Stock watch

By Chang Se-moon

Do you want to make money in the stock market? Obviously, we all do. Can I give you an idea of how to make money in the stock market? Not really. If you have been doing well in the stock market, there is no need for you to read this article any more. If you are one of those people who are not greedy and have a goal of protecting your assets in the long run, I think you will benefit from reading this article to the end.

Let me first explain some business terminologies that we encounter every day. To begin with, we often talk about whether the economy is growing or not. The economic growth is measured by changes in real gross domestic product. The growth rate of real GDP is the growth rate of nominal GDP from which the rate of inflation is subtracted.Inflation is measured by changes in the consumer price index. The CPI is also known as the cost of living index and is employed in many labor contracts that are indexed. When labor contracts are indexed, wages increase in direct proportion to prices increases. In general, when the economy grows, stock prices rise.

Stocks represent ownership of corporations. A stock of a company is measured in shares. Stockholders may or may not receive dividends because many companies use their profits for expansion rather than for payment as dividend. Stocks of large and stable companies that have a long history of paying dividend are known as blue chip stocks or simply blue chips. Dividends are usually paid once every quarter.

Sometimes, companies split their stocks. When stocks are split 2 to 1, stockholders with 10 shares now have 20 shares and the price of the stock falls to half of the price before split. Sometimes, stock prices go up immediately after the split.Stocks of new and small companies that are very risky are called penny stocks because their prices are usually below a dollar per share.Some people think that they are smart enough to make money by buying and selling stocks many times on a single day. This risky practice is called day trading. I advise you not to try day trading.

Many years ago, people bought stocks based on price-earnings ratio. If the price-earnings ratio is low, the price per share of a stock is low in relation to profits that the company is earning. This made the company’s stock attractive. Many years ago, people also bought stocks based on the growth potential of the company. That was many years ago.

Today, price-earnings ratios have risen dramatically because we have so many people with so much money that people buy stocks if they think their prices will rise, related little to how well these companies are doing. In other words, stock prices are determined more by demand and supply of stocks , than by how well the companies are doing. The outcome of this change is that today’s stock prices contain a large amount of bubble that bursts frequently at all kinds of news that has little to do with company profits. You will continue to see wide fluctuations in stock prices because there is too much bubble in today’s stock prices.

Question then is what would be the best way of protecting my assets in the stock market. If you want to invest in stocks for long-term capital gains with no intention of making, or losing, quick money, my advice to you is to look at index funds. Index funds are aspecial type of mutual funds. Mutual funds pool money from many different small investors who otherwise are not able to invest in opportunities that require a large amount of investment.

Index funds invest in the pool of pre-selected stocks, and sometimes stocks and bonds, of a large number of companies. Some of the safest index funds are index funds that invest only in companies that pay dividend, or companies with growing dividends, or simply all companies listed in the stock market. Even within these broad categories, there are many different index funds. This is where you want to talk with your brokers to select one that is most attractive to you.

Because the combination of stocks is pre-determined, the cost of buying these funds, called the expense ratio, is usually very low, often as low as 0.2 percent or below. When you buy mutual funds that are not index funds, the expense ratio can easily exceed ten times the ratios for index funds. If the expense ratio is 2.5, for instance, the value of the mutual funds has to grow at a rate greater than 2.5 percent per year for you to make any money.

Let me conclude by saying that if you are like me, not very smart and not interested in frequent buying and selling of stcks, my recommendation is to consider index funds with low expense ratios.

Chang Se-moon is the director of the Gulf Coast Center for Impact Studies.