did not signal the company's demise; it simply indicated that Microsoft had become a huge company and had entered a new stage in its life cycle, which meant it probably would not be able to double and triple at the pace it once did.

Dividends Won't Mislead You
By choosing to pay dividends, management is essentially conceding that profits from operations are better off being distributed to the shareholders than being put back into the company. In other words, management feels that reinvesting profits to try to achieve further growth will not offer the shareholder as high a return as a distribution in the form of dividends.

There is another motivation for a company to pay dividends: a steadily increasing dividend payout is viewed as a strong indication of a company's continuing success. The great thing about dividends is that they can't be faked. They are either paid or not paid, increased or not increased.

This isn't the case with earnings, which are basically an accountant's best guess of a company's profitability. All too often, companies must restate their past reported earnings because of aggressive accounting practices, and this can cause considerable trouble for investors, who may have already based future stock price predictions on these (unreliable) historical earnings. (To learn more about earnings manipulation, read Understanding Pro-Forma Earnings and Cooking the Books 101.)

Expected growth rates are also unreliable. A company can talk a big game about wonderful growth opportunities that will pay off several years down the road, but there are no guarantees that it will make the most of its reinvested earnings. When a company's robust plans for the future (which impact its share price today) fail to materialize, your portfolio will very likely take a hit.

However, you can rest assured that no accountant can restate dividends and take back your dividend check. Moreover, dividends can't be squandered away by the company on business expansions that don't pan out. The dividends you receive from your stocks are 100% yours. You can use them to do anything you like: pay down your mortgage, spend it as discretionary income or buy the stock of a company you think has better growth prospects.

Who Determines Dividend Policy?
The company's board of directors decides what percentage of earnings will be paid out to shareholders, and then puts the remaining profits back into the company. Although dividends are usually dispersed quarterly, it is important to remember that the company is not obligated to pay a dividend every single quarter. In fact, the company can stop paying a dividend at any time, but this is rare, especially for a firm with a long history of dividend payments.

If people were used to getting their quarterly dividends from a mature company, a sudden stop in payments to investors would be akin to corporate financial suicide. Unless the decision to discontinue dividend payments was backed by some kind of strategy shift, say investing all retained earnings into robust expansion projects, it would indicate that something was fundamentally wrong with the company. For this reason, the board of directors will usually go to great lengths to keep paying at least the same dividend amount.

How Stocks That Pay Dividends Resemble Bonds
When assessing the pros and cons of dividend-paying stocks, you will also want to consider their volatility and share price performance as compared to those of outright growth stocks that pay no dividends. (For further reading, see The Power of Dividend Growth.)

Because public companies generally face adverse reactions from the marketplace if they discontinue or reduce their dividend payments, investors can be reasonably certain they will receive dividend income on a regular basis, for as long as they hold their shares. Therefore, investors tend to rely on dividends in much the same way that they rely on interest payments from corporate bonds and debentures.

Since they can be regarded as quasi-bonds, dividend-paying stocks tend to exhibit pricing characteristics that are moderately different from those of growth stocks. This is because they provide regular income, similar to a bond, but still provide investors with the potential to benefit from share price appreciation if the company does well.

Investors looking for exposure to the growth potential of the equity market, combined with the safety of the (moderately) fixed income provided by dividends, should consider adding stocks with high dividend yields to their portfolio. A portfolio with dividend-paying stocks is likely to see less price volatility than a growth stock portfolio.

Conclusion
A company can't keep growing forever. When it reaches a certain size and exhausts its growth potential, distributing dividends is perhaps the best way for management to ensure shareholders receive a return from the company's earnings. A dividend announcement may be a sign that a company's growth has slowed, but it is also evidence of a sustainable capacity to make money. This sustainable income will likely produce some price stability when paid out regularly as dividends. Best of all, the cash in your hand is proof that the earnings are really there, and you can reinvest or spend them as you see fit.

Understanding Stock Splits

Say you had a $100 bill and someone offered you two $50 bills for it. Would you take the offer? This might sound like a pointless question, but the action of a stock split puts you in a similar position. In this article we will explore what a stock split is, why it's done and what it means to the investor.

What Is a Stock Split?
A stock split is a corporate action that increases the number of the corporation's outstanding shares by dividing each share, which in turn diminishes its price. The stock's market capitalization, however, remains the same, just like the value of the $100 bill does not change if it is exchanged for two $50s. For example, with a 2-for-1 stock split, each stockholder receives an additional share for each share held, but the value of each share is reduced by half: two shares now equal the original value of one share before the split.

Let's say stock A is trading at $40 and has 10 million shares issued, which gives it a market capitalization of $400 million ($40 x 10 million shares). The company then decides to implement a 2-for-1 stock split. For each share shareholders currently own, they receive one share, deposited directly into their brokerage account. They now have two shares for each one previously held, but the price of the stock is split by 50%, from $40 to $20. Notice that the market capitalization stays the same - it has doubled the amount of stocks outstanding to 20 million while simultaneously reducing the stock price by 50% to $20 for a capitalization of $400 million. The true value of the company hasn't changed one bit.

The most common stock splits are, 2-for-1, 3-for-2 and 3-for-1. An easy way to determine the new stock price is to divide the previous stock price by the split ratio. In the case of our example, divide $40 by 2 and we get the new trading price of $20. If a stock were to split 3-for-2, we'd do the same thing: 40/(3/2) = 40/1.5 = $26.6.

It is also possible to have a reverse stock split: a 1-for-10 means that for every ten shares you own, you get one share. Below we illustrate exactly what happens with the most popular splits in regards to number of shares, share price and market cap of the company splitting its shares.


What's the Point of a Stock Split?
So, if the value of the stock doesn't change, what motivates a company to split its stock? Good question. There are several reasons companies consider carrying out this corporate action.

The first reason is psychology. As the price of a stock gets higher and higher, some investors may feel the price is too high for them to buy, or small investors may feel it is unaffordable. Splitting the stock brings the share price down to a more "attractive" level. The effect here is purely psychological. The actual value of the stock doesn't change one bit, but the lower stock price may affect the way the stock is perceived and therefore entice new investors. Splitting the stock also gives existing shareholders the feeling that they suddenly have more shares than they did before, and of course, if the prices rises, they have more stock to trade.

Another reason, and arguably a more logical one, for splitting a stock is to increase a stock's liquidity, which increases with the stock's number of outstanding shares. You see, when stocks get into the hundreds of dollars per share, very large bid/ask spreads can result (see Why the Bid/Ask Spread Is So Important). A perfect example is Warren Buffett's Berkshire Hathaway, which has never had a stock split. At times, Berkshire stock has traded at nearly $100,000 and its bid/ask spread can often be over $1,000. By splitting shares a lower bid/ask spread is often achieved, thereby increasing liquidity.

None of these reasons or potential effects that we've mentioned agree with financial theory, however. If you ask a finance professor, he or she will likely tell you that splits are totally irrelevant - yet companies still do it. Splits are a good demonstration of how the actions of companies and the behaviors of investors do not always fall into line with financial theory. This very fact has opened up a wide and relatively new area of financial study called behavioral finance (see Taking A Chance On Behavorial Finance).

Advantages for Investors
There are plenty of arguments over whether a stock split is an advantage or disadvantage to investors. One side says a stock split is a good buying indicator, signaling that the company's share price is increasing and therefore doing very well. This may be true, but on the other hand, you can't get around the fact that a stock split has no affect on the fundamental value of the stock and therefore poses no real advantage to investors. Despite this fact the investment newsletter business has taken note of the often positive sentiment surrounding a stock split. There are entire publications devoted to tracking stocks that split and attempting to profit from the bullish nature of the splits. Critics would say that this strategy is by no means a time-tested one and questionably successful at best.

Factoring in Commissions
Historically, buying before the split was a good strategy because of commissions that were weighted by the number of shares you bought. It was advantageous only because it saved you money on commissions. This isn't such an advantage today because most brokers offer a flat fee for commissions, so you pay the same amount whether you buy 10 shares or 1,000 shares. Some online brokers have a limit of 2,000 or 5,000 shares for that flat rate, but most investors don't buy that many shares at once. The flat rate therefore covers most trades, so it does not matter if you buy pre-split or post-split.

Conclusion
The most important thing to know about stock splits is that there is no effect on the worth (as measured by market capitalization) of the company. A stock split should not be the deciding factor that entices you into buying a stock. While there are some psychological reasons why companies will split their stock, the split doesn't change any of the business fundamentals. In the end, whether you have two $50 bills or one $100 bill, you have the same amount in the bank.

The Basics Of Order Entry

With the growing importance of digital technology and the internet, many investors are opting to buy and sell stocks for themselves rather than pay advisors large commissions for research and advice. However, before you can start buying and selling stocks, you must know the different types of orders and when they are appropriate.

Market vs. Limit
The two basic types of orders that every investor should be aware of are the market order and the limit order.

• A market order is an order to buy or sell immediately at the best available price. These orders do not guarantee a price, but they do guarantee the order's immediate execution. Typically, if you are going to buy a stock, then you will pay a price near the posted ask. If you are going to sell a stock, you will receive a price near the posted bid.
  
  One important thing to remember is that the last-traded price is not necessarily the price at which the market order will be executed. In fast moving and volatile markets, the price at which you actually execute (or fill) the trade can deviate from the last-traded price. The price will remain the same only when the bid and ask prices are exactly at the last-traded price.
  
  Market orders are popular among individual investors who want to buy or sell a stock without delay. Although the investor doesn't know the exact price at which the stock will be bought or sold, market orders on stocks that trade over tens of thousands of shares per day will likely be executed close to the bid and ask prices.
  
  
• A limit order sets the maximum or minimum price at which you are willing to buy or sell. For example, if you wanted to buy a stock at $10, you could enter a limit order for this amount. This means that you would not pay a penny over $10 for the particular stock. It is still possible, however, that you buy it for less than the $10.

One Caveat (Beware)
When deciding between a market or limit order, investors should be aware of the added costs. Typically, the commissions are cheaper for market orders than for limit orders. The difference in commission can be anywhere from a couple dollars to more than $10. For example, a $10 commission on a market order can be boosted up to $15 when you place a limit restriction on it. When you place a limit order, make sure it's worthwhile.

Let's say your brokerage charges $10 for a market order and $15 for a limit order. Stock XYZ is presently trading at $50 per share and you want to buy it at $49.90:

By placing a market order to buy 10 shares, you pay $500 (10 shares x $50 per share)+ $10 commission, which is a total of $510. By placing a limit order for 10 shares at $49.90 you pay $499 + $15 commissions, which is a total of $514.

Even though you save a little from buying the stock at a lower price (10 shares x $0.10 = $1), you will lose it in the added costs for the order ($5), a difference of $4. Furthermore, in the case of the limit order, it is possible that the stock doesn't fall to $49.90 or less. Thus, if it continues to rise, you may lose the opportunity to buy.


Other Exotic Orders
Now that we've explained the two main orders, here's a list of some added restrictions and special instructions that many different brokerages allow on their orders:

• Stop Order
  Also referred to as a stop loss, stopped market, on-stop buy, or on-stop sell, this is one of the most useful orders. This order is different because - unlike the limit and market orders, which are active as soon as they are entered - this order remains dormant until a certain price is passed, at which time it is activated as a market order.
  
  For instance, if a stop-loss sell order were placed on the XYZ shares at $45 per share, the order would be inactive until the price reached or dropped below $45. The order would then be transformed into a market order, and the shares would be sold at the best available price. You should consider using this type of order if you don't have time to watch the market continually but need protection from a large downside move. A good time to use a stop order is before you leave on vacation.
  
  
• All or None (AON)
  This type of order is especially important for those who buy penny stocks. An all-or-none order ensures that you get either the entire quantity of stock you requested or none at all. This is typically problematic when a stock is very illiquid or a limit is placed on the order.
  
  For example, if you put in an order to buy 2,000 shares of XYZ but only 1,000 are being sold, an all-or-none restriction means your order will not be filled until there are at least 2,000 shares available at your preferred price. If you don't place an all-or-none restriction, your 2,000 share order would be partially filled for 1,000 shares.
  
  
• Good 'Til Canceled (GTC)
  This is a time restriction that you can place on different orders. A good-till-canceled order will remain active until you decide to cancel it. Brokerages will typically limit the maximum time you can keep an order open (active) to 90 days maximum.
  
  
• Day
  If, through the GTC instruction, you don't specify a time frame of expiry, then the order will typically be set as a day order. This means that after the end of the trading day, the order will expire. If it isn't transacted (filled) then you will have to re-enter it the following trading day.

Conclusion
Knowing the difference between a limit and a market order is fundamental to individual investing. By knowing what each order does and how each one might affect your trading, you can identify which order suits your investment needs, saves you time, reduces your risk and, most importantly, saves you money.

Declaration, Ex-dividend And Record Date Defined

Have the workings of dividends and dividend distributions mystified you too? Chances are it's not the concept of dividends that confuses you; the ex-dividend date and date of record are the tricky factors. In this article we'll sort through the dividend payment process and explain on what date the buyer of the stock gets to keep the dividend.

Before we explain how it all works, let's go over some of the basics to ensure we have the proper foundation to understand the more complex issues. Some investment terms are thrown around more often than Frisbees on a hot summer day, so it's important that we define exactly what we're talking about.

Different Types of Dividends
The decision to distribute a dividend is made by a company's board of directors. There is nothing requiring a company to pay a dividend, even if the company has paid dividends in the past. However, many investors view a steady dividend history as an important indicator of a good investment, so most companies are reluctant to reduce or stop their dividend payments. For more information on buying dividend paying stocks, see the articles How Dividends Work for Investors and The Importance of Dividends

Dividends can be paid in various different forms, but there are two major categories: cash and stock. The most popular are cash dividends. This is money paid to stockholders, normally out of the corporation's current earnings or accumulated profits.

For example, suppose you own 100 shares of Cory's Brewing Company (ticker: CBC). Cory has made record sales this year thanks to an unusually high demand for his unique peach flavored beer. The company therefore decides to share some of this good fortune with the stockholders and declares a dividend of $0.10 per share. This means that you will receive a check from Cory's Brewing Company for $10.00 ($0.10*100). In practice, companies that pay dividends usually do so on a regular basis of four times a year. A one-time dividend such as the one we just described is referred to as an extra dividend.

The stock dividend, the second most common dividend paying method, pays additional shares rather than cash. Suppose that Cory's Brewing Company wishes to issue a dividend but doesn't have the necessary cash available to pay everyone. He does, however, have enough Treasury stock to meet the requirements of the dividend payout. So instead of paying cash, Cory decides to issue a dividend of 0.05 new shares of CBC for every existing one. This means that you will receive five shares of CBC for every 100 shares that you own. If any fractional shares are left over, the dividend is paid as cash (because stocks can't trade fractionally).

Another type of dividend is the property dividend, but it is used rarely. This type of allocation is a physical transfer of a tangible asset from the company to the investors. For instance, if Cory's Brewing Company was still insistent on paying out dividends but didn't have enough Treasury stock or enough money to pay out all investors, the company could look for something physical (property) to distribute. In this case, Cory might decide that his unique peach beer would be the best substitute, so he could distribute a couple of six-packs to all the shareholders.

The Important Dates of a Dividend
There are four major dates in the process of a company paying dividends:

• Declaration date– This is the date on which the board of directors announces to shareholders and the market as a whole that the company will pay a dividend.
• Ex-date or Ex-dividend date– On (or after) this date the security trades without its dividend. If you buy a dividend paying stock one day before the ex-dividend you will still get the dividend, but if you buy on the ex-dividend date, you won't get the dividend. Conversely, if you want to sell a stock and still receive a dividend that has been declared you need to sell on (or after) the ex-dividend day. The ex-date is the second business day before the date of record.
• Date of record– This is the date on which the company looks at its records to see who the shareholders of the company are. An investor must be listed as a holder of record to ensure the right of a dividend payout.
• Date of payment (payable date) – This is the date the company mails out the dividend to the holder of record. This date is generally a week or more after the date of record so that the company has sufficient time to ensure that it accurately pays all those who are entitled.

Why All These Dates?
Ex-dividend dates are used to make sure dividend checks go to the right people. In today's market, settlement of stocks is a T+3 process, which means that when you buy a stock, it takes three days from the transaction date (T) for the change to be entered into the company's record books.

As mentioned, if you are not in the company's record books on the date of record, you won't receive the dividend payment. To ensure that you are in the record books, you need to buy the stock at least three business days before the date of record, which also happens to be the day before the ex-dividend date.







As you can see by the diagram above, if you buy on the ex-dividend date (Tuesday), which is only two business days before the date of record, you will not receive the dividend because your name will not appear in the company's record books until Friday. If you want to buy the stock and receive the dividend, you need to buy it on Monday. (When the stock is trading with the dividend the term cum dividend is used). But, if you want to sell the stock and still receive the dividend, you need to sell on or after Tuesday the 6th.

*Note: Different rules apply if the dividend is 25% or greater of the value of the security. In this case, the Financial Industry Regulatory Authority (FINRA) indicates that the ex-date is the first business day following the payable date. For further details on dividend issues, search FINRA's website.

A Money Machine?
Now that we understand that a dividend can be received by purchasing the stock before the ex-date, can we make more money? Nope, it's not that easy. Remember, everybody knows when the dividend is going to be paid, and the market sees the dividend payout as a time when the company is giving out a part of its profits (reducing its cash). So the price of the stock will drop approximately by the amount of the dividend on the ex-dividend date. The word "approximately" is crucial here. Due to tax considerations and other happenings in the market, the actual drop in price may be slightly different. In any case, the point is that you can't make free profits on the ex-dividend date.

Conclusion
The reasons for and effects of all these dates are by no means easy to grasp. It's important to clear up any confusion between ex-dividend and record dates. But always keep in mind that when you're investing in a dividend paying stock, it's more crucial to consider the quality of the company than the date on which you buy in.

10 Things To Consider Before Selecting An Online Broker

One of the most important investment decisions you'll make has nothing to do with stocks, bonds or mutual funds. This crucial decision is picking a broker. There are dozens of companies offering brokerage services on the internet. How do you decide which one is best for you?

Here are 10 critical factors you'll want to consider:

1. Discount is not always the answer - Consider starting out with a full-service broker. They are often best for novice investors who may still need to build confidence and knowledge of the markets. As you become a more sophisticated investor, you can graduate into investing more of your money yourself.
   
   
2. Availability - Try hitting the company's website at different times throughout the day, especially during peak trading hours. Watch how fast their site loads and check some of the links to ensure there are no technical difficulties.
   
   
3. Alternatives - Although we all love the net, we can't always be at our computers. Check to see what other options the firm offers for placing trades. Other alternatives may include touch-tone telephone trades, faxing ordering, or doing it the low-tech way - talking to a broker over the phone. Word to the wise: make sure you take note of the prices for these alternatives; they will often be more expensive than an online trade.
   
   
4. Research the broker - What are others saying about the brokerage? Just as you should do your research before buying a stock, you should find out as much as possible about your broker. Gomez.com is a great place to find unbiased evaluations.
   
   
5. Price - Remember the saying you get what you pay for. As with anything you buy, the price may be indicative of the quality. Don't open an account with a broker simply because they offer the lowest commission cost. Advertised rates for companies vary between zero and $40 per trade, with the average around $20. There may be fine print in the ad, specifying which services the advertised rate will actually entitle you to. In most cases there will be higher fees for limit orders, options and those trades over the phone with your broker. You might find that the advertised commission rate may not apply to the type of trade you want to execute.
   
6. Minimum Deposit - See how much of an initial deposit the firm requires for opening your account. Beware of high minimum balances: some companies require as much as $10,000 to start. This might be fine for some investors, but not others.
   
   
7. Product Selection - When choosing a brokerage, most people are probably thinking primarily about buying stocks. Remember there are also many investment alternatives that aren't necessarily offered by every company. This includes CDs, municipal bonds, futures, options and even gold/silver certificates. Many brokerages also offer other financial services, such as checking accounts and credit cards.
   
   
8. Customer Service - There is nothing more exasperating than sitting on hold for 20 minutes waiting to get help. Before you open an account, call the company's help desk with a fake question to test how long it takes to get a response.
   
   
9. Return on Cash - You are likely to always have some cash in your brokerage account. Some brokerages will offer 3-5% interest on this money, while others won't offer you a thing. Phone or email the brokerage to find out what they offer. In fact, this is a good question to ask while you're testing their customer service!
   
   
10. Extras - Be on the lookout for extra goodies offered by brokerages to people thinking of opening an account. Don't base your decision entirely on the $100 in free trades, but do keep this in mind.

With a click of the mouse, from just about anywhere in the world, you can buy and sell stocks using an online broker. The right tools for the trade are key to every successful venture. Finding success in the market begins with choosing the right broker.

Traders And Investors' Roles In The Marketplace

Many people use the words "trading" and "investing" interchangeably when, in reality, they are two very different activities. While both traders and investors participate in the same marketplace, they perform two very different tasks using very different strategies. Both of these parties are necessary, however, for the market to function smoothly. This article will take a look at both parties and the strategies that they use to make a profit in the marketplace.

What Is an Investor?
An investor is the market participant that the general public most often associates with the stock market. Investors are those who purchase shares of a company for the long term with the belief that the company has strong future prospects. Investors typically concern themselves with two things:

• Value - Investors must consider whether a company's shares represent a good value. For example, if two similar companies are trading at different earnings multiples, the lower one might be the better value because it suggests that the investor will need to pay less for $1 of earnings when investing in Company A relative to what would be needed to gain exposure to $1 of earnings in Company B.
  
  
• Success - Investors must measure the company's future success by looking at their financial strength and evaluating their future cash flows.

Both of these factors can be determined through the analysis of the company's financial statements along with a look at industry trends that may define future growth prospects. At a basic level, investors can measure the current value of a company relative to its future growth possibilities by looking at metrics such as the PEG ratio - that is, their P/E (value) to growth (success) ratio. (For more on this see, How The PEG Ratio Can Help Investors.)

Who Are the Major Investors?
There are many different investors that are active in the marketplace. In fact, the vast majority of the money that is at work in the markets belongs to investors (not to be confused with the amount of dollars traded per day, which is a record held by the traders). Major investors include:

• Investment Banks - Investment banks are the organizations that assist companies in going public and raising money. This often involves holding at least a portion of their securities over the long term. (To read more, see IPO Basics.)
  
  
• Mutual Funds - Many individuals keep their money in mutual funds, which make long-term investments in companies that meet their specific criteria. Mutual funds are required by law to act as investors, not traders.
  
  
• Institutional Investors - These are large organizations or persons that hold large stakes in companies. Institutional investors often include company insiders, competitors hedging themselves, and special opportunity investors. (For related reading, see Institutional Investors And Fundamentals: What's The Link?)
  
  
• Retail Investors - Retail investors are individuals that invests in the stock market for their personal accounts. At first, the influence of retail traders may seem small, but as time passes more people are taking control of their portfolios and, as a result, the influence of this group is increasing.

All of these parties are looking to hold their positions for the long term in an effort to stick with the company while they continue to be successful. Warren Buffett's success is a testament to the viability of this strategy.

What Is a Trader?
Traders are market participants who purchase shares in a company with a focus on the market itself rather than the company's fundamentals. Markets that trade commodities lend themselves well to traders. After all, very few people purchase wheat because of its fundamental quality - they do so to take advantage of small price movements that occur as a result of supply and demand. Traders typically concern themselves with:

• Price Patterns - Traders will look at past price history in an attempt to predict future price movements, which is known as technical analysis. (To learn more, read The Basics Of Technical Analysis.)
  
  
• Supply and Demand - Traders keep close watch on their trades intraday to see where money is moving and why.
  
  
• Market Emotion - Traders play on the fears of investors through techniques like fading, where they will bet against the crowd after a large move takes place.
  
  
• Client Services - Market makers (one of the largest types of traders) are actually hired by their clients to provide liquidity through rapid trading.

Ultimately, it is traders that provide the liquidity for investors and always take the other end of their trades. Whether it is through market making or fading, traders are a necessary part of the marketplace. (For more insight, check out What Can Traders Learn From Investors? and What Can Investors Learn From Traders?)

Who Are the Major Traders?
When it comes to volume, traders have investors beat by a long shot. There are many different types of traders that can trade as often as every few seconds. Among the most popular types of traders are:

• Investment Banks - The shares that are not kept for long-term investment are sold. During the IPO process, investment banks are responsible for selling the company's stock in the open market through trading.
  
  
• Market Makers - These are groups responsible for providing liquidity in the marketplace. They make their profit through the bid-ask spread along with fees charged to their clients. Ultimately, this group provides liquidity for all the marketplaces.
  
  
• Arbitrage Funds - Arbitrage funds are the groups that quickly move in on market inefficiencies. For example, shortly after a merger is announced, stocks always quickly move to the new buyout price minus the risk premium. These trades are executed by arbitrage funds. (To learn more, read Trading The Odds With Arbitrage and Trade Takeover Stocks With Merger Arbitrage.)
  
  
• Proprietary Traders/Firms - Proprietary traders are hired by firms to make money through short-term trading. They use proprietary trading systems and other techniques in an attempt to make more money by compounding the short-term gains than can be made by long-term investing.

Conclusion
Clearly, both traders and investors are necessary in order for a market to function properly. Without traders, investors would have no liquidity through which to buy and sell shares. Without investors, traders would have no basis from which to buy and sell. Combined, the two groups form the financial markets as we know them today.

Seven Common Investor Mistakes

There are seven common mistakes made repeatedly by investors. Unfortunately, investors have been making these same mistakes since the dawn of modern markets and will likely be repeating them for years to come. (To read about market histories, see The Stock Market: A Look Back, The Bond Market: A Look Back and The Money Market: A Look Back.)

You can significantly boost your chances of investment success by becoming aware of these typical errors and taking steps to avoid them. In this article, we'll show you these seven mistakes and how to avoid them.

1. No Plan
As the old saying goes, if you don't know where you're going, any road will take you there. Solution?

Have a personal investment plan or policy that addresses the following:

• Goals and objectives - Find out what you're trying to accomplish. Accumulating $100,000 for a child's college education or $2 million for retirement at age 60 are appropriate goals. Beating the market is not a goal.
• Risks - What risks are relevant to you or your portfolio? If you are a 30-year-old saving for retirement, volatility isn't (or shouldn't be) a meaningful risk. On the other hand, inflation - which erodes any long-term portfolio - is a significant risk. (To see more on risk, read Determining Risk And The Risk Pyramid and Personalizing Risk Tolerance.)
• Appropriate benchmarks - How will you measure the success of your portfolio, its asset classes and individual funds or managers? (Keep reading about benchmarks in Benchmark Your Returns With Indexes.)
• Asset allocation - What percentage of your total portfolio will you allocate to U.S. equities, international stocks, U.S. bonds, high-yield bonds, etc. Your asset allocation should accomplish your goals while addressing relevant risks.
• Diversification - Allocating to different asset classes is the initial layer of diversification. You then need to diversify within each asset class. In U.S. stocks, for example, this means exposure to large-, mid- and small-cap stocks. (Find out more about allocation and diversification in Five Things To Know About Asset Allocation, Choose Your Own Asset Allocation Adventure and A Guide To Portfolio Construction.)

Your written plan's guidelines will help you adhere to a sound long-term policy even when current market conditions are unsettling. Having a good plan and sticking to it is not nearly as exciting or as much fun as trying to time the markets, but it will likely be more profitable in the long term. (To find out how to make your investment plan, see Having A Plan: The Basis Of Success, Ten Steps to Building A Winning Trading Plan and Tailoring Your Investment Plan.)

2. Too Short of a Time Horizon
If you are saving for retirement 30 years hence, what the stock market does this year or next shouldn't be the biggest concern. Even if you are just entering retirement at age 70, your life expectancy is likely 15 to 20 years! If you expect to leave some assets to your heirs, then your time horizon is even longer. Of course, if you are saving for your daughter's college education and she's a junior in high school, then your time horizon is appropriately short and your asset allocation should reflect that fact. Most investors are too focused on the short term.

3. Too Much Attention Given to Financial Media
There is almost nothing on financial news shows that can help you achieve your goals. Turn them off. There are few newsletters that can provide you with anything of value. Even if there were, how do you identify them in advance?

Think about it - if anyone really had profitable stock tips, trading advice or a secret formula to make big bucks, would they blab it on TV or sell it to you for $49 per month? No - they'd keep their mouth shut, make their millions and not have to sell a newsletter to make a living. (To learn more, see Mad Money ... Mad Market? and The Madness Of Crowds.)

Solution? Spend less time watching financial shows on TV and reading newsletters. Spend more time creating - and sticking to - your investment plan.

4. Not Rebalancing
Rebalancing is the process of returning your portfolio to its target asset allocation as outlined in your investment plan. Rebalancing is difficult because it forces you to sell the asset class that is performing well and buy more of your worst performing asset classes. This contrarian action is very difficult for many investors.

In addition, rebalancing is unprofitable right up to that point where it pays off spectacularly (think U.S. equities in the late 1990s), and the underperforming assets start to take off. (Keep reading about this subject in Equity Premiums: Looking Back And Looking Ahead.)

However, a portfolio allowed to drift with market returns guarantees that asset classes will be overweighted at market peaks and underweighted at market lows - a formula for poor performance.

Solution? Rebalance religiously and reap the long-term rewards. (Find out how to put this tip to use in Rebalance Your Portfolio To Stay On Track, When Fear And Greed Take Over and Master Your Trading Mindtraps.)

5. Overconfidence in the Ability of Managers
From numerous studies, including Burton Malkiel's 1995 study entitled, "Returns From Investing In Equity Mutual Funds", we know that most managers will underperform their benchmarks. We also know that there's no consistent way to select - in advance - those managers that will outperform. We also know that very, very few individuals can profitably time the market over the long term. So why are so many investors confident of their abilities to time the market and select outperforming managers?

Fidelity guru Peter Lynch once observed, "There are no market timers in the 'Forbes' 400'." Investors' misplaced overconfidence in their ability to market-time and select outperforming managers leads directly to our next common investment mistake. (For more insight, see Pick Stocks Like Peter Lynch.)

6. Not Enough Indexing
There is not enough time to recite many of the studies that prove that most managers and mutual funds underperform their benchmarks. Over the long-term, low-cost index funds are typically upper second-quartile performers, or better than 65-75% of actively managed funds.

Despite all the evidence in favor of indexing, the desire to invest with active managers remains strong. John Bogle, the founder of Vanguard, says it's because, "Hope springs eternal. Indexing is sort of dull. It flies in the face of the American way [that] 'I can do better.'" Solution?

Index all or a large portion (70-80%) of all your traditional asset classes. If you can't resist the excitement of pursuing the next great performer, set aside a portion (20-30%) of each asset class to allocate to active managers. This may satisfy your desire to pursue outperformance without devastating your portfolio.

7. Chasing Performance
Many investors select asset classes, strategies, managers and funds based on recent strong performance. The feeling that "I'm missing out on great returns" has probably led to more bad investment decisions than any other single factor. If a particular asset class, strategy or fund has done extremely well for three or four years, we know one thing with certainty: we should have invested three or four years ago. Now, however, the particular cycle that led to this great performance may be nearing its end. The smart money is moving out and the dumb money is pouring in. Solution? Don't be dumb. Stick with your investment plan and rebalance, which is the polar opposite of chasing performance.

Conclusion
Investors who recognize and avoid these seven common mistakes give themselves a great advantage in meeting their investment goals. Most of the solutions above are not exciting and they don't make great cocktail party conversation. However, they are likely to be profitable. And isn't that why we really invest?