Understanding Essential Stock Market Terminology

As we all know the world of trading or investing in stocks is one of the most complex yet potentially rewarding ventures you can embark on. Wether your a novice ready to make your first purchase, or the intermediate who has a few transactions under his or her belt, the following are what I would consider 3 of many essential stock market terms a person needs to understand prior to making the first or even 100th transaction.

This is common terminology you will probably find in financial dictionaries however they will typically give you just a brief explanation or definition of what the word means and how it works in theory which may be completely different than how it works in actual practice. Everyone on Wall Street understands the importance of the following info and for those of you who may be unfamiliar, here's my perspective and opinion which may ultimately save you some hard earned money.

The Float

No, it's not a very large ornamental New Years spectacular gliding down the street in the Macy's Day Parade, or a meticulously hand woven brightly colored floating collection of flora in the Rose Bowl Parade, on the contrary, in stock market terms it's the actual number of shares of any given company that are in the hands of investors or owners. There are several different stock classifications which will be discussed in future articles, but for now let's just concentrate on the "FLOAT" which is the total number of shares that are actively traded on the open market. The NYSE, NASDAQ, etc.

Here's the basic procedure that occurs when shares of stock for a privately owned entity are first issued i.e."IPO" ( Initial Public Offering ), which is the first step a company takes to transition itself from a privately owned entity to a publicly owned corporation, in essence a transfer of ownership.

In brief, A company initially "Authorizes" A specific number of shares, however the entire allotment may not be issued to the public at that time. A certain number of shares may be held in "Reserve" such as "Treasury Stock" to be sold or distributed at a later date, possibly as an award to officers of the company or to raise future working capitol etc. So the Float may differ from the total number of shares in which the company has been "Authorized" to sell or distribute.

Why is it essential to know the "Float" of any given company BEFORE you invest?

Like any other asset or commodity, one of the most important factors that you need to determine before making an offer and or possibly investing hard earned money is "SUPPLY". This is what drives future price and value. There is no magical formula as to why a stock price goes up or down, it's tied to the very same principal as everything else on the open market that can be bought & sold, "Supply & Demand" it's really that simple.

For instance, if your an antique car collector contemplating a bid on a classic Ferrari, or BMW as an investment, what's the first thing you need to research and determine before coming up with a top dollar price your willing to pay for the vehicle? How many other cars in the same class are currently in existence right? On the other hand, if it's a car that you just need to have and price is no object then discovering the total number on the market may not be an important issue, but if there are investment aspects to the purchase then the prudent thing to do is find out how many were produced and roughly how many are still on the road. The same principals apply to baseball card collecting, coin collecting etc. And of course the same with stocks.

So if you tune into any number of business channels which present their daily rundown on individual stocks and overall business activity, just remember this, while there are several factors and market dynamics that are constantly at play which may influence a stocks price, the underlying reason for up and down fluctuations is still very basic, "Supply & Demand". A stocks price will go up if there are more buyers and down if there are more sellers.

• So once again, the "Float" is the total number of shares that are actually traded by the public.

Stop Loss Order

First of all this let's take a look the definition of this type of order and then move on to how effective it is or isn't. In theory, it's designed to do exactly what the name implies, potentially "STOP" or minimize investment losses in a stock.

Let's say you purchase 100 shares of common stock just prior to taking that long anticipated fun filled vacation. Your boarding the next flight to say San Diego or the French Riviera. Probably the last thing on your itinerary once you arrive at the hotel is to glue you eyballs to CNBC 24/7 and keep tabs on the stock you just purchased to make sure it doesn't perform it's version of the Poseidon Adventure. So the stock trading "Book" or manual advises you place what's called a "Stop Loss Order" so you can go on vacation and leave all your stock market worries behind.

• "Stop Loss Order" - A "Limit Order" which is automatically "Triggered" and becomes a "Market Order" when the stock reaches a certain price. The stock is then sold at the next available price.

In theory, the strategy of placing this type of sell order to avoid significant losses works rather well. Most of the time the order is usually placed below the price in which you originally paid. If your stock goes up the order is not triggered, you cancel the Stop Loss Order then place another at a higher price and so on. Or, after you purchase the stock subsequent to placing the Stop Loss Order, your stock indeed does go down, the Stop Loss is triggered at your designated price and is sold at market price protecting you against substantially higher losses.

The preceding two examples are most common. However, there is one scenario where the "Stop Loss Order" may become ineffective. "Pre - Market Trading" occurs every morning Monday thru Friday and as we all know news is disseminated to the general public 24/7. So let's say prior to the opening bell on the NYSE the earnings report for the stock you purchased the day before did not meet "The Streets" expectations, hence the price immediately begins a continuous and systematic decent before the market opens for regular trading at 6:30 am Est. Your "Stop Loss Order", the strategy designed to protect you from substantial losses becomes ineffective due to the significant price movement or what is called a "Gap Down" before regular trading hours begin. This doesn't happen that often but don't be surprised if it does.

If the stock does indeed gap down before the market opens there really is very little if anything you can do, and your sell order will be executed at the next available price which could be well below your "Stop Loss Order" price.

So I guess the bottom line is, even though a "Stop Loss Order" is an effective strategy when used properly it doesn't work 100% of the time.

Excecutive Stock Purchases or Sales

Executives and or officers buy and sell company shares all the time. Shares they may have acquired over the years through an open market purchase or maybe awarded to them by the company as compensation for performing his or her duties in an exemplary manner etc. In essence most executives usually own a certain number of shares in the company they help operate. Periodically these officers buy or sell shares during the course of their tenure, just about any stock investing Web Site will provide this information with a simple click. This type of stock trading activity can and usually is one of the most misinterpreted aspects especially by the novice.

Many novice stock traders just briefly inspect the numbers without actually investigating the Reasons why an executive may either buy or sell their own company stock. They just take a quick look at the transactions and come to the conclusion that it's always a bad sign if an executive sells shares of their own company stock and it's always a good sign if they buy shares. Sounds good and makes sense at first glance, but to get a more accurate and complete assessment of this type of transaction more research and analysis needs to be done to determine one why these particular transactions were made.

For instance, maybe the sale was made so the proceeds can be used to purchase a new car, or to finance a child's college education, or any number of other reasons which may have absolutely nothing to do in relation to the financial condition of the company, which is usually how this type of sell or even buy transaction is interpreted by the novice investor and the majority of the general public.

In conclusion, just taking an executives buy or sell transaction at face value without further research as to the reasons why it was made can lead to a decision based on potentially inaccurate interpretations.

• I hope you found this Hub interesting & helpful, please feel free to leave a comment and share your stock market experiences.