Market Terminology - Definitions & Questions

[KC Scott]

If you're not familiar with any terms used here or that you hear in the media - post a question and I'll do my best to explain

Here's a few for starters:

Short - also known as short sale. This is a bet against a particular stock or index (ie; you think the price will fall)
What transpires is you sell the stock in advance, then buy it back at a lower price.
How can you sell something you don't own? - You are "borrowing" the stock from a broker who has the shares available.
Remember the broker is like a bookie - he makes a comission when you buy and when you sell.
Shorts can be profitable in a bear market, they can also be very painful if the market turns up against your position.

Example of a profitable short:
You sell short 100 shares of AAPL at $170 per share.
A week later the stock falls to $140 and you buy the shares back (called covering your short)
Your profit in this transaction is $30 per share or $3000

Example of a losing Short:
You sell short 100 shares of AAPL at $170 per share.
A week later the stock rises to $200 you buy the shares back (called covering your short)
Your Loss in this transaction is $30 per share or $3000

Pros of Shorting - you can make money, but it's limited beacuse the lowest a stock can go is 0 (a %100 gain)
Cons of shorting - Infinite losses - there is no limit how high a stock can go

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Buying 1/3s - This is really just a method of accumulating a position in a stock or index.
Let's say you want to own AAPL beacuse your sure everybody will eventually have an Ipod, MAC and Iphone.
The Price is fluctuating quite a bit - and you think you're buying the bottom at $140
Well chances are your not.

Institutions and large buyers don't want prices to run away, so they accumulate positions over time.
Let's say your a large investor and you want to own 100,000 shares of AAPL
If you put in an order for 100,000 shares your buying up from whatever the price is.
If the current price is $140 per share, you'd clear out everyone willing to sell at $140 quickly and your buy price would continue to rise.
By the time you're done you're average for all 100,000 shares could be $170.
Far better to buy in increments to get the average price.

So how does that apply to you? Well since none of us have the financial strength to move the market price we have to hope institutuions and large investors are buying what we think will go up. Since we are often wrong, it's better to average your position out in 2 or 3 buys over 1-2 weeks. You may pay up in a some instances but this also gives you time to see if the position moves sharply down.