Stock Market

Posted by: wfaulk

Stock Market - 17/03/2006 20:52

All this talk about gambling has made me think of the stock market again. I always say that the stock market is gambling, pure and simple. Others, especially those with interests in the stock market as an institution, claim otherwise.

It seems to me that the heart of this conundrum is where the money you make comes from. And there doesn't seem to be a lot of consensus. Looking around, the Motley Fool would seem like a reasonable source of information, albeit one biased toward viewing the stock market not as a pure gambling proposition.

Here are some things they had to say on the subject:

Quote:
Unless we're talking about initial public offering shares, the reality is that [a business] will never see [money changing hands in a stock transaction]. Instead, a brokered transaction takes place on the secondary market between a buyer and a seller, neither of whom usually have any connection whatsoever with [the business] outside of a stock certificate.

So they're saying that there's virtually no connection between the holder of the stock certificate and the company. But then, later in the same article:

Quote:
The stock market is a bit more complex than that, with wealth created not just by the supply and demand tug-of-war of the market itself but by the underlying value creation ability of the individual companies that make up the market.

So now they're tying the value of a stock certificate to the company's performance. And that's certainly the way it mostly seems to work in real life. But why?

Here's where my probably mistaken understanding comes in: Once the IPO is done (ignoring other stock trades), the company in question never sees another dime as a result of the price of their stock. In addition, the people who own stock, while they technically own a piece of the company in question, don't get any direct benefit from the productivity of the company, with the apparently rare exception of stock dividends. (Maybe I'm mistaken in their rarity.) So basically, people are willing to pay more for the stock of a company that is doing well. But the link between the profitability of the company and the value of the stock seems tenuous at best, to completely psychological. It seems to me that the initial desire to own stock is based in the fact that it might be neat to own a piece of Microsoft or whoever. But it also seems that that initial desire has been lost, much like the initial argument of a long-standing feud.

Basically, what I'm getting at, is that there must be some inherent value to stocks that I'm missing. Otherwise, it seems to me that people are just buying monopoly money.

Someone please show me how I'm wrong.

But then on top of that, even if I'm completely mistaken about the missing link between stocks and the company, it's totally demonstrable that the value of stocks are completely at the whim of human psychology, ranging from the abstract desire to own a piece of Microsoft, to misunderstandings of earnings reports, to the dissemination of deliberately misleading information, to manipulation of stock prices by creating runs. This sort of thing is perhaps rare, but certainly existant nonetheless. When that sort of thing exists, how can it not be considered gambling? The risk would certainly be inversely proportional to the rarity of those sorts of pshychological events, but it's risk nonetheless.

And none of this is intended to imply that it's impossible to make money at it. It's obviously possible, as it's also possible to make money playing poker, which the stock market reminds me of (with people competing against each other and the "house", in this case brokers, taking a cut of each transaction).

There's also the argument that it's not a zero-sum game, which I think has problems, though may technically be true, which I might get into if someone can get me understanding the first part of this.
Posted by: matthew_k

Re: Stock Market - 17/03/2006 21:41

Value is always arbitrarily based on what someone is willing to pay to own something. All investing is trying to increase the amount someone is willing to pay for something. Traditionally, stock prices have been based off future earnings potential. Where this gets tricky is that companies these days rarely give you this money back, they generally reinvest in order to create more value for the owners, hence the stock of the price increases as the earnings are reinvested in order to give it a greater future earnings potential.

This odd system without actual dividends paid out mainly comes from the doubble taxation of corporate earnings when they're paid out to investors.

So all stock prices are based on the rampant speculation that the company will earn money in the future.

Matthew
Posted by: TigerJimmy

Re: Stock Market - 18/03/2006 00:29

Quote:
So now they're tying the value of a stock certificate to the company's performance. And that's certainly the way it mostly seems to work in real life. But why?


Here is my understanding of this. One way to see a company, or a business, is a "black box" that converts inputs into cash. The inputs are primarily people and "capital". In a more general sense, the inputs are "capital" and "operating expenses", and people fit into the "operating expenses" category along with utilitiy bills, pencils, etc.

Take a look at the "capital" input. In this model, capital refers to the fixed assets that are required to make the product or service that the company produces. If your company is going to create CPUs, then you're going to need a very expensive factory in which to create them.

The key, however, is that all of this exists to create a product that can be sold for a higher cost than its inputs. In other words, this whole enterprise (hopefully) creates a net surplus of cash. In my mind I am thinking of a black box with a big crank. As you turn the crank, money spits out. First, we need to build the black box itself, then we need to turn the crank. Building the black box is investing capital, and turning the crank is spending operating expenses.

A company can raise capital by selling part of itself in a public offering. Usually, companies do this to raise capital to build the first incarnation of their black box.

As the company hums along, generating cash, there are a couple of things it can do with this excess cash. It can either pay that cash out to the owners of the company (this is what a dividend is), or it can reinvest the cash in the business to make the black box larger and more efficient at producing cash.

You can see Return on Invested Capital, which Warren Buffett says is a primary consideration in evaluating a business, is so important. This is a measure of how much cash the black box generates compared to the cost of building it in the first place. A box that costs $5 to build and produces $0.25 per month is better than a box that costs $25 to build that produces the same $0.25 per month. That's return on captial: how efficient is the business?

So you can start to see the "black box" as something that has some real value! It is a creation that generates wealth by creating products and services of value.

As the company generates cash (income), if it chooses to reinvest the cash into the business and does so wisely, it can make itself more and more valuable. In my model, the company is choosing to invest the cash that comes out of the black box in creating a better and better black box. Or, the company might purchase a second or third black box (acquisitions, or expansions into other markets).

Imagine you bought 1% of a company when it just started out. They were raising capital to build their black box. It turns out they built a very good one and they were able to generate a lot of cash. The company kept investing the cash it created into expanding and improving the black box. In other words, it made its black box more efficient at producing cash, and thus more valuable. It should be clear, then, why your 1% ownership of the company should increase in value.

The stock exchange is fundamentally about people exchaging their shares of ownership in companies based on whether they believe the money they are being offered for their shares today is a better deal than the increase in value of the company over time.

From a theoretical point of view, a stock *should* be worth the net present value of all of its future net cash flow. In other words, it is worth the sum total of all cash the black box will ever generate, but expressed in today's dollars. Think about it. If you had an actual black box with an actual crank that could make money, what would you sell it for? A fair price would be all of the money it could produce in its lifetime, adjusted for today's dollars. (Actually, you would need to subtract the cost of someone turning on the crank, which is why I use the term future *net* cash flow -- net of the cost to turn the crank).

It is unknowable exactly how long or how effectively any particular black box will perform. That means it is unknowable what the price of the business *should* be, because that involves knowing what the sum of all future cash flows will be. And *that* is why it appears to be gambling.

In fact, it *is* a form of gambling. However, like poker, chance is not the only element involved. People are trading things that have *actual* value -- fractional ownership of a black box that is generating cash.

In cases like the "dot com bubble", what is happening is that people are buying shares of a (now) unprofitable company because they believe that the black box the company is building, when they finally get it built, is going to generate a tremendous amount of cash. That is a *prediction*, there is no way to know this exactly, just like there is no way to know if 5th street is going to bring you the flush card to give you a winning poker hand.

You can see the consequences of this: it is possible to profit off of people's mistaken impressions. And so the market mechanism itself becomes a source of "profit" totally independent of the black boxes generating cash. This aspect is indeed a zero-sum game. But underlying all of it is businesses that are creating things, creating wealth.

Jim
Posted by: wfaulk

Re: Stock Market - 18/03/2006 00:48

The problem with all of that is that you assume that somehow you can ultimately trade your shares in to get your percentage value of the business. But you can't. All you can do with it is sell it to someone else.

Once the company has sold its shares, in an IPO or later, those shares are no longer really attached to the company. Sure, if you managed to collect more than 50% of the shares, you'd magically become the effective owner of the company. Similar deal if you had a plurality of the shares. But for the common man who owns 10 shares of Microsoft, it has no inherent value. You cannot get any money out of it other than selling it to someone else, who, in turn, cannot get any money out of it besides selling it to someone else.

There's no way to "redeem" your shares. You can't go to the company with your shares and tell them that you'd like to trade in your hundred shares for, say, one of their computers. They'd tell you to go jump in a lake.

It's effectively just a shiny bauble you can line your nest with. Fortunately, a good deal many other people seem to like those shiny baubles just as much as you do.
Posted by: canuckInOR

Re: Stock Market - 18/03/2006 04:16

Quote:
There's no way to "redeem" your shares. You can't go to the company with your shares and tell them that you'd like to trade in your hundred shares for, say, one of their computers.
Usually. However, there are cases where a company, when it's doing well, will buy back some of the shares that are out on the market.

But yeah, I'm with you. I don't really understand where any of the money comes from. And that's just simple trading. It gets crazier from there when you start thinking about buying on margin, futures, and all the rest of the strange things they do.
Posted by: n2toh

Re: Stock Market - 18/03/2006 05:30

Quote:
The problem with all of that is that you assume that somehow you can ultimately trade your shares in to get your percentage value of the business. But you can't. All you can do with it is sell it to someone else.

Once the company has sold its shares, in an IPO or later, those shares are no longer really attached to the company. Sure, if you managed to collect more than 50% of the shares, you'd magically become the effective owner of the company. Similar deal if you had a plurality of the shares. But for the common man who owns 10 shares of Microsoft, it has no inherent value. You cannot get any money out of it other than selling it to someone else, who, in turn, cannot get any money out of it besides selling it to someone else.

There's no way to "redeem" your shares. You can't go to the company with your shares and tell them that you'd like to trade in your hundred shares for, say, one of their computers. They'd tell you to go jump in a lake.

It's effectively just a shiny bauble you can line your nest with. Fortunately, a good deal many other people seem to like those shiny baubles just as much as you do.


Thank you

I try to point this out to some people and they just don't understand.

now for a bit of fun can anyone guess where the attached pic was taken and what it is?
Posted by: TigerJimmy

Re: Stock Market - 18/03/2006 05:50

Except that it just isn't true.

Imagine you bought a partial share of a boat or an airplane. Just because you can't redeem your share to the party from whom you originally bought it doesn't mean that your share is worthless or just based on emotion. You can sell your share to another person. The market mechanism is precisely what ensures that it retains value. You can sell it to someone else. Sure, you can't show up at IBM's door and ask for a computer, but you can sell your share to someone else, and that's just as good.

I understand the point you're making. But its not true that the stock is disconnected from the company after the IPO. If the market value of the stock does not reflect the value of the company, then the company can just buy back those shares to regain total ownership. In fact, the company WILL do this if there is too much differential between the market value and the book value of the stock. If the company doesn't, another company will. If they do, they need to redeem you for your shares because you own part of the company just as if you own part of a boat or airplane. If there is too much differential the other way -- the market is overvaluing the stock, the company can issue more shares. While the company only receives one cash infusion from the sale of shares, the company and the stock remain connected.

All the stock mechanism does is allow partial ownership just like partial ownership of a house, boat, airplane or any other asset. It may be a little *silly* that someone owns 1/10,000,000 of a company, but those people aren't the reason the stock exists anyway. It exists under the assumption that corporations or major buyers will exchange large blocks to assume equity significant enough to direct policy. Everyone else is just along for the ride. Your stock increases in value because the business increases in value to someone who may which to buy all or a significant chunk of it.

I don't think I'm missing your point, but please try again. I want to see your point of view.
Posted by: mlord

Re: Stock Market - 18/03/2006 14:04

Quote:

There's no way to "redeem" your shares. You can't go to the company with your shares and tell them that you'd like to trade in your hundred shares for, say, one of their computers.



If one is truly investing, then there's no need to redeem the shares. The purpose of owning them is to collect the income they (the company) generate (dividends). That's how stocks have worked since their inception, except (mainly) in the USA over the past decade.

So a share that pays a $1 dividend each year, is worth about $33 max, given that there exist safer ways to earn a similar 3% return.

Cheers
Posted by: wfaulk

Re: Stock Market - 18/03/2006 16:01

You may be not missing my point, but I believe that you're deluding yourself, and you've yet to prove me wrong.

I was going to write up a big thing here, but it comes down to this: if I never sell the stock to another investor, what value does it have?
Posted by: wfaulk

Re: Stock Market - 18/03/2006 16:02

Quote:
That's how stocks have worked since their inception, except (mainly) in the USA over the past decade.

Are you saying stocks in other markets tend to actually pay dividends?
Posted by: JeffS

Re: Stock Market - 18/03/2006 17:12

Quote:
I always say that the stock market is gambling, pure and simple.
I guess it depends on your definition of gambeling. It certainly fits the notion of "to bet on a certain outcome", but then most things do. Heck, getting a college education could be considered betting (paying tuition) on a certain outcome (making more with an education than without). While that's a pretty good bet, I'm sure it's not 100%.

I guess you could say the degree of luck might influence whether something is gambeling. Obviously there is less luck in being succesful with a college degree than playing the stock market- and less luck invovled in the stock market than playing roulette.

The way I think about it (which I realize is making up my own definition of the word) is that gambeling is wadgering against the odds (like what most people in casinos do, including Black Jack players who don't count cards).

Of course, under this definition the stock market wouldn't be gambeling, becuse I think it is possible to make choices that give you a reasonable probability of coming out ahead- but the same is true for poker, making my definition questionable.

The lottery, of course, is pure gambeling under just about any definition.

Regarding the value of stock ownership, I guess that in the stock market there is always the possability of someone trying to buy you out for a controlling share, which is tangable value for your stock. I don't know how often that happens, though.
Posted by: julf

Re: Stock Market - 18/03/2006 17:29

Quote:
Are you saying stocks in other markets tend to actually pay dividends?


Traditionally, yes. But that has changed quite a bit in most markets.
Posted by: genixia

Re: Stock Market - 18/03/2006 17:41

Quote:
The lottery, of course, is pure gambeling under just about any definition.


I recently discovered that a colleague of mine was part of a successful lottery syndicate. They calculated that by playing upwards of 20000 tickets on rollover weeks that had a better than 95% chance of making a profit, and something like a 90% chance of making a 40%+ ROI. And of the 5% of times that they didn't profit, there losses we usually less than 40%. He put in $1k several times and made about $3.5k in total profit.

This all came to an end when an MIT syndicate noticed he same thing and started putting ludicrous amounts of money into it, thus changing the math.
Posted by: JeffS

Re: Stock Market - 18/03/2006 17:47

ha- gotta love math and odds. I had no idea you could beat a lottery.

I guess that's why I should never say "of course"
Posted by: n2toh

Re: Stock Market - 18/03/2006 17:49

Quote:
Quote:
The lottery, of course, is pure gambeling under just about any definition.


I recently discovered that a colleague of mine was part of a successful lottery syndicate. They calculated that by playing upwards of 20000 tickets on rollover weeks that had a better than 95% chance of making a profit, and something like a 90% chance of making a 40%+ ROI. And of the 5% of times that they didn't profit, there losses we usually less than 40%. He put in $1k several times and made about $3.5k in total profit.

This all came to an end when an MIT syndicate noticed he same thing and started putting ludicrous amounts of money into it, thus changing the math.


What lottery game were they playing and in what markets?
Posted by: Anonymous

Re: Stock Market - 18/03/2006 18:07

Quote:
There's no way to "redeem" your shares. You can't go to the company with your shares and tell them that you'd like to trade in your hundred shares for, say, one of their computers. They'd tell you to go jump in a lake.

It's effectively just a shiny bauble you can line your nest with. Fortunately, a good deal many other people seem to like those shiny baubles just as much as you do.


Quote:
if I never sell the stock to another investor, what value does it have?


Same thing with US currency. It's not backed by gold. Of course you could just say gold is a shiny bauble.
Posted by: Anonymous

Re: Stock Market - 18/03/2006 18:13

Quote:
And none of this is intended to imply that it's impossible to make money at it. It's obviously possible, as it's also possible to make money playing poker, which the stock market reminds me of (with people competing against each other and the "house", in this case brokers, taking a cut of each transaction).


The only problem with that analogy is in Poker the players are just transferring wealth, with winners and losers. On the other hand, businesses you invest in are creating wealth (eg., building things, servicing people, advancing technology.) In the stock market it's possible for all the players to be winners.
Posted by: wfaulk

Re: Stock Market - 18/03/2006 19:00

Yeah, that occurred to me while I was writing all of this up. But when you look at it in depth, what money ultimately represents is the work of other people. That does not seem to hold true for stocks.
Posted by: wfaulk

Re: Stock Market - 18/03/2006 19:08

Quote:
in Poker the players are just transferring wealth, with winners and losers. On the other hand, businesses you invest in are creating wealth

My point is that the businesses might, in fact, be creating something (though even when you look at that it becomes questionable), but that, as a stock owner, you don't actually get any of the company's profits, unless they pay dividends, which they largely don't do.
Posted by: TigerJimmy

Re: Stock Market - 18/03/2006 22:36

Quote:
it comes down to this: if I never sell the stock to another investor, what value does it have?


If you never sell your home, what value does it have?

The fact that you *could* sell it means it has value.
Posted by: n2toh

Re: Stock Market - 18/03/2006 23:05

Quote:
Quote:
it comes down to this: if I never sell the stock to another investor, what value does it have?


If you never sell your home, what value does it have?

The fact that you *could* sell it means it has value.


some things have more than one type of value.

In the case of a home yes it has a monetary value because it can be sold, but it also has value to the owner because it can provide shelter while it is owned.
Posted by: TigerJimmy

Re: Stock Market - 19/03/2006 00:31

Of course. But the monetary value of a house you never intend to sell is *identical* to the monetary value of a stock you never intend to sell.
Posted by: n2toh

Re: Stock Market - 19/03/2006 01:06

If you never sell the stock they what else does it do for you?
Posted by: TigerJimmy

Re: Stock Market - 19/03/2006 01:32

Well, that's kind of my point. To say you have a stock that you have no intention of selling is to miss the point of stocks entirely. The whole reason you bought it was to participate in the exchange, precisely because it has no intrisic "utility" value. It's only value is as an instrument.

I'm really missing the whole point of this conversation. $100 bills have no intrinsic value, either. Their only value is that you can exchange them in a marketplace -- just like stocks. We use things like dollar bills and stock certificates because barter becomes impractical. Both of these instruments are surrogates for value. They have value themselves only because of a social agreement to exchange them for things that do have intrinsic value.

The value of a $100 bill you have no intention of spending is also zero. But making that statement is silly because it ignores that these things only have value within the context of a marketplace. All Bitt is saying is that if he refuses to participate in the marketplace, then the instruments the marketplace uses as *symbols* of value are worthless. Well, of course. But so what?
Posted by: Roger

Re: Stock Market - 19/03/2006 02:29

Quote:
if I never sell the stock to another investor, what value does it have?


As others have said: it generates dividends. Maybe not a lot. Microsoft (for example), until recently, didn't pay dividends, because the value of the stock was increasing rapidly.

Other stocks are worth hanging on to, because they pay a regular (but not huge) dividend.
Posted by: tonyc

Re: Stock Market - 19/03/2006 04:23

I'm no economist, and I don't play one on TV. But I see it like this:

1. You start with goods or services that have value to someone.
2. Then, you use money as a way to store the value of those goods or services, exchange those goods and services without the need to barter, and measure the comparitive values of those goods and services.
3. Once money exists, you add "meta money" vehicles like credit, debt, stocks, bonds, etc.
4. This pattern can continue for any number of "meta" levels of indirection and abstraction. (e.g. mutual funds.)

All of these extra creations on top of money are just ways of abstracting "value" and participating in economic transactions without directly being involved as a primary participant. But no matter how many levels you add in between you and the good/service you're buying/selling, you still have something of value. Unless the whole system collapses, there will never be a time when you can't redeem that stock certificate for some amount of money.

Of course, stock markets, currencies, and entire economies can and do collapse, but if that happens, there's really no amount of salt, goats, or money that's going to help you out.

So, to the gambling question. Stock market investment is speculation on both ends of the transaction. The seller of the stock believes they are getting more money than the stock is going to be worth, and the buyer believes they're getting a stock that's going to be worth more than the money they now pay for it.

Likely, one of the parties is right, the other is wrong. Is that gambling? Possibly.. But I'd argue that any transaction that involves goods, services, money, or any of these "meta money" abstractions can also be considered gambling, because you never know who's getting the thing of higher value. Any transaction, from simple bartering to the most complex financial deals, ends up being about trying to walk away with more value than the person on the other side of the table. Isn't that a form of gambling?
Posted by: bonzi

Re: Stock Market - 19/03/2006 09:03

Quote:
My point is that the businesses might, in fact, be creating something (though even when you look at that it becomes questionable), but that, as a stock owner, you don't actually get any of the company's profits, unless they pay dividends, which they largely don't do.

Well, whan buying stock you hope that at least one of these will happen:
- The company will pay dividends regularly (like in good old simple days)
- The company will one day pay large dividends (like Microsoft did recently)
- Somebody will want to acquire the company (because of some kind of its intrinsic value - market, manufacturing assets, IP...)
- There will be enough people believing one of above (thus willing to buy your stock for more than you paid for it)

Of course, the market is polluted by likes of "analysts" knowing zilch about the industry they are "following", big fat investors (e.g. banks) that at the same time "manage" other people's money (in funds) and directly invest in the same markets, "adjusting" their advice to small investors so to fit their interests etc. There is a lot of pure irrationality, of course, but the two are difficult to distinguish. For example, when an analysts yells "sell, sell, sell!" for Google or a few years ago Nokia because they performed only fantastically well, not unbelievably well (which the same analyst was promising), how do we know he is not trying to temporarily deflate the stock in order to make better profit from buying it himself ('himself' usually meaning his employer)? But that is besides the original point.
Posted by: bonzi

Re: Stock Market - 19/03/2006 09:17

Quote:
What lottery game were they playing and in what markets?

Our own local Croatian lottery has rules that make expected return on certain weeks larger than 1 (I believe others are similar). They pay back 50%, but if nobody has, say, 7 numbers in 7/49 game in a particular week, money allocated for that goes in next week's jackpot. As the result, there are weeks when jackpot alone is more than twice as large as the money people payed for tickets. So, if one plays only in those weeks, expected return is more than 1. The more money one puts, shorter the time interval in which actual returns are likely to average to more that 1. And, of course, it is impossible to know how many people will, led by the same reasoning, buy more tickets on high jackpot weeks, possible diluting the odds below 1.

Hm, I was not terribly clear, was I?
Posted by: n2toh

Re: Stock Market - 19/03/2006 16:14

Quote:
Quote:
What lottery game were they playing and in what markets?

Our own local Croatian lottery has rules that make expected return on certain weeks larger than 1 (I believe others are similar). They pay back 50%, but if nobody has, say, 7 numbers in 7/49 game in a particular week, money allocated for that goes in next week's jackpot. As the result, there are weeks when jackpot alone is more than twice as large as the money people payed for tickets. So, if one plays only in those weeks, expected return is more than 1. The more money one puts, shorter the time interval in which actual returns are likely to average to more that 1. And, of course, it is impossible to know how many people will, led by the same reasoning, buy more tickets on high jackpot weeks, possible diluting the odds below 1.

Hm, I was not terribly clear, was I?


Ok then how would such a ploy work on this game where rollovers happen all the time?
Posted by: FireFox31

Re: Stock Market - 19/03/2006 16:30

HAHA, New Jersey, where the real "getting nothing for something" gamble is paying your taxes... to corrupt politicians' pensions. Oh, I should watch what I say. Their pending bill (real link broken) to force Internet message board posters to be fully identifiable with name and address (second paragraph says it all) may help The Man track me down for such slander.

You know, in some states, lottery funds go to schooling for under privileged 3 and 4 year old children. Let's tell those MIT guys to back off raking the lottery systems.... which rake so many people.
Posted by: bonzi

Re: Stock Market - 19/03/2006 16:41

Quote:
Ok then how would such a ploy work on this game where rollovers happen all the time?

It would work. The recipe is simple: play only those rounds where the expected payback is larger than total amount paid for tickets (including yours, of course). Against whom you play (i.e. whose money are you getting)? Those who play in low-jackpot rounds. I think I remember there was a round of Powerball or something similar where the price of enough tickets to guarantee the jackpot was lower than the jackpot, and someone collected enough money to go for it (the main obstacle, IIRC, being the requirement to fill the tickets in manually).

Boy, I forgot all my statistics. Can anyone quickly calculate how many different unordered combinations of 6 out of 43 are there? Ah, 175711536, apparently. So, you will have to wait for several more rollovers... If you pay those 175M$, you are guaranteed to hit the jackpot, but might have to share it with someone else. That's why jackpot has to be higher than total amount paid.
Posted by: gbeer

Re: Stock Market - 19/03/2006 18:26

Quote:
You know, in some states, lottery funds go to schooling for under privileged 3 and 4 year old children. Let's tell those MIT guys to back off raking the lottery systems.... which rake so many people.


Huh? The California Lotto is used to put additional funding into schools, but that money comes off the top, before anyone is paid a single jackpot. The other thing about the Ca Lotto is that it seems to pay the top jackpot too frequently to make raids profitable.
Posted by: bonzi

Re: Stock Market - 19/03/2006 18:37

Quote:
Let's tell those MIT guys to back off raking the lottery systems.... which rake so many people.

The scheme of playing for huge sum when the jackpot is large enough works only when just one team is doing it (more precisely, another participant makes the treshold much higher). So, the system is self-regulatory. Actually, MIT-like efforts are likely to make significant jackpots more frequent, making the game more popular => more money for kids.
Posted by: n2toh

Re: Stock Market - 19/03/2006 18:51

Quote:
HAHA, New Jersey, where the real "getting nothing for something" gamble is paying your taxes... to corrupt politicians' pensions. Oh, I should watch what I say. Their pending bill (real link broken) to force Internet message board posters to be fully identifiable with name and address (second paragraph says it all) may help The Man track me down for such slander.

You know, in some states, lottery funds go to schooling for under privileged 3 and 4 year old children. Let's tell those MIT guys to back off raking the lottery systems.... which rake so many people.


bills like that are typical for NJ, if you want a good laugh or cry go here and Search by Keyword in Synopsis for "firearm". If A812 or anything like it passes is the day I pack my bags and goto PA.
Posted by: TigerJimmy

Re: Stock Market - 19/03/2006 18:57

Quote:
The recipe is simple: play only those rounds where the expected payback is larger than total amount paid for tickets (including yours, of course).


This is not the correct recepie. It is possible to have a +EV gamble on rollover lotteries. Like any gambling transaction, it is +EV if the payout odds are larger than the odds against winning the payout. The number of tickets sold is not a factor in rollover lotteries because its possible for nobody to win, which was why there was a rollover in the first place. Your odds of winning are 1 in however many combinations of numbers there are.

Your payout is a bit more complex to figure out, because there are payouts in addition to the jackpot in most lottieries.

You will also need to factor in taxes. In powerball, the break-even after paying US federal tax is somewhere around $380M. However, it is possible for more than one person to win, so calculating EV needs to calculate the liklihood that you win, but only win half. (Interestingly, you need to do this in Hi-Low split poker too, like the Omaha/8 we were talking about in the other thread).

Lotteries are high variance games, to put it mildly. While you may have a *theoretical* positive expectation, its unlikely that anyone has a bankroll large enough to handle the downswings.

Jim
Edit: I think Bonzi is referring to the total summation of all the tickets purchased since the last jackpot hit. This never changes your odds of winning, however. As he says later in the post, that is related to the combinations of numbers. In the line I quote at the top of this post, both things being compared are related to the payout, not your odds of winning.
Posted by: TigerJimmy

Re: Stock Market - 19/03/2006 19:01

Yeah, because you are much more likely to be "playing for half the pot."
Posted by: wfaulk

Re: Stock Market - 19/03/2006 19:17

Okay, so people say that it's because of dividends, and I'm willing to assume that dividends were common, if not universal, in the early days of the stock market.

But let's look at it in the present:

Quote:
The whole reason you bought it was to participate in the exchange, precisely because it has no intrisic "utility" value.

But if it has no intrinsic value, why would I buy it in the first place? Because someone else wants it, right? But why do they want it? Because someone else wants it. It's like a closed loop. Basically, people want it because other people want it. There's no ultimate exit strategy. If, for some reason, everyone lost interest in this trading game, the people left holding the stock certificates would have nothing of value.

As far as I can figure, they have slightly less intrinsic value than baseball cards.
Posted by: wfaulk

Re: Stock Market - 19/03/2006 19:19

I'm totally down with the abstraction of real value. But it seems that, ignoring dividends and potential controlling interest, stocks lose their connection with those real values as soon as the company sells them.
Posted by: TigerJimmy

Re: Stock Market - 19/03/2006 19:31

Why are we ignoring those factors? They are what gives the stock value in the secondary market.

Dividends are secondary, and my understanding is that they always have been. The fact that a business has value as an asset is the major factor in stock appreciation. The business reinvests its profits, becomes more valuable, and becomes more expensive for someone to purchase. The stock price is just the price tag of purchasing the business, with the cool idea that you can purchase part of it, so that groups can go in together to buy the whole thing.

Forget about stocks. Say you started a laundromat. You wanted to buy new washers and dryers but didn't have the cash. So you sold me half the business for $100k, and we bought all of this new capital with the proceeds. Let's say, because of our improvements, our business became TREMENDOUSLY profitable. So profitable, in fact, that it generated so much cash in excess of operating expenses that our company was able to build 10 more laudromats in the state. Clearly, the company is more valuable, and my half of it would be worth much more than $100k by now. In fact, maybe I trusted you so much as a manager, that I just bought half the interest and let you manage the business and you accomplished this great success all by yourself. If I wanted to sell my half of the business to someone else, I could, and I would expect to get more than $100k for it. This whole thing has NOTHING to do with dividends. You never paid a dividend. You made the business more valuable instead. The fact I could sell my half of our laundry business is about the appreciation of the business as an ASSET.

Now, just do that same thing, except instead of getting money from one investor, you get it from thousands. To keep track of it all, purely for administrative reasons, you issue stock certificates.

That's all that is going on. The motivation for stock appreciation independent of dividends is that the stock IS tied to the company and the company has intrinsic value.
Posted by: TigerJimmy

Re: Stock Market - 19/03/2006 19:33

Everything you say here could be said of $100 bills. It is a social convention because trading things that have real "intrinsic" value, like goats or cars or houses, is too difficult. The fact that the system is vastly superior to barter is what keeps the whole thing going and keeps people from losing interest.

Why you want something with no intrinsic value is because others do, yes. Because we've all agreed to trade those things for other things that do have intrinsic value. You want the stock, not for itself, but for what it represents should you choose to exchange it for something you want.
Posted by: wfaulk

Re: Stock Market - 19/03/2006 20:14

That's an incomplete analogy.

Lets say a potential business partner wanted to start up such a business. Would you invest your money in it? What if he told you that the only thing he would ever give you (or anyone you sold your interest to) for reimbursement was a piece of paper that said you "owned" 49% of it?

Quote:
The fact I could sell my half of our laundry business is about the appreciation of the business as an ASSET.

My question is, under my example above, which seems to be a fairly accurate description of the current stock market, at least from my point of view, why would anyone want to buy it?
Posted by: wfaulk

Re: Stock Market - 19/03/2006 20:23

Again, I understand the idea behind paper money. It represents some physical asset. My point is that when you buy stock in a company, you give them money, they give you a piece of paper, and they laugh all the way to the bank. They are not obliged to buy it back from you at any price. It becomes completely disconnected with any sort of wealth.

Let's look at it this way. Let's say I sold you a piece of paper that was worth 1% of me for $100. Then, let's say, I become a kajillion-aire. Not only do I not need to pay you 1% of my worth, I don't even have to give you back the $100. You're free to continue "owning" 1% of me, but that ownership will never see liquidity.
Posted by: bonzi

Re: Stock Market - 19/03/2006 21:45

Quote:
You're free to continue "owning" 1% of me, but that ownership will never see liquidity.

It will, if someone wants to buy the whole of you.
Posted by: mlord

Re: Stock Market - 19/03/2006 21:48

Quote:
My point is that when you buy stock in a company, you give them money, they give you a piece of paper,


In this case, you are buying a share of the company. Which makes you a part owner, and carries an entitlement for you to receive a share of the profits. They don't have to buy your share back if you change your mind, but they do have to share out the profits [EDIT] equally to you and any other share holders. Many companies prefer not to release profits to their owners, and to simply hang onto the cash (retained earnings) instead. It is up to the shareholder representatives ("the board of directors") to police this.

Cheers
Posted by: bonzi

Re: Stock Market - 19/03/2006 21:49

Hm, yes, I will have to think this through a bit better...
Posted by: TigerJimmy

Re: Stock Market - 20/03/2006 03:36

It doesn't see liquidity because you don't sell enough of yourself. Put more than 50% of you on the marketplace, and set up laws that say you need to do whatever the plurality dictates, and then you have a different situation. Liquidity comes from the exchange, not from the issuing company. I don't understand the details of how the exchanges work, but I know they have mechanisms to ensure liquidity (specialists). You won't get listed on an exchange if you only sell 1% of yourself.

Alternatively, part of the contract of me buying 1% of you could stipulate that all of your income will be distributed via dividend and you are not allowed to retain any earnings.

The bigger point, though, is that companies don't just issue 1% of their equity. Enough equity is sold on the secondary market that there is liquidity.
Posted by: Tim

Re: Stock Market - 20/03/2006 11:52

Quote:
Quote:
Are you saying stocks in other markets tend to actually pay dividends?


Traditionally, yes. But that has changed quite a bit in most markets.


I was under the impression that most stocks still pay regular dividends except in the computer fields. What I mean is that Microsoft was the first one I remember hearing of that didn't pay dividends, but all (or almost?) other companies still pay dividends. Coke, Pepsi, IBM (as of 2000), Northrop-Grumman, Lockheed-Martin, Boeing, etc all still pay quarterly dividends.

-- Tim
Posted by: wfaulk

Re: Stock Market - 20/03/2006 13:24

Fine. 49%. Whatever. I think you're totally missing my point.

My point is not that there aren't people willing to buy the stock once it's out there. My point is that those people are insane.

Okay, that's not really true. There are enough people out there that the whole system has an internal consistency that allows for liquidity.

But the money used to buy stocks never comes back out of the stock market. I cannot sell off my interest without someone coming in to fill my place. At a casino, to take an example not intended to be a gambling comparison, I buy chips from the casino to gamble with. At the end of my day, I sell those chips back to the casino. If the casino worked like the stock market, I'd have to find some other individual to buy my chips from me instead.

I guess what I'm saying is that you never really get out of the stock market until you find some sucker to take your place.

I realize that a lot of these arguments do apply to government-issued money, too. But that's an argument that I'm going to wait on for now, and, at this point, assume that US Dollars are real money.

And I'm not being dense. I know how people currently make money in the stock market. I'm not denying its existence. The problem is that no one has yet shown me how a stock is not virtually completely divested from the company that issued it.
Posted by: pgrzelak

Re: Stock Market - 20/03/2006 13:28

But companies do, on occasion, buy back their own stock. Granted, not frequently, but it does happen.
Posted by: wfaulk

Re: Stock Market - 20/03/2006 13:49

Perhaps. But they buy it back at market value, so they just become another stock market investor. Even if you argue that my point is invalid (and you can certainly make that argument), that happens so infrequently as to be negligible.

I guess that part of my point is that the market value isn't even fixed on how much the company is worth, but on subjective assessments of how much the company is worth. (And then on top of that lies my main point that it doesn't seem to actually make any difference how much the company is worth at all, since none of the money you ever receive from the stock is based directly on the company's worth.)
Posted by: JeffS

Re: Stock Market - 20/03/2006 14:21

Quote:
But they buy it back at market value, so they just become another stock market investor.
Not really- and especially not in the case of a hostile takeover. At that point the buyer really does consider whether the cost incurred to purchase the stock is worth payed in order to gain controlling shares of a company.

I know this much- my brother in law's company got bought out by a larger company (not a hostile takeover) and everyone who had stock got paid off when it happened. Some of the employees who'd been there for years had quite a bit of stock and got handed checks for 200K-300K. I'm sure the purchasing company would not have paid that amount to the shareholders if it was just a matter of perceived value. He said it was crazy that these NOC employees all came to work the next week with new cars- including one who purchased a Lotus.
Posted by: DWallach

Re: Stock Market - 20/03/2006 15:17

You have to always remember that stock shares represent not only profits but control. Small-time investors don't have very much power, but big-time institutional investors get seats on the board of directors. Likewise, when one company acquires another, stock may be acquired or swapped or whatever else.

Further, you have to look at the long-term value of a share of a company versus other sorts of long-term investments. You can keep your assets directly as dollars or euros, but then inflation will reduce the value of your holdings over time. You can keep your assets in a money market account, which means you really own treasury bills (i.e., government-issued bonds). You can keep your assets in real estate, which may or may not appreciate over time, and which can have ongoing maintenance costs. You can keep your assets in precious metals or oil or whatnot, but those have volatility that may not be appropriate for most investors. Stocks, by and large, have no maintenance costs, can be selected for desirable volatility, and tend to outperform inflation over the long term.

Given that you need to park your assets somewhere, and pretty much any asset you might own is going to be abstract, why not have a big chunk of your assets in stock?
Posted by: Ezekiel

Re: Stock Market - 20/03/2006 16:13

Quote:
My point is that those people are insane.


I think Bitt's angling for a title change to 'Wonko the Sane'.



-Zeke
Posted by: tanstaafl.

Re: Stock Market - 20/03/2006 16:43

Heck, getting a college education could be considered betting (paying tuition) on a certain outcome (making more with an education than without). While that's a pretty good bet, I'm sure it's not 100%.

Darn right it's not.

Not too long ago I paid an electrician $3400 to replace my breaker box and extend power over to my new detached garage. He was so heavily booked that I felt lucky to get him at any price, and the work had to be done by a licensed electrician to meed building code.

He had about $400 in materials, and a day and a half of his time invested in the project.

I do have a college education, and I'm not making even 10% of what that guy made on an hourly basis.

tanstaafl.
Posted by: wfaulk

Re: Stock Market - 20/03/2006 20:32

Quote:
Small-time investors don't have very much power, but big-time institutional investors get seats on the board of directors.

I will admit that I'm looking at this from the viewpoint of the small investor. At the same time, the reason that that power is important is to protect your huge investment in the company. So now you're paying money to get a job to protect the money that you spent to get the job, ad infinitum. And it still doesn't show me the connection between the company's value and the stocks.

Quote:
Likewise, when one company acquires another, stock may be acquired or swapped or whatever else.

Yeah, but that's effectively just someone buying your stock. Not really much different than the normal case, although it does pull in that edge case of actually using stock for power, which is where my argument breaks down.

Okay, so assuming that the only times that your stock is actually worth anything is when someone takes over the company (hostilely or not), then isn't buying stock a hope that the company will get bought out?
Posted by: JeffS

Re: Stock Market - 20/03/2006 23:31

Quote:
So now you're paying money to get a job to protect the money that you spent to get the job, ad infinitum.
No, you're paying money to get a job to make more money, which could be realized in dividends, the buyout of your shares, or selling to another investor at a higher amount (obviously the most likely scenerio).

And certainly spending money to make money is not a new concept. It's the reason people are in business at all.

Quote:
Okay, so assuming that the only times that your stock is actually worth anything is when someone takes over the company (hostilely or not), then isn't buying stock a hope that the company will get bought out?
That potential is what gives the stock its value. If you invest in land that you don't live on or use, you are purchasing on the hope that its value will go up and someone will buy it from you. That person may or may not want it for personal use- it could be another investor. The point really doesn't matter, since you're buying it as an investment to being with, but the end potential for use is what gives it its value. The value of stock is a share in the value of that company- realized when someone decides it is important to own a controlling share of that company (which could be the company itself). Whether you experience this yourself, that potential allows you to purchase stock as an investment and sell it at a gain if the value of the company goes up (making purchasing a controlling amount of stock that much more enticing).
Posted by: matthew_k

Re: Stock Market - 20/03/2006 23:36

Quote:
Okay, so assuming that the only times that your stock is actually worth anything is when someone takes over the company (hostilely or not), then isn't buying stock a hope that the company will get bought out?

No, your stock is worth something because it represents a share of the company For richer or for poorer, you own a fraction of the company. Ownership isn't a new concept, we brought it over on the mayflower and it's been thriving in North America ever since.

Your problem with the stock market seems to be that you're never going to end up with a controlling stake in the company, so you'll always be at the whim of the other larger investors. But, seeing as they're larger investors, they're going to have their best interest at heart, which conveniently enough is your best interest. There of course arise situations where their best interest may not be your best interest. The SEC exists to prevent this from becoming an issue.


Matthew
Posted by: JeffS

Re: Stock Market - 21/03/2006 02:13

Another thing to consider against your claim that the tie-in between stock value and company performance is imagined- consider what would happen if a large, successful company had stock valued at a fraction of a penny. In fact, say you could buy a controlling amount of stock in an IBM sized company for $100,000. That would obviously be a worthwile investment, as you could then do whatever you wish with it and pocket as much of the profits as you wanted (remember, this is a successful company well in the black). Of course, that wouldn't ever happen because the moment a successful company got anywhere near that, it would be snatched up by hungry investors. No one would ever let it get that low because the value IS tied to the performance of the company. The other extreme would be owning a controlling share in a lousy company and trying to sell it for a premium price. It isn't going to happen because no one wants any piece of a company losing money.

That's not to say I don't agree with a lot of your point- it seems that stock prices rise and fall more at the whim of investors than because of real value fluctuations in the worth of a company. The value of Microsoft is probably not changing drastically from day to day, but its stock price is probably a different story (though I wouldn't know, not following Microsoft stock). Having said all of that, owning stock IS ownership in a company, and it does carry with it some degree of controlling how that company can make you money, including issuing profits to your pocket. Unforutnatly, you'd have to own quite a big piece to really have any reasonable control over these things. That doesn't change the fact that buying stock is buying something of value, as little value as it may be in the grand scheme of things.
Posted by: wfaulk

Re: Stock Market - 21/03/2006 03:26

Okay, from my point of view, everyone keeps using the same arguments, none of which even begin to show me how you actually make money from the ownership (not the selling) of stock, outside a few edge cases.

At this point, I'm just gonna take my ball and go home while the rest of you keep drinking the Kool-Aid.
Posted by: TigerJimmy

Re: Stock Market - 21/03/2006 04:11

This is a silly statement. You make money by buying and selling the stock -- by participating in the exchange.

How do you make money from mere ownership, without participating in the exchange? You don't. But markets exist. Its like saying that a car doesn't have any value if you don't drive it. Well, duh.

You started this conversation asserting that the stock did not have value that is tied to the compnay. I believe we have explained in detail that it does, and that it is tied to the company, within the context of a marketplace of other investors. If you can sell it on the exchange, it has value, and that value is based on the company.

Nothing has monetary value if you refuse to sell it. That's just a silly strawman.

You are entitled to argue your point in this way, but please don't accuse us of being the Kool-Aid drinkers.
Posted by: Anonymous

Re: Stock Market - 21/03/2006 08:39

I think you have to differentiate between income stocks and growth stocks. Income stocks pay regular dividends and the stock price stays pretty flat. So you might get a 10% yearly return on your investment in that company.

Growth stocks invest most or all of the profits back into the company. So you won't get regular dividends but the size of the company will increase rapidly, and the value of your shares will too.

I see what you're saying though about what tangible value does one single share have if it doesn't pay dividends. But if it had no value then that means a big shot could buy a really profitable company for really cheap. Then he could collect the profits or re-invest the profits or whatever. Either way, the profits are his. And even if you own 1/1000th of a company, then 1/1000th of the profits belong to you. You only get 1/1000th of a say in whether those profits are cashed out or re-invested for bigger profits later on.
Posted by: JBjorgen

Re: Stock Market - 21/03/2006 11:15

Dear Bitt,

You are dumb. Bring our ball back.

John
Posted by: Roger

Re: Stock Market - 21/03/2006 11:39

Quote:
none of which even begin to show me how you actually make money from the ownership (not the selling) of stock


How do you make money out of the possession of money? It's worthless unless you can persuade someone to either give you products or services (or other money) in exchange.

And currency isn't actually grounded in anything real either.
Posted by: JeffS

Re: Stock Market - 21/03/2006 12:00

Quote:
You are dumb. Bring our ball back.

ROFL
Posted by: JeffS

Re: Stock Market - 21/03/2006 12:42

If Bitt’s truly done with this thread then it doesn’t make much sense to continue. However, giving it one last stab:

Say a company offered something called a “Coolness Certificate” (cc) that you could purchase as an investment. The notion being that the company promises to do everything possible to become more “cool”, and in doing so will raise the value of your cc shares. The value in these shares would be that they would increase as the companies “coolness” does, and you could sell them to other investors when you feel that the value has peeked- perhaps you get a sense that the company just isn’t as cool as it used to be. This system works as long as all the investors buy into the notion that the coolness of a company and the value of the cc shares are linked.

Most of the arguments in this thread in favor of stocks having actual value would apply to the above scenario of “Coolness Certificates”. They have value as investments because people want them- the actual value as related to the company isn’t important (in fact, it doesn’t exist). Of course, the moment someone wakes up and realizes that neither is the emperor wearing any clothes, nor is there any correlation between a company’s “coolness” and the shares people have purchased, the whole system comes crashing down.

So what is the difference with stocks? As I see it, stock ownership has the potential to control the destiny of a company, therefore stock does correlate to the perceived value of a company, unlike cc’s to a company’s “coolness”. The more value a company has, the more value there is of being able to control. That most people don’t have enough shares to wield any kind of control is inconsequential, because there are some that do. People do use their shareholdings to control companies, and those holding small numbers of shares are riding on their coattails, as it were.

Or that’s how I see it, anyway. If I missed the point completely or am merely re-treading the same tired arguments, then I apologize.
Posted by: wfaulk

Re: Stock Market - 21/03/2006 14:06

I'm responding here because Jeff's argument makes sense to me and we can call it quits, but I want to try to explain why you're totally misinterpreting my points:

Quote:
Nothing has monetary value if you refuse to sell it.

Never once have I said that the stock must have monetary value in order to have value. At the same time, I don't see that it has any other sort of value, either. To back up in your post, you kinda make my point for me:

Quote:
Its like saying that a car doesn't have any value if you don't drive it.

Correct. A car has both value in its utility (in the case of a car, its ability to get you from one place to another) and its potential resale value. Its potential resale value is based on its utility. (Even if, in some cases, that utility is awfully abstract, like making the owner feel like he looks cool.) A stock's potential resale value must also be based on its utility. That utility is the inherent value I've been talking about, and it need not be monetary in nature. Your argument so far, as far as I can fathom, is that its utility is that it can be sold for money. But the fact that it can be sold for money is based on its utility. It's like saying that Windows has the best applications because it's the best operating system, and that it's the best operating system because it has the best applications. That's a completely circular argument, and a classic logical fallacy: "circulus in demonstrando".

Again, my point is that any item must have some sort of inherent value (or utility), even if it's abstracted, in the case of currency, for example, for it to have any resale value. And my argument is that stocks are sufficiently abstracted to make their connection to the issuing company extraordinarily tenuous.
Posted by: wfaulk

Re: Stock Market - 21/03/2006 14:17

I said in my last post that Jeff's argument made sense to me, and I thought it did, but now that I'm sitting down to explain how it does, I find that it doesn't.

It's a good first step, though, comparing it to something that is as similar as it can possibly be, but which demonstrably has no value at all.

Quote:
The more value a company has, the more value there is of being able to control.

Maybe my problem is that I don't see any value in the ability to control.

I do see the value in dividends, obviously, and maybe I'm overestimating their rarity. And I suppose I can see the value in potential dividends, though that's a lot closer to gambling to me.

BTW, I didn't mean to offend anyone with my Kool-Aid reference. And, for the record, it's not like I think it's all some big conspiracy, or that people don't make money. And I don't have a problem with anyone playing the stock market (or gambling, for that matter) -- I'm just of the opinion that the whole concept has clay feet, and therefore would never do it myself.
Posted by: Ezekiel

Re: Stock Market - 21/03/2006 14:24

Bitt,
I've avoided weighing in, since so many have made points I agree with (voting, dividends, mainly).

Let me pose to you this hypothetical question. Say a company were public, but there were only two stockholders, one with 51% and one with 49%. The company has a record of consistent 12% profits, and has never paid a dividend - they have several hundered in million in cash accounts. Gross sales are 100 million per year. Is that 49% share worthless/of no value simply because it is a minority share and therefore cannot control board membership?

It seems to me that your arguments to date would say yes, that this 49% has no intrinsic worth - no dividends, no meaningful voting rights.

Am I incorrect in that interpretation?

-Zeke
Posted by: JeffS

Re: Stock Market - 21/03/2006 14:53

Quote:
Maybe my problem is that I don't see any value in the ability to control.
Yes, from reading your posts, I'd say that's probably the issue. The ability to control a company is a huge value I think, if you ever can attain that control, and if the company is a good one. You can strip the company and sell off pieces, for money. You can liquidate the entire thing, for money. If you see great potential you can hang on to it and pocket the profits (rather than reinvesting them), and earn money- this is of course the whole point of dividends. The bottom line is that you have the control over what a company does with its money and assets- giving it/them to you or trying to use it/them to make more money. More often then not its a combination of the two.

Of course, most people never get that kind of control, but the fact that it's there makes the correlation between company performance and the price of the stock more reasonable. And if stock prices don't retain their correlation then it will self adjust. When a stock is undervalued, someone with deep pockets is going to buy it for the control potential and not let go unless the price exceeds the value of their control.

But the whole thing hinges on the notion that someone, somewhere cares about control of companies and is willing to pay for it. It doesn't have to be you or I, but there are plenty of people out there doing exactly that- looking for companies to buy at a good price.
Posted by: julf

Re: Stock Market - 21/03/2006 15:18

Quote:
Ownership isn't a new concept, we brought it over on the mayflower and it's been thriving in North America ever since.

And the Mayflower actually came via Holland, where they pretty much invented stocks and exchanges - and maybe looking at the history helps understand the "rationale" behind owning stocks.

The Dutch invented the idea of joint stock companies.The Dutch East India Company was the first company to issue stocks and bonds. The whole construct originally existed to mitigate the (significant) risk of sending a ship to the East Indies. In most cases it didn't come back, but if it did, it's cargo would make you rich.

So, instead of taking the risk all yourself, why not split the risk up in, let's say, 100 pieces, and agree to split the profits in the same ratio. Thus you can invest in 100 1% pieces, and have a reasonable expectation that some of the ships come back and give you some amount of wealth.

But in buying shares in a company, you take on part of the risk and benefit of the company business plan - if they fail, you have lost your money, if they succeed you will get some benefit (as dividends).

Of course, what then happens is people start speculating on the odds of a company succeeding, and create a market of derivatives - again a construct originally designed to mitigate the risk of crops failing or raw material prices changing.

Let's not get into junk bonds...
Posted by: DWallach

Re: Stock Market - 21/03/2006 15:19

Also, one other point for Bitt concerns the price to earnings (P/E) ratio. To keep the numbers simple, let's say we have a hypothetical company which makes a profit of $1M/year. There are also 1M outstanding shares (for a profit of $1/share). Clearly, if you bought all the shares for $1/each, then you would control the company and would recover your investment in a single year if you chose to pay yourself that entire profit as a dividend. Unsurprisingly, if the stock were trading at $1/share (and having a P/E ratio of 1.0), that would be very attractive for exactly this reason. And, as a direct result, the share price (and the P/E ratio) would increase and the market would eventually reach a price equilibrium.

If you look at various stocks, you'll see P/E ratios all over the map. To pick a random sampling of stocks, Ford's P/E ratio is 7.58. 3M's is 18.25. Google's is 69.07. Ford and 3M pay dividends (5.1% and 2.5%, respectively), while Google doesn't pay any dividend.

So, if you were to buy a controlling share of Ford and were to pay yourself massive dividends, you could recover your investment in eight years, versus 18 for 3M. However, the market is more concerned that Ford will collapse under a mountain of its own debt. Thus, Ford shares are less valuable than 3M, despite the fact that they're paying out twice the dividend rate. Still, the prices aren't random at all. They make perfect sense. I'd argue that no Kool-Aid is necessary to wrap your brain around how Ford and 3M are priced and you could probably even derive those prices from first principles.

Google, and any other "growth" company, require some amount of Kool-Aid to understand. Unlike many of the earlier dot-com bombs, Google is actually making heaping piles of real profit, so there's clearly "value" in its shares. However, those higher P/E ratios stocks tend to also have higher price volatility, precisely because the stock prices is being driven more by emotions and less by hard "value" data, as with Ford or 3M.

Maybe we can invent a "Bitt Index", where a low-numbered value says an investment is concrete and sensible, and a high-numbered value says an investment is pure Kool-Aid. If you buy a government or blue-chip corporate bond and hold it until it matures, they're promising to pay you back your money with a fixed interest rate. Your profit is entirely predictable. That should have a nice, low Bitt number, but it's also generally going to have a lower return (these days, under 5% yield). You can also trade those bonds, prior to their maturity. They still have a guaranteed payout to the bond holder when it matures, but the price of the bonds will fluctuate. So, bond trading, of the very same bonds, would seem to have a higher Bitt number. Of course, bigger bond profits happen when you get "junk" or "emerging market" bonds, where there are legitimate concerns about whether the bond issuer will actually pay out when the bonds mature. In order to overcome this, the bond issuers have to promise higher returns. More risk, higher Bitt number, more potential reward.

Stocks, like bonds, will have variable placement on the Bitt Index. If you own 10% of your cousin's auto parts store and he pays you a hefty dividend every year on his profits, then you would probably give that a reasonable low Bitt number. As the percentage of the firm you own goes down and/or the dividend rate goes down, the Bitt number increases. But, what if you cousin wanted to reinvest his profits to expand his store, rather than paying you a dividend? He might be able to pay you more dividends later on. Higher Bitt number, more risk, more potential reward.
Posted by: wfaulk

Re: Stock Market - 21/03/2006 16:20

Quote:
It seems to me that your arguments to date would say yes, that this 49% has no intrinsic worth - no dividends, no meaningful voting rights.

Correct. I contend that that is worthless.

I can see where it's vaguely possible that the company got bought out and paid cash for the stock and you would end up getting 49% of the cash, but I think that hoping that your business gets bought out for cash is a lousy business model, personally.
Posted by: wfaulk

Re: Stock Market - 21/03/2006 16:40

Quote:
As the percentage of the firm you own goes down and/or the dividend rate goes down, the Bitt number increases.

And my point is that when the dividend rate reaches zero, the Bitt number becomes infinite. What you've defined is essentially a risk ratio. And I fail to see the benefit where the dividend rate reaches zero. From my point of view, you're paying money that you will never see any return on. I can see, empirically, that there is such a significant number of other people who want these things, but I fail to see what their desire is based on. And part of me would feel guilty for pawning this crap off on someone else. To me, it's like selling something broken on eBay.

I guess it all comes down to control. There is a certain group of people who think that control of a company is worth paying for, and the stock market is based on that. Since that desire for control is aberrant to me, it seems like a huge waste of time.

And, to be clear, I completely understand the risk abatement idea in the original notion of stock, like what Julf describes with the Dutch East India Company. No single person can afford to lose $1,000,000, but a thousand people can afford to lose $1,000. So you get a thousand people to sign up and they hope that the expedition brings back more than $1,000,000, each of whom get their 0.1% of the profits. Effectively, that's dividends, and, again, from my point of view, dividends are largely not paid these days.
Posted by: wfaulk

Re: Stock Market - 21/03/2006 16:44

Quote:
But the whole thing hinges on the notion that someone, somewhere cares about control of companies and is willing to pay for it. It doesn't have to be you or I, but there are plenty of people out there doing exactly that- looking for companies to buy at a good price.

Hmm. That one almost makes sense to me. Essentially, I know I have something that you want, and even though it holds no interest to me, I'm going to hang onto it because I know you want it.

That just cements my dislike of the stock market. That's just scummy, IMO. The fact that it's anonymous is irrelevant to me. Essentially, "I don't want the whole world. I just want your half."

I guess that's why I'm not a capitalist.
Posted by: CrackersMcCheese

Re: Stock Market - 21/03/2006 16:50

Hmmm like buying useless web domains in the hope one person will buy them for an inflated price.
Posted by: wfaulk

Re: Stock Market - 21/03/2006 17:06

Yeah, that was exactly the scumbaggy example I was thinking of.
Posted by: JBjorgen

Re: Stock Market - 21/03/2006 17:08

Quote:
Hmmm like buying useless web domains in the hope one person will buy them for an inflated price.

Ugh, that totally chaps my ass! Then they want like 2000 bucks for it. Yeah, right.
Posted by: JeffS

Re: Stock Market - 21/03/2006 17:51

Quote:
Essentially, I know I have something that you want, and even though it holds no interest to me, I'm going to hang onto it because I know you want it.
Good summation I think, like it or not. How to you feel about purchasing land as an investment (land that you do not intend to use personally, but feel may appreciate in value)?
Posted by: wfaulk

Re: Stock Market - 21/03/2006 18:09

Good question. Unlike stocks or domain names, someone has to own land. There's not really an unowned state (any more). So I'm going to say that it's less offensive.

Note that I think that a valid use of land (and other things, for that matter) is to prevent someone else from doing something with it you don't want done. Like I might not have any use for a piece of land, but I don't want a potential buyer to stripmine it.

When did this turn into "Bitt Explains It All"?
Posted by: genixia

Re: Stock Market - 22/03/2006 05:01

I'm having trouble understanding your lack of understanding when so many examples of value have been given!

Owning part of a company has intrinsic value. You own part of its infrastructure and assets, its patents and copyrights, its trademarks and brands. All of those have some value. You also own part of its future profits and losses.

The expectation is that the company will be profitable. When that happens it will pay out dividends. Except, sometimes it is better for a company to invest in itself instead. This is frequently the case with emerging business sectors where companies compete to garner market-share - the expectation is that the larger the market share that a company has, the more product it can sell, and since it aims to make profit from each unit of product, the more profits it will generate. If they can gain a large enough market share they may be able to gain an effective monopoly, allowing them to dictate prices and profit margins (eg Microsoft) So the company grows, increasing its intrinsic value, making your share of the company worth more and more. Stable business sectors usually contain companies that pay dividends.

You can _always_ sell your share back to the company for its intrinsic value.

Yes, I did just write that.

Note that I didn't say that you could go and knock on the CEO's door and ask to 'redeem' it. But if you were, he would almost certainly buy it from you. He'd have to be drinking Kool-Aid to not do so.

Why?

Because the intrinsic value of a share is nearly always significantly less than the market value. The company could buy that share from you and resell it for an easy profit. But why would you sell it to back to the company when you could get a better price on the open market yourself? (Unless _you_ were drinking the Kool-Aid)

The intrinsic value of a share is based on the tangible assets of a company. The moment that the market price drops below the intrinsic value, the company is going to buy back shares. The major stockholders are going to demand it - each share removed from the market increases their percentage of control and profit. Eventually, if the market price stayed forever below the intrinsic value (which raises for each share removed from the market), you'd end up with a handful of stockholders holding all the remaining stock, at which point they'd probably liquidate the company to extract its intrinsic value straight into their bank accounts.

But of course - how could this happen? It obviously cannot. Stockholders get smart and realise that they could be amongst those getting the big payouts, and refuse to sell for that price. Other non-owners realise that they could buy stock and be amongst them too. Supply, demand. The market price quickly rises to an equilibrium.

The market price is based upon the intrinsic value and other intangible factors, such as expected profits, market share, market outlook, etc. As such, the market price defines the perceived value of the company, which fluctuates as perceptions shift. Obviously, the company itself can affect these perceptions. That is why the SEC exists, to bring regulate how a company must report its accounts and financial outlook, and also prevent employees with privleged information from profiting on the stock market due to that knowledge.

Stock Exhanges are a convenience. Since the company does not participate in most transactions, forcing buyers and sellers to move their transactions through the company would be inconvenient. You'd need to contact each company that you'd want to trade in. Originally this was the case. It soon became apparent that there was money to be made in being a broker or dealer of several stocks, and soon after that groups of brokers and dealers collected together to form clubs dedicated to extracting money from brokering and dealing in stocks. Thus begun the stock exchanges that became a far more efficient vehicle for buying and selling stocks than dealing with the company directly. This is the reason that you don't redeem stocks to the company. It's too inefficient. Companies basically outsource this process to the stock exchanges and participate to buy and sell stock in the open market when appropriate (eg IPOs and buy-backs)
Posted by: Tim

Re: Stock Market - 22/03/2006 11:46

Quote:
Effectively, that's dividends, and, again, from my point of view, dividends are largely not paid these days.

I still think you are overestimating the number of companies that don't pay dividends.

-- Tim
Posted by: wfaulk

Re: Stock Market - 22/03/2006 14:33

Quote:
I still think you are overestimating the number of companies that don't pay dividends.

I think that's the crux of my issue, and the point where everyone's arguments fall over in my eyes.

I'd love to see some solid information on this. I've looked and I can't find any.
Posted by: Tim

Re: Stock Market - 22/03/2006 15:50

Quote:
I'd love to see some solid information on this. I've looked and I can't find any.

I tried to find a list of the companies that do provide quarterly dividends, but couldn't come up with one. I will check further to see if such a list exists.

-- Tim
Posted by: pgrzelak

Re: Stock Market - 22/03/2006 16:08

Would something like this help?
Posted by: JBjorgen

Re: Stock Market - 22/03/2006 16:21

Quote:
Would something like this help?

The force is strong with this one.
Posted by: pgrzelak

Re: Stock Market - 22/03/2006 16:35

Not really. Google - "annual dividend" stock list.
Posted by: Tim

Re: Stock Market - 22/03/2006 16:54

Close, but I wasn't looking for any qualifiers

That list has about 800 stocks shown that meet his criteria, but he also said that more than 1,900 fit the criteria before he took speculation into account.

There are a ton more that are outside his search criteria.

-- Tim
Posted by: wfaulk

Re: Stock Market - 22/03/2006 16:56

Not perfect, but not bad, either.

Quote:
To qualify for the Big List, a stock must have a minimum 1.75% estimated dividend yield. When I last checked, more than 1,900 stocks met that requirement, too many to list here.


AmEx lists 808 stocks, NYSE 1366, and NASDAQ 3300. That's probably the vast majority of stocks traded in the US, right? So that's 5474. And about 1900 pay dividends that are worth much of anything. So about 35%. More than I thought.
Posted by: pgrzelak

Re: Stock Market - 22/03/2006 17:02

Quote:
More than I thought.


But a lot less than what I thought. That is a painfully small percentage.
Posted by: wfaulk

Re: Stock Market - 22/03/2006 17:26

Reuters has a stock search tool. They list 8914 US companies, 2653 of which have an Indicated Annual Dividend [1] greater than zero, and 2645 have a Dividend Yield [2] greater than zero. So about 30%.

[1] Indicated Annual Dividend: The total of the expected dividend payments over the next twelve months. It is generally the most recent cash dividend paid or declared multiplied by the dividend payment frequency, plus any recurring extra dividends.

[2]Dividend Yield: This value is the current percentage dividend yield based on the present cash dividend rate.
Posted by: tanstaafl.

Re: Stock Market - 22/03/2006 18:09

Why are we making this so complicated?

If I buy stock for $100 with the expectation of selling it later for $200, then that stock has value.

If I buy gold at $500 an ounce with the expectation of selling it later for $600 an ounce, then that gold has value.

If I own property, that property has value.

If I own the patent rights on a useful widget manufacturing process, those rights have value.

In all cases there is risk involved. The stock may sell for only $50, the price of gold may drop, the EPA may find ground contamination in my basement, the Japanese may figure a way of manufacturing widgets faster and cheaper. Risk applies to any asset, tangible or intangible, whether it be a paper certificate, a hunk of rare metal, real estate, or intellectual property.

However, any item that can be expected to return more than its cost of acquisition has value, and this certainly is the expectation when it comes to stocks.

tanstaafl.
Posted by: wfaulk

Re: Stock Market - 22/03/2006 18:32

You also miss my point. Why does it have that value?
Posted by: Ezekiel

Re: Stock Market - 22/03/2006 19:28

Because someone else says so. And they have money.

So, I guess my point is that desire is ultimately what gives value. If you desire something, you value it, therefore it is valuable. There is no intrinsic 'worth' of any item in this universe, save what WE determine. I desire not to be cold and wet, therefore, a roof, walls and a furnace have value.

-Zeke
Posted by: tanstaafl.

Re: Stock Market - 22/03/2006 22:51

You also miss my point. Why does it have that value?

Because it can be exchanged for other things more to your liking that also have value.

If someone gave you 200 shares of IBM stock, would you throw it away because it was valueless?

No, you would give it to someone in exchange for $16,890 (at the current selling price) which in turn could be used to fix the bumper on your Volvo and that would seem to be a pretty good indication that it does indeed have value.

tanstaafl.
Posted by: wfaulk

Re: Stock Market - 23/03/2006 00:13

Yes, but why does the other person want it? Your answer is so that he can sell it to someone else. And he wants it so he can sell it to someone else again. At some point, that chain has to stop, or that notion of worth is a complete pipe dream.
Posted by: tanstaafl.

Re: Stock Market - 23/03/2006 00:37

At some point, that chain has to stop, or that notion of worth is a complete pipe dream.

It does indeed, as it did in for example 1929, as it is going to do again sometime before 2010.

Before that happens, you will want to be invested in something that will have value under the changed circumstances. That does not alter the fact that at present, under the current circumstances, the stock does have value.

The value of any item is ephemeral, depending on the circumstances. If you were starving, you would happily trade gold for turnips on a pound for pound basis. People in California who think their condominiums are truly worth $650,000 are going to be in for a rude awakening when the bottom drops out of the real estate bubble sometime in the next couple of years, but until then, those condos really are worth that kind of money because, just like any asset, tangible or intangible, the value of that asset is no more and no less than what a willing buyer will pay for it.

People spend money to buy stocks to use as a tool to make more money. As long as you get off that train before it crashes (which I certainly plan to do) the stocks have value. Not value derived from being part owner of a company, but value derived from their potential to return to you more than it cost you to buy them.

Oh, yes... "...to make more money." There is another rude awakening on the horizion for the folks who think that money per se is a valuable asset. But that's a topic for another time.

tanstaafl.
Posted by: matthew_k

Re: Stock Market - 23/03/2006 00:40

It stops when the company stops being profitable, or is worth more to a single investor than it is to the stockholders. If it stops being profitable, or even simply not profitable enough to justify the value of its assets, the assets will be sold off and the investors paid off (See: Knight Ridder). If it becomes more valuble to a different owner, they will make an offer, and the board will be forced to make the decision that maximizes the value for the shareholders (see peoplesoft, at&t).

Matthew
Posted by: DWallach

Re: Stock Market - 23/03/2006 01:18

Just ask William Jennings Bryan and his Cross of Gold.

Insisting that stocks must have dividends to have intrinsic value is vaguely analogous to insisting that a dollar must be exchangeable for a prescribed amount of gold. Now, if we can convince Bitt that there's value in a non-dividend stock, then the next trick will be convincing him that "derivative" products (puts, calls, etc.) can also have value...
Posted by: wfaulk

Re: Stock Market - 23/03/2006 01:30

Quote:
As long as you get off that train before it crashes (which I certainly plan to do) the stocks have value.

Yeah, but if you can't see that crash from the get-go, you're an imbecile, and if you hand it off to someone to get killed in the crash, you're an asshole.

In my opinion.
Posted by: wfaulk

Re: Stock Market - 23/03/2006 02:35

Quote:
Insisting that stocks must have dividends to have intrinsic value is vaguely analogous to insisting that a dollar must be exchangeable for a prescribed amount of gold.

I don't think that that analogy is entirely correct.

My argument is that any monetary item, whether it be currency, bearer bonds, stocks, gold, diamonds, or whatever else, must be tradable for some real value. As I argue this more and more, I realize why real estate is called real estate. The only other things of real value I can think of are labor and food. (And when you get down to brass tacks, food is really just the combination of land and labor. But sometimes you need it now.) I'm more than happy to add art into that category, too, although I suppose that could be considered as a form of labor.

I don't believe that currency necessarily needs to have a fixed value. There are a huge variety of variables involved. But it does need to be tradable for one of those few ultimately valuable things. The basic notion is that, in a capitalistic world, if you do something for me, I do something for you. If you plow my fields, I'll let you keep some of the food. But as society becomes more complex, the tit-for-tat might not be coincident, so you need an IOU, which is essentially what currency is, once you allow the notion that I can sell the potential service or good that you were going to give me to someone else in order to get him to do something for me. It's just an easier way to keep track of "Andy plows Bob's fields; Bob builds Chuck's house; and Chuck makes Andy's shoes." And then, at some point, it progresses to the point where Dave has an IOU for barrel making and Earl has an IOU for lumberjacking and they both need what the other has, so they trade, without either one having done any work or provided any goods.

(I've regressed to the fiduciary precambrian here.)

So, to skip ahead 5000 years, when I give a company my IOU, it's with the expectation that they give me either labor, goods, or another IOU in return. In the stock market, what they give you is the notion of partial ownership. And if the company doesn't pay dividends (the equivalent of making you a new pair of shoes, or at least an IOU for new shoes, every year), then you don't get anything else back besides the partial ownership. You cannot do anything with that partial ownership besides point to it. The company will never do any work for you, they will never give you any goods, and they will never give you an IOU.

But, you argue, you can sell that partial ownership (which will never produce anything for you) to someone else, and he'll give you a good, service, or IOU for it. Which I am not denying. Certainly people will do this. And they will do it because someone else will do it for them. But they're just passing around this partial ownership that will never produce any good or labor or IOU on its own. Which makes me wonder why anyone wants to buy it.

And as you all point out, because someone else will buy it. But it all seems like the Emperor's New Clothes to me. Everyone just arbitrarily agrees that it's worth something. (And they make an interesting game out of what that worth is attached to.) But it has become completely disconnected from what made things worth something those 5000 years ago.

On IRC, Tony was making a comparison between stocks and certificates of deposit, nearly equating them. His argument (and I apologize if I've misinterpreted) is that in both cases, you give money to someone else, time elapses, then you get more money in return. (Well, in the case of the stock, you hope you get more money.) But the problem with that argument is that, while that's true for the individual investor, it's not true once you look at the system as a whole. The CD's system is incredibly simple. Investor pays company some amount of money, time passes, company pays back money, plus interest, to investor. And the system is finished. The CD no longer exists. In the case of the stock, investor 1 pays money to company, time passes, investor 2 pays money to investor 1, time passes, investor 3 pays money to investor 2 ... investor n pays money to investor n-1. It's an infinite loop. If any of you computer scientists out there turned this algorithm into your employer as the basis for a multi-billion dollar organization, you'd get fired.

In my mind, what this all means is that someone's going to be left holding the bag -- I mean hot potato -- I mean stock certificate -- when whatever the Ctrl-C equivalent is happens. I guess part of the risk, in addition to the question of if the company's assets will appreciate, is the question of when the crash will happen. And I guess I see all of those options as dickish.

Of course, that's way off my initial point, which is, if it is all based on an infinite loop with the only possible outcome being collapse, where does the value come from? Actually, even that's not my initial point. It's really more along the lines of, if the company never gives any proceeds to the stockholder, why is the stock value associated with the value of the company?

I know I've gone off on a dozen tangents, and I know you're all frustrated with my apparent denseness, but I can assure you that I'm not being dense (well, other than ignoring dividends, and I see how I'm being dense there). I'm equally as frustrated with all the arguments that are looking at what I see as a tiny subset of the whole system and the apparent refusal to look at the whole thing. At this point, I don't know if I'm trying to convince you that it's a huge case of the Emperor's New Clothes, or if I'm really hoping that someone can show me why anyone would find worth in something that will never produce anything of value.

If someone would just come out and say that it's the ultimate hope of every stockholder that every stock they invest in will one day pay large dividends, then that would make sense to me, even if each stockholder is only trading it based on that potential gain. Otherwise, it's just trading baseball cards, but without all the cool pictures of the players or the bubblegum.
Posted by: loren

Re: Stock Market - 23/03/2006 03:18

Bitt, maybe you should get some shares in the M+M syndicate
Posted by: wfaulk

Re: Stock Market - 23/03/2006 03:25

Hee! I was giggling about this just a few hours ago:

Quote:
I want to serve this to the men. Taste it and let me know what you think.

What is it?

Chocolate covered cotton.

What are you, crazy?

No good, huh?

For Christ's sake, you didn't even take the seeds out.

Is it really that bad?

It's cotton!
Posted by: genixia

Re: Stock Market - 23/03/2006 06:02

I find your lack of faith..... disturbing.

Sorry, I don't know why that quote just popped into my head.

In all seriousness though...you're right with most of the tangental points that you just made. But looking for answers beyond that is kinda like looking for the meaning of life beyond 42 or Monty Python.

I will take exception to
Quote:
The basic notion is that, in a capitalistic world, if you do something for me, I do something for you. If you plow my fields, I'll let you keep some of the food....

What you describe there isn't necessarily capitalistic. It just as easily be socialist, "From each according to ability, to each according to need." Andy can plow fields and needs shoes. Bob can build houses and needs his fields plowed, and Chuck needs a house and can make shoes.

What you descibed there was simply the barter system, nothing more, nothing less.

The underpinning of capitalism is a free market, ie the ability of the market to determine the value of an item through supply and demand. And for that to occur you need some uniform unit of measure to describe that value, because it gets mightily inconvenient to keep tabs of how many pairs of shoes your house is worth. Hence the abstraction of value starting around 1100BC with the introduction of currency.

The stock market is that abstraction taken to the Nth degree. You question the value of holding a piece of paper issued by a company, but as pointed out previously, that is little different to holding a piece of paper issued by the Government. Just look at 1930s Germany. People were collecting their wages in wheelbarrows. Before long they were dumping their wages to barter the wheelbarrow. Does that make currency inherently valueless to you too?

Quote:
Of course, that's way off my initial point, which is, if it is all based on an infinite loop with the only possible outcome being collapse, where does the value come from?

Because its not all an infinite loop with collapse being the only outcome. Stable companies in stable business sectors pay dividends. Look at utility companies. Look at food companies. Eventually companies considered new and innovative today are going to stabilise and hit market saturation. When that happens they'll stop investing in themselves and start on the dividend treadmill. (Consider Ford and GE. Both were new and innovative in the early 20th Century. Today they pay dividends.)

As an aside, if you think about it another way, what would it say about the economy and technological progress if 100% of companies paid dividends? How big could companies get if they didn't invest in themselves? How much innovation and progress could a world of small companies achieve?

Quote:
Actually, even that's not my initial point. It's really more along the lines of, if the company never gives any proceeds to the stockholder, why is the stock value associated with the value of the company?

The stock value multiplied by the number of shares outstanding _is_ the value of the company as set by the free market. By definition. This is capitalism at its finest. We've somehow managed to measure the value of all the assets and infrastructure, patents and copyrights, expected revenue growth, expected profit, expected dividends, expected stock price gains, and every other tangible and intangible that comprises a corporation and abstracted it into one number which we can argue about.

If I think that the number is too high, then I can sell stock that I have, short stock that I don't have, or attempt to buy at a price lower than what I think it is worth, (I'll ignore derivatives here). If I think that the number is too low, then I can hold the stock that I have, or buy more, or try to sell at a price that is higher than what I think it is worth. In any case, my actions (or lack of) when added to everyone elses actions (or lack of), create the supply and demand that sets the number, and hence defines the value of the company.

Dividends are certainly an important part of the equation, but only part. Taxes come into it too. If I have a stock paying a dividend, I have to pay income taxes on that dividend. Each and every time. If I have a stock that is reinvesting and growing then I only pay long term capital gains when I eventually sell that stock. I'm in a fairly high income tax bracket now because both my wife and I work in tech which pays well. Deferring dividends in favor of long term capital gain would be advantageous at this time. In X years time one or both of us may be retired, or we may pursue a career change that results in us falling into a lower tax bracket. At that time, dividend-yielding stocks will be more valuable to us than they are now. At that time it would make sense to sell those growth stocks and invest in income stocks. Income stocks are also advantageous at that point because they are associated with stable companies in stable business sectors. The last thing you'd want to happen is to be dependant on volatile growth stocks for your income during a downward market correction.

Of course, the goverment may change income and capital gains tax rules and rates now or at any point in the future, so that's a gamble too.
Posted by: Anonymous

Re: Stock Market - 23/03/2006 11:43

Quote:
As I argue this more and more, I realize why real estate is called real estate. The only other things of real value I can think of are labor and food. (And when you get down to brass tacks, food is really just the combination of land and labor. But sometimes you need it now.) I'm more than happy to add art into that category, too, although I suppose that could be considered as a form of labor.


LOL, art? So random paint strokes on a piece of paper (which is considered art nowadays) has real, tangible value, but not things like hammers, rifles, shovels, computers, cars, technology, and certificates of partial ownership of companies that provide these things a.k.a. stocks?

Sorry, but I would argue exactly the opposite. The Mona Lisa may be worth millions but it'll never live up to the tangible value of a $5 hammer.
Posted by: wfaulk

Re: Stock Market - 23/03/2006 14:01

Quote:
I find your lack of faith..... disturbing.

Hah!

Quote:
The underpinning of capitalism is a free market, ie the ability of the market to determine the value of an item through supply and demand.

I'll readily admit I glossed over points in my paragraph-long explanation of the origins of currency, and, while I agree with what you say in regards to capitalism vs. socialism, I think you're avoiding my point. Just add in the phrase "an equivalent amount of" at appropriate points in my post. I think that socialism is well outside the scope of this argument. We're talking nearly pure capitalism in regards to the stock market, and the influence that government has on it looks to be insignificant in regards to my basic question.

Quote:
You question the value of holding a piece of paper issued by a company, but as pointed out previously, that is little different to holding a piece of paper issued by the Government.

That's very true, but the collapse of the government is a much bigger deal than the collapse of a company. I was reflecting on my own post and some of the issues involved in the Gold vs. Silver battle as suggested by Dan last night and was thinking about that exact fact, actually. As far as I can see, stocks are basically currency printed by companies instead of the government. And I guess, on some level, I question the right of those companies to issue currency. On a lower level, I question the right of the government to print currency. (Maybe I'm less of a socialist than I thought and more of an anarcho-syndicalist.)

Quote:
When that happens they'll stop investing in themselves and start on the dividend treadmill.

I'm going to take this as my "dividends are the final return" answer. I guess my issue with that is that it seems like investing in stocks for their dividends is very much a small part of stock investing. Maybe I'm wrong. On the other hand, Microsoft would seem to be a well established company in a well established sector with billions in the bank, and they do pay dividends. At a rate of 1.33%. If my calculations are correct, that means it would take 53 years to pay off. Of course, I'm intentionally ignoring the case where someone bought it in 1986 for $21. So it seems that the answer really, ultimately, is that investors bet that dividends will pay off more than they invested in the company.

Quote:
As an aside, if you think about it another way, what would it say about the economy and technological progress if 100% of companies paid dividends? How big could companies get if they didn't invest in themselves?

If I give you $100 and you pay me back $3 every year, you still have a large portion of that money for a long time.

Quote:
The stock value multiplied by the number of shares outstanding _is_ the value of the company as set by the free market.

No, that is the potential value. My company was once trading at something like $20 a share. When it got bought out, it was at like $0.15 a share. According to your definition, both of those are the value of the company. Unless we're going to get into quantum finances, both of those can't be true.

At the same time, if you look at the stock market as betting on how much a company will eventually pay in dividends, other than semantic quibbling (which, don't get me wrong, I'm more than happy to do), this is the obvious explanation for how it all works.

The problem with that is that no one (here, at least) will commit to dividends being the ultimate reward.
Posted by: wfaulk

Re: Stock Market - 23/03/2006 14:07

Quote:
So random paint strokes on a piece of paper (which is considered art nowadays) has real, tangible value, but not things like hammers, rifles, shovels, computers, cars, technology, and certificates of partial ownership of companies that provide these things

I don't know why I'm bothering to respond, but yes.

People desire art. And art is well more than "random paint strokes on a piece of paper", as you well know. Have you ever paid money to see a concert or a movie? If so, you've disproved your own point. Even if you haven't, you cannot deny that a huge number of people do, in addition to buying books and fine art, and watching TV, and whatever else it is that people do that has no tangible gain. As someone once said, art is everything you do that doesn't help you live.

And the idea that you will ever see the assets of the company you own stock in exactly the thing that I'm arguing doesn't happen. In addition, if you're arguing that the real value of a company is tied up in the physical things it owns, I've got a bridge I'd like to sell you. You know that computer that you paid $1000 for three years ago? How much is it worth now?
Posted by: DWallach

Re: Stock Market - 23/03/2006 15:17

Something to consider: if you'd bought Microsoft stock at its IPO in 1986, at $21/share, you would have experienced stock splits amounting to 288:1 from then to the present day. If I'm doing the math right, then each of your original shares, purchased at $21, would now be paying you $103.68/year in dividends. (And, the market value of each of those original shares, today, if there weren't any stock splits, would be $7712.) Sure, you had to wait nearly two decades for the payout, but getting 5x your original investment as a dividend, every year, sounds like a hefty reward. If you ignore the dot-com market bubble, the long-term chart of Microsoft's stock shows a remarkably steady growth in its price, which is fairly easy to justify, given the present dividends.
Posted by: wfaulk

Re: Stock Market - 23/03/2006 16:38

And that's a good point, except the part about the market value of the original shares. The market value should be what they're worth right now, right? Waiting 20 years to get 500% rewards seems reasonable. Very reasonable. But buying now and not breaking even for 50 years wouldn't seem to support the current market value.
Posted by: DWallach

Re: Stock Market - 23/03/2006 17:09

Okay, here's the part where you have to be comfortable with abstraction. If you can buy an "investment" now (let's not worry about what it actually is, yet) that will give you a series of payouts in the future, then it's straightforward to compute the "present value" of that future payoff (mathematically, it's just like mortgage payments -- you adjust the future payments backward based on an assumed inflation rate). As you get closer to the beginning of that series of payments, the value of the underlying investment necessarily increases, because the payments are coming sooner in the future (or, there's less of a discount due to inflation).

Stocks are a little more complex than this because of volatility / uncertainty. There's some chance that there won't ever be a payout, so you're (rationally) only willing to buy the stock if the payout is proportionally higher, and thus worth the risk. (That's what Black-Scholes is all about.)

Still, if you're willing to believe that it's rational to buy stock now because of a payout two decades hence, then you necessarily must believe that the underlying value of the stock increases over time, based on the increasing present value of those future dividends, as estimated by the players in the market. The only way that this breaks down is if you don't believe that the market is rational. Irrationality, of course, causes all kinds of chaos in the markets, but it also creates opportunities for rational investors who wait for irrational behavior to depress stock prices below their rational value.

And, back to Microsoft, the reason that Microsoft's yield is lower than, say, Ford, is because (rational) investors are betting that Microsoft will continue to grow, and thus their dividends will continue to grow. If Microsoft gets back on its previous exponential growth curve, then the current stock price (and dividend yield) look like a bargain.
Posted by: wfaulk

Re: Stock Market - 23/03/2006 18:04

Quote:
If you can buy an "investment" now (let's not worry about what it actually is, yet) that will give you a series of payouts in the future

I'm still waiting for someone to commit and say "the endgame for stock purchasing is dividends"....

If that's the case, I get it. However, I'd be very interested in looking at all the non-dividend-paying stocks on the market, say, 20 years ago and seeing how many of those have started paying dividends since then and how much those dividends paid out as a percentage of the stock's market price at the time of purchase. I seriously doubt I can get my hands on that sort of data, though.
Posted by: matthew_k

Re: Stock Market - 23/03/2006 18:20

You're grasping at the dividends vs reinvestment argument as the reason stocks are worthless. Dividends are one way to get money fron buying a stock. The company can also be bought out or be liquidated. Saying the stock is worthless in between those times is just being short sighted.

Matthew
Posted by: wfaulk

Re: Stock Market - 23/03/2006 18:38

Generally, buyouts are paid for with stock from the purchasing company. Not always, but most of the time, it seems. Assuming one does hold stock in a company, and that company gets bought for cash, do I get my percentage of that cash?

Liquidations are just selling off assets when the company would otherwise have closed doors, right? I'd be surprised to find that those assets were worth more than the stock was purchased for. If they were, they probably wouldn't be closing doors. Of course, there's the possibility that I bought the stock when it was a small company, it got big, and then foundered under its own weight. I might get more out of it than I paid for it in that case. (Of course, that assumes that the assets were sold for cash and not just more stock.) At the same time, that seems to run contrary to the notion that a company's stock is worth more when it's doing well.

At the same time, at least we're now getting down to answering my initial question. And these are all getting to be reasonable answers: dividends, cash buyouts, and cash liquidations.

Quote:
Saying the stock is worthless in between those times is just being short sighted.

I'm not saying that. Between those times, the stock has potential worth. My whole question all along has been "what is the basis of that potential worth".
Posted by: matthew_k

Re: Stock Market - 23/03/2006 18:46

Knight Ridder was my previous example of a liquidation, and it was still profitable, just not profitable enough. An investor bought a controlling stake, and sold the entire thing off and presumably will distribute the cash to the stockholders.

Corporate raiders (See: Carl Icahn) buy companies and sell off the individual parts for a sum total of more than the stock is worth. Generally this would involve splitting up a conglomerate and selling the various pieces to companies that would get greater value out of owning that piece than the conglomerate did.

Matthew
Posted by: genixia

Re: Stock Market - 24/03/2006 01:03

Quote:

Quote:
The stock value multiplied by the number of shares outstanding _is_ the value of the company as set by the free market.

No, that is the potential value. My company was once trading at something like $20 a share. When it got bought out, it was at like $0.15 a share. According to your definition, both of those are the value of the company. Unless we're going to get into quantum finances, both of those can't be true.


No, that is absolutely true - the company is worth exactly what someone is prepared to pay for it at any time. (Just like anything else). Now a stock can't be worth $20 and $0.15 at exactly the same time, not in the same universe anyway. But a stock can change in value very quickly.

Quote:

At the same time, if you look at the stock market as betting on how much a company will eventually pay in dividends, other than semantic quibbling (which, don't get me wrong, I'm more than happy to do), this is the obvious explanation for how it all works.

The problem with that is that no one (here, at least) will commit to dividends being the ultimate reward.


Ok, I'll commit to that. Without the promise of dividends, the stock would have little value. The only value left would be to gain control of the company.

And this explains the $20 to $0.15 value changes. The moment a company looks as if it won't ever be able to make a profit and pay a dividend, all you are left with is the underlying value of tangible assets which generally isn't worth much when you divide it by millions of shares.
Posted by: wfaulk

Re: Stock Market - 24/03/2006 01:48

What I'm saying is that unless you want to say that there are multiple futures for a company, only one value for the total worth of a company can be true. It might have a different market value (after all, people are willing to buy used items on eBay for more than they can buy the same thing new retail), but there is only one true value. But at the time of purchase you don't know what that's going to be, so you buy it for what you think that value will be. (Or, hopefully, you get a deal and buy it for less.)

To put it at a more concrete example, if you could magically, instantaneously, purchase all of the stock of a company at the market price, you'd own that company. But it would be stupid to do so unless the real value of that company was more; if it wasn't, all you'd be doing is moving your money from your bank account into the company and back into your bank account at some other time, all without any profit. But you can't really do that instantaneously, and that works out well for the marketplace, because that frantic buyup tips off other people that they should buy that stock, too, which drives up the price, and then you stop buying when it gets to the point where you won't make money anymore.

What I'm getting at is that the market value and the ultimate correct value of a company are two different things. The stock market works to make the market value be the consensus of what people think the ultimate value of the company will be, but what they think is not (necessarily) the same as what will ultimately come to fruition.

Quote:
Ok, I'll commit to that.

Woohoo! Where'd that Kool-Aid get to?
Posted by: julf

Re: Stock Market - 24/03/2006 08:31

Quote:
What I'm getting at is that the market value and the ultimate correct value of a company are two different things. The stock market works to make the market value be the consensus of what people think the ultimate value of the company will be, but what they think is not (necessarily) the same as what will ultimately come to fruition.


I think we all agree with that statement. That doesn't imply that speculating with the shares of the company isn't potentially profitable. We can then have long discussions about how ethical that is, and if it is a good or a bad thing for society in general, etc., but that is another question.
Posted by: Anonymous

Re: Stock Market - 24/03/2006 11:03

Quote:
... only one value for the total worth of a company can be true. It might have a different market value (after all, people are willing to buy used items on eBay for more than they can buy the same thing new retail), but there is only one true value.


The value of something is subjective, and it depends on time and place.

The people buying items on ebay for more than they are supposedly worth may not have that item available for sale in their area. Ebay helps take the 'place' out of the equation.

A Nolan Ryan rookie card may have been worth 15 cents during his first season in the MLB. It's worth a lot more now. In a thousands years, baseball might be a forgotten sport and it might be worth nothing. Which is the 'true' value? The true value is what someone is willing to pay for it right now.
Posted by: genixia

Re: Stock Market - 24/03/2006 13:54

If I were to accept that assertion, how would you measure the total value of a company? Who decides how valuable those 3 year old computers are, how valuable the patents are? How valuable the owned real estate is? The company may assert its understanding of those values, and will do so frequently in financial accounts, but as we have seen, accounts are often restated. Those computers are likely being depreciated by the company, with the depreciation being written off against income. So the company has some idea of what its value of the computers is, but if it were to turn around and sell them, then it might find out that their depreciation model doesn't fit the market for 3 year old computers. What about intangibles such as market share, brand value and employee productivity? Can you measure their value independantly? Again, the company might try to assign a value to those, and again, could very well be wrong. Any value assigned to any component part of the company is open to debate.

My point is that there is no truer value for the company than the one decided by the market, and that value is usually many times the sum of the individual market values of the underlying tangibles. (That's what prevents corporate raiding.) Even when the market appears to be fickle and volatile, that is true.

Here's an analogy.

Supposing you bought an... ipod. A nice 60GB color screen model for $300. Now the individual components may cost Apple $150, but the market value is $300. Do you consider the true value to be $150 or $300?

Now, supposing that the next day, another company enters the market with a 200GB mp3 player that is better in every respect. The kicker is that this other company somehow manages to sell them for $200. Is your ipod still worth $300? I think that you'll agree that it isn't, even though the value of the individual components hasn't changed overnight. If you could get $200 for your 1 day old ipod, then you might be tempted to sell it immediately in order to buy the new player.
Posted by: wfaulk

Re: Stock Market - 24/03/2006 14:41

But you're talking about two different things. In the case of an iPod, you're basing its value (at least partially) on its utility, much of which is very subjective. In the case of the stock, since it has no inherent utility, you have nothing to base the real value on besides the amount of money it pays out to its investors over time, including dividends and whatever happens with the final disposition of the company. You cannot know that value until the stock no longer exists, so people speculate what that ultimate value will be and try to buy for less than that.

To be clear, I totally agree with you that the current market price of the company is determined by the stock price. But what that piece of stock is ultimately worth is a different amount.

There is a difference between cost and value. The stock market tries to make the cost equal the value, but it's not exact. Let's take the example of a company that was at one time trading for $20 a share, but gets bought out for cash at $1 a share. Those people who bought at $20 paid fair market value at the time. But they ultimately only recieved $1 back. The cost was $20, but they bought something that had an ultimate value of $1. (It's possible that that might be advantageous to them after the fact for some reason -- taxes, probably -- but on its own, it shows that cost and value are not the same thing.)
Posted by: Anonymous

Re: Stock Market - 24/03/2006 15:27

Quote:
Those people who bought at $20 paid fair market value at the time. But they ultimately only recieved $1 back. The cost was $20, but they bought something that had an ultimate value of $1. (... it shows that cost and value are not the same thing.)


Again, value depends on place and time. And value is always subjective, determined by you and the highest bidder.
Posted by: matthew_k

Re: Stock Market - 24/03/2006 15:51

So the value changes over time. Nothing to be surpised at. If everyone knew how a company was going to do, the stock market wouldn't be necessary, and they'd be traded like bonds. Actually, the owner would probably issue bonds instead of giving up a controlling position, but that's a technicality.

For a growth stock, the question is always when the growth is going to stop. Is google going to once again some day be the company that just provides a lone search box on their home page? Or are they going to provide you The Google Desktop and leave you with no need for a windows computer? The search box and associated advertising are decent money makers, but it's the all encompassing google desktop or hope of some other revolutionary product that really props up thier stock price. If it becomes increasingly clear that WYSIWYG with google, the stock price will come down to match their earnings much more closely.

Matthew
Posted by: genixia

Re: Stock Market - 24/03/2006 16:40

Quote:
But you're talking about two different things. In the case of an iPod, you're basing its value (at least partially) on its utility, much of which is very subjective.


Ok, so the analogy didn't help much.

Quote:

There is a difference between cost and value. The stock market tries to make the cost equal the value, but it's not exact. Let's take the example of a company that was at one time trading for $20 a share, but gets bought out for cash at $1 a share. Those people who bought at $20 paid fair market value at the time. But they ultimately only recieved $1 back. The cost was $20, but they bought something that had an ultimate value of $1. (It's possible that that might be advantageous to them after the fact for some reason -- taxes, probably -- but on its own, it shows that cost and value are not the same thing.)


I don't see that as a cost vs value issue. I see that as a value at one point in time vs a value at another point of time issue. Something had to have happened to devalue that stock.
Posted by: wfaulk

Re: Stock Market - 24/03/2006 17:26

For the record, my initial question has been answered and I'm fine with the answer. We're just arguing semantics now.

What I'm saying is that you can pay money for something and have the value of that thing be more or less than the value of the money you paid. If that were not the case, no one would invest in the stock market, because, as we've determined, the ultimate value of the stock is determined by dividends the company pays plus end-of-life returns. My argument is that that ultimate value never changes, it's just impossible to know, since it's a fixed point in the future. The price you pay for stock is pushed by the stock market to what people think that ultimate value is going to be, and it's usually probably pretty close.

What you're saying is that the amount of money it would cost to buy all the shares of the company is the value of the company. I'm just saying that I'd rather reserve the term "value" for it's total final payoff and call the cost of buying all the shares something else. And the reason I say that is that, like I already pointed out, if you were to somehow buy all of the shares and then liquidate the company, the amount of money you got out of the liquidation is likely to be more than the amount you paid for the stock. Otherwise, corporate raiders wouldn't exist. And I contend that there needs to be separate terms for the price of all the shares combined and the ultimate value of the company.

But, like I said, I think we're just arguing semantics.
Posted by: DWallach

Re: Stock Market - 25/03/2006 11:25

You can borrow some terminology from accounting to make the discussion more clear. Present value is what you pay today. Future value is what it's worth tomorrow. When you're making an investment decision, you're (hopefully) making your best educated guess about the future value, adjusting that to the present day (discounting it against the inflation between now and then), and then deciding whether the adjusted future value is worth more than the present value. If so, you have a rational justification for buying the stock.

Of course, nobody in 1986 could have predicted that Microsoft would have 288:1 worth of stock splits over the next two decades and ultimately pay dividends that were 5x the purchase price of the stock. That uncertainty necessarily depresses the present value of the shares to a rational buyer. Nonetheless, there is still a present value and a future value and they're never the same.
Posted by: wfaulk

Re: Stock Market - 25/03/2006 20:22

Cool. Accepted terminology always helps.
Posted by: genixia

Re: Stock Market - 25/03/2006 20:46

Yeah, semantics!
Posted by: Mataglap

Re: Stock Market - 25/03/2006 20:51

Well, it's possible and practical -- though not easy -- to make money as a day trader, so there's obviously value in it beyond the direct relationship to ownership.

I suppose it is a house of cards (or maybe collaborative hallucination is a better phrase), but I think that any system that tries to connect abstract
philosophical ideas to the concrete real world in a usable way is equally flimsy. Look at the concepts of marriage, goverment, or law. Examine those beyond just how they're used and praticed. At some point you cross a boundry between how it works and what it means.

--Nathan
Posted by: DWallach

Re: Stock Market - 25/03/2006 21:23

Day trading is a whole different world (plus, you'll note I was careful to talk about "rational" investing behavior). The only clearly rational (i.e., even Bitt would agree it makes sense) form of day trading I've ever heard of is currency arbitrage. You program your computer to watch all the pairwise exchange rates. If you can find a cycle that causes your money to increase when you make a complete loop, then you push as much money through that cycle as fast as you can until the cycle closes.

The only other possibly rational way to make money with day trading is to have hair-triggered reflexes combined with hard core financial modelling. If you detect a security that, for whatever reason, has dropped below the price your model says it should have, then you buy, buy, buy. If it gets above, then sell, sell, sell. Of course, your model might be wrong and you could get deeply screwed.
Posted by: lectric

Re: Stock Market - 25/03/2006 22:27

And the funny thing to me, is that when people buy buy buy, the price of a stock goes up, if a LOT of people do it at the same time. Opposite is true when you dump stock.

Supply and demand shouldn't have an effect on stocks, if you ask me. But then, nobody does.
Posted by: DWallach

Re: Stock Market - 26/03/2006 02:07

Quote:
Supply and demand shouldn't have an effect on stocks, if you ask me. But then, nobody does.

Why not? Stocks are just like any other good for which there will be supply and demand, and basic economics tells you what's supposed to happen to the price.

As such, the price going up or down actually makes huge amounts of sense. For fun, let's look closer. Assume, for the moment, that there's no such thing as a market order ("buy now at whatever the current price is"). Instead, it's all limit orders ("buy at this price, or anything cheaper if you can get it, otherwise wait until you can get my price"). In such a world, whenever my limited buy and your limited sell overlap, the market pairs us up and away we go. As such, what you're left with is buyers looking at a price that's lower than any seller is willing to part with. You can go to Yahoo or whatever and see the real-time list of open orders and it's exactly like this.

Now, stir in market orders. If you issue a market buy order, you're saying "take whoever has the lowest selling price posted and give me that". If your order happened to be much larger than whoever was first in line with an open sell order, then you end up going to several higher sellers as well. Good for them, bad for you. As a result, you will have increased the spread between the first open seller (the "ask") and the first open buyer (the "bid"). The spread is, in fact, a pretty good measure of how liquid or illiquid a given share happens to be. If there's a lot of volume, then the spread will be very small, and market orders will be very efficient. If there's little volume, then market orders can get screwed. (If you're ever doing a non-trivial stock transaction, and you're not in a nowNowNOW! hurry, pay the extra bucks for a limit order.)

The "price" that's recorded for a stock is simply the last price at which a trade happens to have occured. As such, even if you see the "price" go down, that doesn't mean that you'll be able to buy at that price. Instead, you might be seeing a transient because a big market sell order consumed a bunch of lower buy orders. I expect that the "big boys" have enough visibility into the market to see the full stream of transactions, allowing them to distinguish between transient price fluctuation and genuine market motion. "Wow, somebody posted a sell order for that? I'll take it!" The only way that "normal" investors can do such a thing is to have some kind of standing buy (limit) order. Otherwise, that great deal will be gone long before you can hit the "buy" button.

Advanced topic for another day: market makers who try to keep a stock's trading liquid, and how they can make money off the spread. (Incidentally, the Wikipedia article on day trading is a good read.)