It would seem that a discussion of equity market mechanics and how trading engages them might be beneficial. As always, I invite discussion. There are two types of market: primary and secondary A primary market is the mechanics of what happens to create a new listing. It generally goes like this: - A company is analyized and a rough net worth is determined - A share price is set (typically 10 or 12 bucks) - The number of shares to make up the equity raise is determined (subject to some regulatory limitations) - Brokerages generally cooperate to organize the initial purchase offering - Investors and traders register their expression of interest in the issue prior to it being available for sale - By the time the IPO happens, it is already sold. This makes it a "bought" deal. - This is how a company receives money from the market and it is a one time event - Further capital raises can happen but they require additional shares to be issued and that is a somewhat rare event The secondary markets are the stock markets we all know. - Stocks are listed on an exchange and prices are tracked - This is the retail side of investing - Price fluctuations do not affect the company with two exceptions: 1) market cap has an affect on the company's ability to raise capital 2) if the company is buying back shares, they pay retail price so they are impacted by the listing price - When a retail investor places a buy and/or sell order, that is taking place with another retail investor. The company is buffered from this transaction, unless the company is participating in the retail market (no reason they can't buy and sell shares but it rarely happens with the exception of share buy-backs) - Because of the retail nature of trading, it is a redistribution of wealth among traders - Any gains a trader makes comes from other traders - Any losses a trader incurs comes goes to other traders and the brokerage fees that are omnipresent
The dynamics of trading are nearly identical to a poker game. People show up to the game, they throw their money in the pot, and the best hand wins. - No wealth is created, it is only redistributed. - It is not possible for everyone to win. - The house always wins, as transaction fees are subtracted from every "hand" of the game. - Transaction fee overhead can be significant and usually varies with the size of the transaction. If you are trading in roughly $1000 orders and your fees are $10 per transaction, that means you are paying 2% transaction fees. What most people don't consider is that the other party is probably paying about the same. That means roughly 4% of the pot goes to the house before the "winnings" are divided. Math: - Trader buys $1000 of stock. It costs that person $1010. - Trader sells $1000 of stock. The trader receives $990. - $20 of transaction fees on a $1000 trade pair is 2%.
Let's consider the financial dynamics of investing (5+ year hold). We hold a REIT for which our first tranche was acquired in 2009. A much larger tranche was purchased in 2011 and our largest purchase was made in 2012. Back then, the REIT was paying between 10~12%. Nobody wanted REITs. There were endless smear articles in the media about REITs. Thank you, market influencers. By the time I set up a DRIP in 2018, the company had distributed to us an amount of money nearly identical to that which we had previously invested (not accounting for inflation). At this point, our risk is $0. Our monthly cash flow is a bit higher than it was in 2012 (two dividend increases since then). Please notice, we have chosen to defer the monthly cash flow by diverting it into a DRIP. A more nuanced situation is our ROI. The listed yield for this REIT is now around 6.8% due to dividend increases which have not nearly kept up with market appreciation. If you consider our yield based on the amount of money we fueled this investment with, it is over double the listed yield. Of course, that yield would appropriately be adjusted to inflation, bringing it back under 10%. In the next 12~24 months, we will turn off the DRIP and start consuming that money so we don't starve as we venture into retirement. That will cause the dividend to become static (as no more shares will be purchased each month). At this point, the inflation adjusted value of the yield will go down for the rest of our lives. Another point worth making on this is that a DRIP occurs monthly. Trailing yield is calculated by taking the distributions for the last year and dividing by the current stock price. In a DRIP situation, the actual return is higher than the calculated yield because the position is compounding with distribution frequency which is not likely to be annual. In this case, we have monthly compounding. That adds considerably to the real return. With market dips that we have purchased, our total commission on this position is $110. Considering the value of the position, that is an infinitesimal drag on the value of this position.
Final post for me on this. This is the back story. I look forward to reading a discussion. I have always been pretty cynical with regard to media influences. I would not have gotten into REITs, had the media not have ran them down REITS after the global financial crisis. A newspaper I used to follow was publishing a seemingly endless stream of toxic REIT articles. Using ghetto finance techniques, I spent a few months analyzing the intrinsic value of several REITs. Two stood out, but one in particular. At the time, they could have gone bankrupt, sold their buildings, paid off the debt, and investors would have tripled their money. That was based off a slightly pessimistic view of the market value of the buildings. The move seemed obvious. Instead of investing in real estate directly in 2009, we invested in two REITs. It seemed like a lot of money, at the time. We loved real estate and did not trust the markets so it was pretty bold for us. I vividly recall thoughts of how great it would be to have $1000 per month of income for the rest of our lives. How great would that be? I've been investing since the 1980s and I've held quite a few distributing stocks over the years but none which yield like the REITs I'm describing in this post. To be clear, we own 14 companies. Only three of them are REITs. I am not specifically advocating REIT investing and I do not believe in exclusively investing in REITs, although it wouldn't be the worst strategy. Two of our REITs did not reduce their distribution during the global financial crisis. Our other REIT is not that old. If that behavior continues, it will give us some weapons with which to shop the bargain counter of the next major market crash. The bargains we shop will most certainly not be REITs, as REITs and distributing stocks tend to do extraordinarily well during a crash. That's fine with me. I will enjoy taking value wherever it is observed. I hope this triggers some thoughts for someone. Perhaps a trader will process this thread over the course of a few months and consider the idea of going long on a distributing company with good value and a stable income sheet. Have a great weekend and happy investing.
