Q&A
Since You Asked
| Confused about some aspect of trading? Professional
trader Don Bright of Bright Trading (www.stocktrading.com), an equity trading
corporation, answers a few of your questions. |
Don Bright of Bright Trading |
NOW IF
Can someone tell me if all the assets of a company were worth
$1 million and the total number of shares available for the full amount
of the company were 100,000 (each share being $10) and regardless of the
revenue, the company (always) returned 10% net on the $1 million dollars
each year — that is, $100,000 — at what price range would the company's
shares trade the second year? How about the third year?
Now if we take away the company's assets and say the company leases
everything but total revenue was $1 million, with net income $100,000,
at what price range should the company's stock trade? —bluud
What you have presented represents a market capitalization at parity
with the company's book value. Very few stocks have a 1-to-1 price/book
ratio. The multiples of the price to book are used to determine which stock
is better-valued than another using fundamental analysis. If you pay off
all the bills and sell everything, the amount you're left with is book
value.
By mixing your examples by adding $100,000 in earnings, the book value
increased by 10% in your example with earnings of $100,000. So will the
price go up 10%? Possibly, possibly not, because we don't know how that
company equates to others in its sector and the overall market.
The Standard & Poor's 500 has an average price to book ratio of
approximately 3-to-1, meaning your example would have the stock price at
one-third of the overall market.
For your second example, I would assume you mean that the company has
$100,000 in the bank from earnings and the same number of shares out, same
valuations apply, and if it were one-to-one price to book, it would be
priced at $1.00.
Book value, earnings, dividends, future expectations (a big one, as
with the dotcom days and China) all affect the pricing.
Remember, after all is said and done and all the analysis is over with,
this is a supply and demand open market system. A stock is worth only what
someone is willing to pay for it.
There is no way to predetermine supply and demand.
LEVERAGE
I have seen a number of your posts on EliteTrader.com and in Technical
Analysis of STOCKS & COMMODITIES, and wanted to ask a question.
Your firm offers large leverage. Would you permit very large hedged
short positions on, say, a $25,000 account at your firm? For example, shorting
5,000 QQQQ at the current price (around $51.69), hedged with synthetic
longs (long 50 calls, short 50 puts at same strike and expiration month)?
Options are used to establish the long position in order to avoid the cost
of borrowing. A variation on this approach would be to short a single stock
future on QQQQ rather than being actually short the stock, which should
sell for a bit more than QQQQ itself.
The idea is that if expenses can be kept low enough (the $64,000
question!), the trader simply collects the interest on the short proceeds.—jbob
What you're describing is a simple reverse conversion that we started
doing back in 1979. Back then, we could price the options such that the
interest earned would outweigh any carrying or transaction costs. No such
luck nowadays. Additional risk comes into play if the conversion expires
very close to the strike price, since you don't know if the puts will be
exercised. Other than that, no problem.
LEARNING MORE FROM A CHART
For stocks, can you learn something from a chart that includes
the volume by price detail? At bottoms you might see bids on the chart,
but the ask volume may be absent, and at tops, just the opposite may be
true.—hoodooman
The adage "There are no sellers at the top, and no buyers at the bottom"
is pretty true, both intraday and long term.
A big seller will sell 5,000 shares at a time, but when he sees 200
shares bid for, he most likely will stop for a while so as not to run the
stock way down in price (thus the "no buyers at the bottom" part), making
the stock rebound a bit. Same thing at the top; all the sellers go away,
so the buyer will back off.
This is counterintuitive to most, but tape readers have been aware of
this since the very beginning.
E-mail your questions for Bright to Editor@Traders.com, with the subject line direct to "Don Bright Question."
Originally published in the January 2008 issue of Technical Analysis
of STOCKS & COMMODITIES magazine. All rights reserved. © Copyright
2007, Technical Analysis, Inc.
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