econ week 7

12, 30

The Dow was initiated in 1896 with only ___ stocks. Expanded to __ stocks in 1928.

(NASDAQ) "over the counter"

. National Association of Security Dealers Automated Quotations ____ These stocks are not traded on an organized stock exchange like the New York Stock Exchange but rather _____ through a network of dealers.

election (November 9, 2016) 1990s overvalued. undervalued.

4. Aggregate Stock Market Capitalization/GDP One would expect over the long run that stock prices (hence market capitalization) would grow roughly in line with the nation's GDP. This ratio has risen sharply since the ____ as well as in the stock market bubble of the late ___. If stock market capitalization/GDP is sharply above the long-term norm, this would suggest stocks are likely ___ If the ratio is significantly below the norm, stocks are likely ____

Dow jones

A company 5 times larger than another should have a larger weight in computing the index. Continued popularity of this index stems from inertia and habit rather than quality of the index.

1. an unwarranted upward revision of the numerators in the above equations 2. an unwarranted downward revision of perceived risk in stocks (and ke )

A plausible explanation of the enormous stock market bubble of the late 1990s is that stock prices surged because of two factors which gave rise to the euphoria that creates bubbles in asset prices:

bondholders must be paid in full before stockholders receive any payments

Also, if a corporation enters bankruptcy, its .____

increases fall

Also, ke changes when perceived risk changes----it increases when perceived risk increases. Other things being equal, when perceived risk increases, ke ___ and stock prices _____.

60 stocks are not risky

As you can see from the graph, there has not been a single year in the past __ years, when average 20-year returns have been negative----the lowest average annual return was 2 percent per year. This suggests that, as a long-run investment,___.

diversified portfolio

Based on past performance, households should consider holding a ____ of stocks of high quality companies in retirement accounts and other accounts to provide for the distant future.

reducing sell

Because bonds and stocks are substitutes for each other, this ke fluctuates as interest rates change over time. Hence, when bond yields rise, ke rises and bonds become relatively more attractive to purchase than stocks, thus ___ stock prices as people ____ stocks to buy bonds. On this, review slide 23.

Analysts traditionally regarded low dividend yields of the overall stock market as an indication of overpriced stocks. is wrong 2

Capital gains have traditionally been taxed at attractively low rates (top bracket is currently 20%), so stockholders may be better off reaping income in the form of capital gains rather than having the firm pay out its profits as dividends. Right now, however, dividends are also taxed at favorable rates—the same rate as capital gains.

rise rapidly

Corporations whose earnings are expected to ___ in the future tend to exhibit higher P/E ratios than companies that are expected to experience little or no growth in profits.

There :are several indicators that are commonly used to determine (or make an "educated guess") whether stock prices in general are over-priced, under-priced, or "just right"

Dividend Yield--this is simply (annual dividend/price of the stock) x 100.

D's

During the U.S. financial crisis of 2007-2009, U.S. stocks fell by 55 percent. (The Dow fell from 14,400 to 6,600). In terms of the above equation, the ___ were revised downward as the economy fell into recession and business profits collapsed. Hundreds of corporations cut their dividends.

(bonds), (shares of stocks).

Firms have a choice in deciding whether to finance new investment spending by issuing debt (_____), or issuing equity (_____).

50, 2-year 2000-2002 and 2007-2009).

However, stocks are extremely risky from a short-run standpoint. In the past 17 years, we have experienced two episodes in which stock prices fell by more than ____ percent in about a ____ period

2% 5% 7

In the most recent 20-year period (1996-2016), dividends averaged about __ per year, stock prices increased about __ percent annually, and total returns thus averaged about __ percent annually.

earnings, market capitalization, number of stockholders,

Many newer and smaller companies do not meet the requisite standards in terms of _______ and other indicators of financial viability to qualify for listing on the New York Stock Exchange or other exchanges. They are therefore traded on the NASDAQ. Many now-established and highly successful companies like Microsoft and Intel that are now included among the DJIA index of 30 huge companies, are traded on the NASDAQ. Hence, the NASDAQ warrants considerably more attention and respect than 40 years ago.

1999 to 2009 15

Note in the 10-year graph, average annual total returns were negative only in the decade extending from ___ (minus 3.5 percent per year). In the 3-year graph, there were about 8 episodes when average annual total returns were negative---including two episodes when these returns averaged more than negative __ percent per year.

Using Equation 2, P0 is the current price of a share of the stock, Pn is the currently expected price of the stock n years in the future when the investor expects to sell the stock, the D's are the annual dividends expected from the stock, and ke is the rate of return required to induce the investor to purchase the stock.

Po=D1/(1+Ke)^N

There :are several indicators that are commonly used to determine (or make an "educated guess") whether stock prices in general are over-priced, under-priced, or "just right"

Price/Earnings ratios (P/E) of overall market. The price/earnings ratio of a particular stock is the price per share of the stock divided by annual earnings or profits per share of the stock

Advent of Discount Brokerages— Americans can buy stocks today

Prior to the 1980s, investors were charged large fees by brokerage firms to make transactions in stocks (typically $35 to $50 brokerage fee even to buy or sell $500 or $1,000 worth of stock).

wealth consumption new shares increased investment.

Stock market behavior influences aggregate expenditures and therefore economic activity. When stocks prices rise, ____ increases and this boosts ___ spending. And as stock prices rise, companies often issue ___ to finance investment expenditures on plant and equipment and also on research and development. When stock prices are high, firms tend to issue new shares of stock to finance ____

the number of shares outstanding x price per share.

Stock market capitalization of a particular corporation is _____ A good stock market index would weigh the individual stocks in the index by their market capitalization.

9 percent annually

Stock prices over the past 50 and 100 years have outperformed other assets like government and corporate bonds, gold, certificates of deposits, and other financial assets. Average annual rates of return from U.S. stocks over the above periods have averaged about ____ percent annually if one includes both price appreciation and dividend payments.

"blue chip"

Stocks in the Dow— are largely ____ companies--- account for 20-25 percent of aggregate stock market capitalization. Companies included in the DJIA are changed fairly frequently----recent additions include Apple (2015), Nike and Goldman Sachs (2013), Cisco and Traveler's (2009). But the number of companies in the index is held constant at 30.

un-weighted inferior index

The DJIA or "The Dow" is an ____ index-----Just add the price of the 30 stocks and divide by 30. This makes it an ______

4,900

The NASDAQ was founded in 1971. This boosted the information about the over-the-counter market by an acceleration in the dissemination of stock prices. The index includes about ____ of the 5,500 stocks traded over the counter (OTC).

why the sotkc market is important

The causal association between the economy and stock market goes both directions. Obviously, a robust economy leads to a strong stock market. And a stronger stock market tends to boost economic activity.

(the interest rate) stock prices.

The disadvantage of issuing new shares of stock is that the portion of the company owned by already-existing owners is diluted. The decision on financing investment often boils down to how high is the cost of issuing debt _____ and how high are _____

Dow jones

The term "Industrials" in the DJIA is a misnomer(a wrong or inaccurate name) The DJIA also includes companies in the areas of services, retailing, communications, entertainment, etc.

why is the stock market important

The stock market provides a barometer of economic sentiment---- It provides an indicator revealing people's outlook and expectations about the future of the economy.

Analysts traditionally regarded low dividend yields of the overall stock market as an indication of overpriced stocks. is wrong 1

The tax code has boosted the incentive for corporations to use profits to buy back shares of stock or invest in new equipment and technology rather than pay out profits to stockholders via dividends.

Dow-Jones Industrials Average (DJIA or "the Dow"), the Standard and Poor's 500 (S&P 500) and the National Association of Securities Dealers Automated Quotations (NASDAQ).

There are many different indexes of stock prices. The three most widely cited in the media are the

bogus view of america what they believed 1983 into the late 1990s recessions

This Virtuous Cycle came at the end of a lengthy period extending from ____ in which we experienced only one recession (1991)—and that was the mildest and shortest of the 10 or so post World War II recessions. With Alan Greenspan at the helm of the Federal Reserve, people began to think we had conquered the business cycle—that with brilliant people in charge at the Fed, ____ were a thing of the past—they had become obsolete.

high longer-term norm.

Thus, one would expect stocks to sell at lower price/earnings ratios when bond yields are ____, other things being equal. Thus, with bond yields currently very low, it may be reasonable for P/E ratios of U.S. stocks to be currently above the ___

$4.95

Today, we have discount brokerages such as Fidelity, Scott Trade, etc. in which fees per transaction average as little as $4. Fidelity, one of the largest discount brokerages, charges a fixed fee of ___ per transaction. On a $10,000 transaction, this fee amounts to less than 0.05 percent of the amount of the transaction.

constant or locked in

Unlike bonds, the expected payments (mainly dividends) or "cash flows" from shares of stock (the numerators) are not ____----they are revised every day by market participants as new information becomes available.

S&P 500 fact a better index than the Dow.

Unlike the DJIA, the S&P 500 is a weighted index. It weights the individual stocks by their market capitalization. If Microsoft has 5 times the market capitalization as Cisco Systems, it is given 5 times the weight in the S&P 500. in other words A one percent increase in the price of Microsoft stock would have 5 times the effect on the index as a one percent increase in the price of Cisco. This makes the S&P 500 ____

payments (dividends) dividends stocks are riskier than bonds.

Unlike the situation with bonds, corporations are not legally obligated to make any ____ in the future. In fact, many corporations pay no ___and quite a few other have reduced their ___ recently (e.g., oil stocks like Conoco Phillips). Hence, ____

Analysts traditionally regarded low dividend yields of the overall stock market as an indication of overpriced stocks. is wrong 3

When firms buy back shares with their profits and retire the shares, this reduces the number of shares outstanding and thus boosts profits per share, thus strongly tending to increase stock prices.

positively higher boost

When stock prices are high, the decision is often tilted toward issuing shares of stock. Investment spending is likely ______ related to stock prices—that is, ___ stock prices tend to ___ investment spending on plant and equipment and technology.

overall stock market, Price to Book Value—book value 1990s

_____ of a corporation is the residual value of the corporation per share if the company were to liquidate all assets and pay off all debts. The price to book value of the entire market soared to very high levels in the late ___ stock market bubble, as did price/earnings

Virtuous cycles—

_____ strong economic activity, rising stock prices, rising investment spending-------even stronger economic growth, and further rise in stock market. A great example was the U.S. economy in the 1990s, especially 1995-2000.

2. Advent of stocks (i-shares)

______ that track major indexes such as the S&P 500 stock index or the NASDAQ 100. This enables a small investor who has only a few thousand dollars to gain broad diversification, which would otherwise be impossible.

Vicious Cycle—

______ weak economic activity, falling stock prices, falling investment spending, weaker economic activity or even recession, followed by even lower stock prices and weaker investment spending on plant and equipment and technology.

bogus view about america "New america"

___this happened recall that in the 1990s, aided by globalization and the build-out of the internet, we entered a "virtuous cycle," a golden period of surging productivity (more than 3% growth per year), rapid GDP growth, falling unemployment, strongly appreciating U.S. dollar in foreign exchange markets, declining inflation, surging investment expenditures, and booming business profits. what did this cause

perpetual securities (no mature date) unlimited

stocks are potentially ___ that potentially include an ____ number of future payments.