Benefits of investing at the CSE

In last week's article our readers were able to gain knowledge on terms used in stock market trading and publications. This week, we would discuss another interesting topic for all investors; the benefits of investing in the stock market.

An increase in the value of an asset that gives it a higher worth than the purchase price is called a capital gain

Benefits from a Share:

The return from owning shares can be derived in two forms:

(a) Dividends

(b) Capital Gains

What does a dividend mean?

A dividend means a distribution of a part of a company's earnings to its shareholders. In other words, dividends are an investor's share of a company's profits.

The board of directors of the company would decide the rate of dividends and it may be in the form of cash (Cash Dividends), stock (Stock Dividends) or other property. However companies are not required to pay dividends. When the company earns profits it can either retain it to reinvest or it can distribute it among its shareholders. Thus dividends are a decision of the directors of a company. Dividends are the only way for investors to profit from ownership of stock without eliminating their stake in the company.

Ex-Dividend ("XD")

To be entitled to a company's dividend, an investor must hold the share on the last market day before the XD date. This date is announced by the company and it gives the meaning "without dividend". If shares are purchased while they are ex-dividend, investors have to forego the declared dividend.

What is a Capital Gain?

An increase in the value of an asset that gives it a higher worth than the purchase price is called a capital gain. The gain is not realized until the asset is sold. An unrealized capital gain is an investment that has not been sold yet but would result in a profit if sold. There are instances where one could also make a capital loss. That is, if the market price were to fall beyond the price you purchased the share at and you sell it at that point, you would stand to make a capital loss. What we should note here is that capital gains made in CSE are fully exempted by government income taxes.

An example of a capital gain and a dividend:

If you buy 100 shares in a company at Rs.50 each on January 1, 2009, your original investment is Rs.5000. During the year the company declares that it will pay a dividend of Rs. 2 per share for all shareholders, thus for 100 shares you get Rs.200.

On December 31, 2009, assume that the share price has increased to Rs.58 per share. Therefore, your shareholding of 100 shares is now worth Rs.5800.00 (100xRs.58=Rs.5800) giving you a capital gain of Rs.800 (Rs.5800 - Rs.5000 = Rs.800).

Your Total return is:

Dividend Rs. 200.00

Capital Gain Rs. 800.00

Rs.1000.00

This works out to a 20 percent return for the year on your original investment of Rs. 5000.00.

Except these two main benefits, shareholders are also entitled to other benefits as follows;

As a shareholder you are entitled to participate and vote at annual general meetings and at extraordinary general meetings of the company.

You can also use your shares as collateral against loan facilities to banks.

Shareholders of a company may also receive other benefits like the opportunities of a Rights Issue, Bonus Issue and Share Splits.

What is a Rights Issue?

A security that gives shareholders a right to purchase new shares issued by the company at a predetermined price (usually a discounted price) in proportion to the number of shares already owned by the shareholder. Rights are issued only for a short period of time, after which they expire.

The issued price of a "Right" is generally below the market value of the share.

A shareholder could take up the rights or sell the rights. Usually the announcement of a Rights Issue increases the share price thereby giving the shareholder a profit.

However it is not a requirement for the company to price the rights at a discount.

If an existing shareholder does not participate in a rights issue, the shareholder would be left with a lesser proportion of shares due to the ownership being diluted with a larger number of shares in issue. A shareholder could also exercise the right to sell his "rights" instead of subscribing for the "rights".

Ex-Rights Period ("XR")

The period for which buyers are not entitled to rights issues is known as 'Ex-Rights' Period.

Capitalization of Reserves

A Company may declare that they offer free shares for already existing shareholders. Company does not obtain money from shareholders for these shares but they would transfer funds from their reserves to the equity fund instead.

Example: XYZ Company declares that all shareholders possessing shares of that company will get one free share for every 10 shares they hold. Thus a person holding 100 shares at that time will hold 110 shares afterwards.

Share Splits

A Company may declare that every share will be split into two or more after a certain date.

Example: If a person is holding 100 shares and the company announces that each share will be split into two after a certain date, it will become 200 shares afterwards.

When I buy Shares will I always gain?

No, you may not.

Any form of investment has its own element of risk, higher the risk is the return will be higher too. Yet all individuals may not be prepared to take the same level of risk.

That is why you should pick and choose the kind of investment that best suits your needs in terms of:

1. The return it generates,

2. The risk you would like to take,

3. Liquidity meaning how quickly you want your investment to be converted back to cash.

An investment in shares may give you higher returns and offers liquidity. What you have to do is to decide what level of risk you are wiling to take. After all, managing an investment is about managing the risks in it. However, you will not be left alone wondering what to do once you purchase shares, because your stockbroker will assist you in deciding what is best for your investment. There are many macro level factors that influences share prices as well such as interest rates fluctuations, the economic conditions of the country, political stability, certain international factors etc.

One or more or a combination of factors may either increase or decrease share prices.

For example, if interest rates are decreasing there is a tendency for more investors to opt for the stock market and the result is increasing share prices.

On the other hand, an election or political instability may drive down share prices.

Therefore professional advice from a stockbroker is recommended if you are not quite aware of the market conditions in order to benefit in the market.

How do I monitor the performance of the market?

Share prices are published in the daily newspapers including the Daily News and displayed live on the computers installed at stockbroker houses in the CSE public galleries and other public places. Radio and TV stations also carry daily updates while daily share prices can be obtained through the CSE website and other information vendors.

You can also read stock market reports published on a daily, weekly, monthly, quarterly and annual basis which could be obtained by subscribing or downloading from the CSE website, www.cse.lk. These publications of the Stock Exchange contain market statistics, share prices, and other useful information for an investor.

In addition stockbroker firms does analysis on market conditions and compile regular research reports in order for the investors to benefit in the market.

How do I obtain information on companies I have invested in?

Information on companies listed on the stock exchange is freely available for the public and transparency is assured by CSE.

At the end of a year, each shareholder will receive an Annual report from the company you are a shareholder of.

In addition, companies that are listed on the main board of the CSE will publish a statement of accounts once every quarter.

Companies that are listed on the Diri Savi Board of the CSE will publish a statement of accounts once every six months.

These will be sent to all shareholders by post or published in the newspapers.

If you intend on buying shares of a company, and you would like to look into their annual reports, then you have the option of asking your stock broker, or the company registrar to send in the required documentation to you.

The Annual Report gives the investor a brief summary of all the financial information required to decide on if the shares are worth keeping, or whether it's better for the shares to be sold off before it makes an even bigger loss for the investor.

That is the advantage in purchasing shares or debentures of a company listed on the stock market.