What Do AA+ And AAA Credit Ratings Mean?

By Sham Gad of Investopedia.com

Anyone with a pulse was kept awake thanks to the Friday, August 5, 9 p.m. Eastern Standard Time announcement by Standard & Poor's that it was downgrading the U.S. debt from AAA to AA+. The news sent shock waves across the world, and those vibrations were even louder that following Monday, which left the market down over 6% by the end of the day. Yet that market decline was benign compared to the individual beatings some stocks endured.

What Does AA+ Mean?In terms of the U.S. paying its debt obligations, a drop from AAA to AA+ is noneventful. The U.S. 10-year bond yield was down 0.2%, meaning that investors actually flocked to the safety of Treasuries. The fact that the U.S., the world's largest economy, went from AAA to AA+ for the first time in history is the big deal. In terms of stature, the downgrade was painful. What that loss of AAA prestige means for investors going forward is anyone's guess. The $64 million question now is whether the other major rating agencies, Moody's (NYSE:MCO) and Fitch, will follow S&P and issue their own downgrades. Naturally, affirmation by one or two of the other rating houses would not be a good thing.

What Does AAA Mean?

Apparently, an AAA credit rating isn't spectacular either, at least not now. As it now stands, only four U.S. corporations have a AAA rating: Microsoft (Nasdaq:MSFT), Exxon Mobil (NYSE:XOM), Johnson & Johnson (NYSE:JNJ) and Automatic Data Processing (Nasdaq:ADP). As the S&P plummeted 6%, having a AAA credit rating didn't mean much. Exxon shares declined by over 6% thanks in part to oil dropping to $81 a barrel. Microsoft shares, despite having what the government would call a surplus of nearly $30 billion, dropped nearly 5%. The best performer was JNJ, which managed to end the day off only 2.5%.

The Bottom Line

So whether you hold an AAA or AA+ rating, the difference didn't seem to matter. The market was upset and emotional, and the result was a panic-driven day like the end of 2008. What always matters in this game is valuation and patience. Sticking to the simple philosophy of buying an asset below its long-term intrinsic value will ultimately lead to satisfactory results. It's a philosophy that is indeed simple to understand yet difficult to execute for most investors. But Mr. Market may be giving investors another opportunity to get greedy.

My Stock Picks for this Month

I've been checking the blue chip companies lately and I have selected the best companies that has the most growth potential.

Below are my stock picks for the month of August. The current price are the stock price of the companies as of yesterday. I obtained the outstanding shares from the latest financial statements submitted to PSE and that is mainly the 1st quarter unaudited financial statements. To make the computation simple, I just multiply the 1st quarter income into 4 to get the Earnings Per Share (EPS) Annualized. 

I picked the company with the highest growth potential based only on the recent high price occurred in July.

The picks may not reflect the sentiment of the investors and may even contradict the direction of the Philippine Stock Market in general. These are my personal opinions and you can have a different set of pick.

The above picture is a simple computation which can be done by the laymen.

My hope is that everyone of us would someday achieve the financial freedom we are aiming for.

To Our Financial Freedom!

Stock Market Terms and Definitions 2

In the previous blog, we have discussed some of the stock market terms and definitions. These stock market terms like Closing Price,Target Price, Outstanding Shares, Market Capitalization, Sales, Net Profit, Earnings Per Share, Net Profit Margin, PE Ratio, Dividend Yield, Price to Book value, ROE can be seen in http://theofwinvestor.blogspot.com/2011/07/stock-market-terms-and-definitions.html

We will continue with the definition of other stock market terms. Here we go.

Common Stock - A security that represents ownership in a corporation. Holders of common stock exercise control by electing a board of directors and voting on corporate policy. Common stockholders are on the bottom of the priority ladder for ownership structure. In the event of liquidation, common shareholders have rights to a company's assets only after bondholders, preferred shareholders and other debtholders have been paid in full. 

Example: Randy Corporation issued 1,000 common stock to you and 1,000 preferred stock to your sister. In this case, since you are the owners of the common stock of Randy Corporation, you can vote on company policies and board of directors that will represent you in the company. Your sister on the other hand is not entitled to vote on company policies and board of directors.

Preferred Stock - Also known as "preferred shares". A class of ownership in a corporation that has a higher claim on the assets and earnings than common stock. Preferred stock generally has a dividend that must be paid out before dividends to common stockholders and the shares usually do not have voting rights. 

Example: Randy Corporation issued 1,000 common stock to you and 1,000 preferred stock to your sister. The company became successful and you decided to declare dividends (remember, you are the owner of the common stock and as such is entitled to direct the company policies). In this case, your sister must be paid out first from these dividends before you can pay yourself.

After ten years, Randy Corporation went bankrupt because of mismanagement. In this case, your sister who owns the preferred stock must be paid first from the sale of assets before you can pay yourself.

In the Philippine's stock market, things are changing. Recently, PLDT issued preferred voting shares which can vote on the election of board of directors.

Which one is better, common stock or preferred stock?

I think common stock appreciates more than the preferred stock in terms of share prices. Investors tend to buy these type of stock than the preferred stock. Common stock normally outperforms the preferred stock in the long-run. Sometimes there are companies that issue 10% dividends of the net income to preferred stocks. For example, Randy Corporation has 1,000,000 net income for the Year 2010. In this case, 100,000 (1,000,000x10%) must be paid to the preferred stockholders. 

All my stocks right now are common stocks because some companies have common stock only and if the company has preferred stock, the share price of preferred stock normally is way behind the price of common stock.

Value Investing - The strategy of selecting stocks that trade for less than their intrinsic values. Value investors actively seek stocks of companies that they believe the market has undervalued. They believe the market overreacts to good and bad news, resulting in stock price movements that do not correspond with the company's long-term fundamentals. The result is an opportunity for value investors to profit by buying when the price is deflated.

A good example of this is VLL Company. Out of the many property developers listed in the stock market, VLL has the lowest price to earnings ratio. It means that investors are not keen in buying VLL's stock although it is a good buy. I bought VLL last week because i believe that it is undervalued and that in just a matter of time before the price will shoot up.

That's it for the meantime. Happy Investing!