Fundamentals of the stock market

- K. Telfer

PFA: The stock market plays a significant role in mobilising long-term capital - debt and equity - for business. But it is also a very good medium through which investors can make very significant returns on their savings over the long-term, thereby protecting them against inflation.

The returns on ordinary stock are enhanced by the favourable tax treatment accorded such investments. In the first instance, capital gains are not taxed and, secondly, dividends are not taxed. The stock market gives significant liquidity to listed securities in that it is generally not difficult to convert them to cash. Some securities trade more readily than others but even high-quality securities may prove difficult to sell in those periods when the market is going through a difficult period.

Poor market conditions as well as the poor performance of some listed companies inevitably cause stock prices to decline, sometimes over protracted periods. Hence, the stock market is not to be seen as a means to make a quick buck nor should it be seen as a vehicle to jump on to and jump off as a means of making money as prices rise and fall.

Active trading, though having some potential for increasing returns, can be very costly because of the fees that must be paid each time there is a purchase or sale. These can wipe out any perceived gains from trading. Additionally, because of the cycles through which the market passes, prices may soon surpass the level at which an investor sells a stock which may have weakened temporarily.

ordinary stock

The dominant type of security that trades on our local stock market is ordinary stock, which represents ownership in a company. As shareholders, investors are entitled to dividends which are paid out of the profits of the company. They are also entitled to attend meetings of the shareholders. Except there is the need for an extraordinary meeting, the shareholders' meeting is held once per year. It is generally referred to as the annual general meeting. The directors give a report on the performance of the company at this meeting and the shareholders appoint directors and auditors, approve dividends, vote on resolutions presented by the directors on important issues, and vote on the reports presented by the auditors and management.

Most of the stocks that trade on the Jamaican market are the stocks of Jamaican companies but a few companies domiciled in other Caribbean countries also trade here. Recently, a market has also developed for small companies which trade on what is known as the Junior Market.

The market also lists a few preference shares and corporate bonds, but activity is very limited. In much the same way that the price of ordinary stock may decline or increase, the price of these securities may also decline or rise as they are sensitive to movements in the level of interest rates. Their prices tend to move opposite to the direction in which interest rates move.

People who participate in the stock market do not deal directly with each other; they use the services of a stockbrokerage company which is licensed by the Financial Services Commission (FSC) to deal in securities and which is a member of the Jamaica Stock Exchange (JSE). The staff of these companies must be registered by the FSC and are required to meet certain basic requirements, in relation to education, for example. They are usually competent to give investment advice.

That does not free you of the responsibility to do your own research and make your own decisions about the trades you want executed for your account. In fact, it is not the business of the investment professional to decide for you. The professional advises, the investor decides. Read as much as you can about the stock market, stocks and investment generally. Watch and listen too and, if possible, make an appointment to visit the stock exchange to see how it works. Learn to read the stock market report.

The stock market is not the place for money needed neither for day-to-day expenses nor for money that will be needed in the short-term. It is not the preferred place either for borrowed money. Resist the temptation to solicit tips or to accept tips.

If you are going to panic each time the market declines, the stock market is probably not the place for you. Try something else, though I cannot promise that you will find an investment that goes well all the time.

Both the FSC and the JSE, through its Regulatory and Market Oversight Division, regulate and oversee the market, thus protecting the investing public and making it safe to invest.

You do not need to have a lot of money to invest in the stock market. I wish you well.

Oran A. Hall, a member of the Caribbean Financial Planning Association and principal author of 'The Handbook of Personal Financial Planning', offers free advice and counsel on personal financial planning. finviser.jm@gmail.com