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In This Chapter

Understanding dividend stocks and their benefits and risks

Preparing to become a savvy dividend stock investor

Knowing what to look for as you shop for dividend stocks

Monitoring and adjusting the holdings in your portfolio

For many investors, dividend stocks offer the best of two worlds: a healthy balance of risk and return. Investors receive the benefits of both share price appreciation and the ability to realize profits through dividends (cash payments) without having to sell shares. (Later in this chapter, I list more of the many benefits of dividend stocks, and in Chapter 3, I explain them in greater detail.)

In this chapter, I pack the essentials of dividend investing into a nutshell, starting with the bare basics, such as defining what a dividend is, and taking you to the very end – managing your portfolio after you populate it with promising dividend stocks. Along the way, I reference other chapters in this book where you can find additional information and guidance on each topic.

Coming to Terms with Dividend Stocks

Dividend stocks are stocks that pay dividends – payments in cash (usually) or shares (sometimes) to stockholders. Through dividend payments, a company distributes a portion of its profits to its shareholders, typically every quarter or every month, and pumps the remaining profits back into the company to fuel its growth.

The percentage of total profits a company pays out in dividends to shareholders is called the payout ratio. For more about payout ratios and how to use the number in evaluating dividend stocks, check out Chapter 9.

Why companies pay dividends

Successful companies are profitable companies. They earn money, and they can use that money in several ways:

✓ Reinvest it: Companies usually invest a good chunk of their profits, if not all of them, into growing the business.

✓ Pay down debt: If, in addition to selling shares, companies borrowed money to raise capital, they may use profits to pay down the debt, thereby reducing the expense of their interest payments.

✓ Buy back shares: Companies may use profits to buy back shares that they feel are undervalued, or for other reasons. In some cases, they initiate buybacks to artificially inflate the share price and improve investor confidence in the company.

✓ Pay dividends: Paying dividends is a form of profit sharing – spreading the wealth among the company’s owners, the shareholders.

A company’s dividend policy generally reflects the board of directors’ and shareholders’ preferences in how to use profits. Two schools of thought govern their decision:

✓ Pro growth: This school believes a company is better off reinvesting its profits or using profits to pay down debt or buy back shares. This strategy makes the company more valuable, and the share price rises accordingly. Shareholders benefit when they sell their shares for more than they paid for them.

✓ Pro profit-sharing: This philosophy stems from the belief that shareholders own the company and should share in its profits.

Other factors can also influence dividend policies. For example, the Jobs and Growth Tax Relief Reconciliation Act of 2003 (JGTRRA), which lowered the maximum tax rate on dividends from 39.6 percent to 15 percent, led companies making up the S&P 500 Index to boost their dividend payments. For more about how tax legislation can affect dividends, check out Chapters 3 and 11.

The advantages of dividend investing

Receiving dividends is like collecting interest on money in a bank account. It’s very nice but not exciting. Betting on the rise and fall of share prices is much more exhilarating, especially when your share prices soar. Placing excitement to the side, however, dividend stocks offer several advantages over non-dividend stocks:

✓ Passive income: Dividends provide a steady flow of passive income, which you can choose to spend or reinvest. This attribute makes dividend stocks particularly attractive to retirees looking for supplemental income.

✓ More stable companies: Companies that pay dividends tend to be more mature and stable than companies that don’t. Startups rarely pay dividends because they plow back all the profits to fuel their growth. Only when the company has attained a sustainable level of success does its board of directors vote to pay dividends. In addition, the need to pay dividends tends to make the management more accountable to shareholders and less prone to taking foolish risks.

✓ Reduced risk: Because dividends give investors two ways to realize a return on their investment, they tend to have a lower risk-to-reward ratio, which you can see in less volatility in the share price. A stock with lower volatility sees smaller share price declines when the market falls. Low volatility may also temper share price appreciation on the way up.

✓ Two ways to profit: With dividend stocks, your return on investment (ROI) increases when share prices rise and when the company pays dividends. With non-dividend stocks, the only way you can earn a positive return is through share price appreciation – buying low and selling high.

✓ Continued ownership while collecting profits: One of the most frustrating aspects of owning shares in a company that doesn’t pay dividends is that all profits are locked in your stock. The only way to access those profits is to sell shares. With dividend stocks, you retain ownership of the company while collecting a share of its profits.

✓ Cash to buy more shares: When you buy X number of shares of a company that doesn’t pay dividends, you get X number of shares. If you want more shares, you have to reach into your purse or pocket to pay for them. With dividend stocks, you can purchase additional shares by reinvesting all or some of your dividends. You don’t have to reach into your pocket a second or third time. In most cases, you can even enroll in special programs that automatically reinvest your dividends.

✓ Hedge against inflation: Even a modest inflation rate can take a chunk out of earnings. Earn a 10-percent return, subtract 3 percent for inflation, and you’re down to 7 percent. Dividends may offset that loss. As companies charge more for their products (contributing to inflation), they also tend to earn more and pay higher dividends as a result.

✓ Positive returns in bear markets: In a bear market, when share prices are flat or dropping, companies that pay dividends typically continue paying dividends. These dividend payments can help offset any loss from a drop in share price and may even result in a positive return.

✓ Potential boost from the baby boomers: As more baby boomers reach retirement age and seek sources of supplemental income, they’re likely to increase demand for dividend stocks, driving up the price. Nobody can predict with any certainty that this will happen, but it’s something to remain aware of in the coming decades.

The risks

There’s no such thing as safe investing, only safer investing. You can lose money in any of the following ways:

✓ Share prices can drop. This situation is possible regardless of whether the company pays dividends. Worst-case scenario is that the company goes belly up before you have the chance to sell your shares.

✓

Companies can trim or slash dividend payments at any time. Companies aren’t legally required to pay dividends or increase payments. Unlike bonds, where failure to pay interest can put a company into default, a company can cut or eliminate a dividend any time. If you’re counting on a stock to pay dividends, you may view a dividend cut or elimination as losing money.

Most companies try their best to avoid these moves because cutting the dividend may cause shareholders to sell, lowering the share price.

✓ Inflation can nibble away at your savings. Not investing your money or investing in something that doesn’t keep pace with inflation causes your investment capital to lose purchase power. With inflation at work, every dollar you scrimped and saved is worth less (but not worthless).

Potential risk is proportional to potential return. Locking your money up in an FDIC-insured bank that pays an interest rate higher than the rate of inflation is safe (at least the first $100,000 that the FDIC insures), but it’s not going to make you rich. On the other hand, taking a gamble on a high-growth company can earn you handsome returns in a short period of time, but it’s also a high-risk venture.

Prepping Yourself for the Journey Ahead

People often invest more time and effort planning for a weekend vacation than they do preparing to become an investor. They catch a commercial for one of those online brokerages that makes investing look so easy, transfer some of their savings to the brokerage or roll over their IRA (individual retirement account), and try to ride the waves of rising investment sentiment to the land of riches.

A more effective approach is to carefully prepare for the journey before taking the first step. The following sections serve as a checklist to make sure you have everything in place before you purchase your first dividend stock.

Gauging your risk tolerance

Every investor has a different comfort zone. The thrill-seekers crave risk. They want big returns and are willing to take big risks to get them. Riding the rollercoaster of the stock market doesn’t bother them, as long as they have some hope they’ll end up on top. On the other end of the spectrum are conservative investors willing to trade high returns for stability. Prior to investing in anything, you can benefit by determining whether you’re more of a thrill-seeker, a conservative investor, or someone in between.

In Chapter 7, I offer several methods for gauging risk tolerance, but regardless of which method you choose, you should account for the following factors:

✓ Age: Younger investors can generally take bigger risks because they have less money to lose and more time to recover from lousy investment decisions.

✓ Wealth: “Never bet money you can’t afford to lose” is good advice for both gamblers and investors. If you’re relying on the money you’re investing to pay your bills, send Johnny to college, or retire soon, you’re probably better off playing it safe.

✓ Personality: Some people are naturally more risk-tolerant than others. If you tend to get worried sick over money, a low-risk approach is probably more suitable.

✓ Goals: If your goal is to reap big rewards quickly, you may conclude that the risk is worth it. If your goal is to build wealth over a long period of time with less chance of losing your initial investment, a slow, steady approach is probably best.

Only you can determine the right balance of risk and reward for you and your goals. You can obtain valuable guidance from a financial advisor, but how you choose to invest your money is entirely up to you (at least it should be).

Choosing the right approach

Tossing a bunch of ticker symbols into a hat and drawing out the names of the companies you want to invest in is no way to pick a dividend stock. Better approaches are available, as presented in the following sections.

Value

The value approach is like shopping at garage sales. Investors hope to spot undervalued stocks – stocks with share prices that appear to be significantly lower than what the company is really worth. When hunting for values in dividend stocks, investors look for the following:

✓ Strong earnings growth: Companies that earn bigger profits with each passing year demonstrate they’re growing and thriving. A shrinking profit usually means trouble – bad management decisions, increasing competition, or other factors chipping away at the company’s success.

✓ High yields: Yield is the ratio of annual dividends per share to the share price. If shares are selling for $50 each and dividends are $2.50 per share (annually), the yield is $2.50/$50.00 = .05 or 5 percent. Stocks with higher yields deliver higher dividends per dollar invested. For example, a dividend stock with a yield of 5 percent generates a nickel for every dollar invested, whereas a yield of 25 percent generates a quarter per dollar.

✓

Low price-to-earnings ratio (P/E): P/E tells you how many dollars you’re paying to receive a share of the company’s profits. If a company earns an annual profit of $3.25 for each share of its common stock and the shares sell for $50, the P/E is $50/$3.25 = 15.39. In other words, you’re paying $15.39 for every dollar of profit the company earns. The P/E ratio provides a barometer by which to compare a company’s relative value to other companies and the market in general. (Head to Chapter 2 for more on common stock.)

A good P/E ratio is one that’s lower than the P/E ratios of comparable companies. As a general rule, investors look for P/E ratios that are lower than the average for a particular index, such as the S&P 500 or the Dow Jones Industrial Average (DJIA). See Chapter 2 for more about these stock market indexes; Chapter 9 explores P/E ratios in greater depth.

✓ Solid history of raising dividend payments: Like strong earnings growth, covered earlier in this list, a solid history of raising dividend payments demonstrates that the company is thriving. Every year it has more wealth to share with investors.

✓ Solid balance sheet: A balance sheet is a net worth statement for a company, listing the cost of everything it owns and subtracting the cost of everything it owes. Ultimately, a healthy balance sheet shows that the company has enough assets to cover its liabilities and then some. The remainder is called shareholder equity. For more about balance sheets, flip to Chapter 9.

✓ Sufficient free cash flow: Ideally, a company’s cash flow statement shows that the company brings in enough actual cash each quarter to more than cover its expenses as well as the dividend distributions.

Growth

The growth approach to investing in the stock market focuses on a company’s prospects for generating future earnings. These companies are expected to see their revenues and profits grow at a pace faster than the rest of the market. As such, this approach tends to be more speculative than the value approach. Growth investors may pay more for shares than their past results or actual performance justifies.

With the growth approach, value isn’t the key variable. Although P/E ratios remain important, growth investors are willing to pay a higher price for shares than value investors. Because growth investors look to share price appreciation for returns, they’re more likely to focus their attention on companies that don’t pay dividends. They want younger companies that reinvest their profits to accelerate the growth rates of future earnings and revenues. If the company continues to exhibit strong growth, the share price should move significantly higher. Growth investors are well advised to consider the following:

✓ Revenue growth: Although earnings (profits) can grow through cost cutting, revenue growth demonstrates the company’s sales are increasing.

✓ Projected growth: Projected growth consists of analysts’ estimates of the percentage the company’s revenues will grow in a year. These projections always carry some uncertainty, but investors should still take them into consideration.

✓ Profit margins: If the company reports a profit, growth investors want to see profits and revenues growing on a steady basis. Profits not keeping pace with growing revenues may be a sign that the company’s profit margin is suffering.

✓ Realistic share price projection: Generally speaking, growth investors consider investing in companies only if they have a realistic expectation that the share price will double no later than five years down the road. The key word here is “realistic.” Investors must base projections on data rather than gut feelings.

Income

The goal of income investing is to obtain a steady and relatively secure income stream. When purchasing equities, focusing on income means buying stocks that pay dividends. Because most growth companies don’t pay dividends, most income investors are basically value investors that not only want to buy at a good price but also look for a high yield and a history of rising dividend payments. The income investor looks for companies well equipped to not only continue paying dividends but to also increase the cash amount of those payments.

Working with a seasoned pro

This book should give you the tools to manage your portfolio by yourself. However, if you do decide to hire an investment advisor, I urge you to consult a qualified professional with a track record of successfully investing in the stock market for several years.

Experienced investment advisors can offer you a wealth of advice and information on most areas of financial planning, including taxes, insurance, and strategies that have been successful for them. They can also function as a sounding board when you need feedback on a stock you’re thinking of buying or selling and help steer you clear of potential pitfalls.

If you don’t want to pay a fee for an investment advisor’s advice, consider joining an investment club where you can pool your capital to create a more diversified portfolio than you can on your own. You can also bounce ideas off fellow club members before making any investment decisions. The extra eyes and ears may have information about a company that convinces you to move forward or step back from a particular transaction. They also provide a good source of investment ideas you may not have previously considered.

Selecting First-Rate Dividend Stocks

A good dividend stock isn’t just one that pays a high dividend. The strength and consistency of the dividend are very important, along with share price and the company’s prospects for a rosy future. Before you can evaluate and select dividend stocks, however, you need to identify a few promising candidates.

Distinguishing dividend stocks from the rest of the pack

Wherever you find stocks, you can find dividend stocks:

✓ Google Finance at www.google.com/finance

✓ Yahoo! Finance at http://finance.yahoo.com

✓ Various personal finance magazines and websites

✓ The Wall Street Journal

✓ Financial Times

✓ This book!

Many stock listings include both a dividend column and a dividend yield column. If the company hasn’t paid a dividend, you see something like 0.00 or a hyphen (-). Some listings show only the previous and current share price and the single-day and year-to-date gain or loss. In that case, you need to dig deeper to find out whether the company pays dividends and the amount of the most recent payment. With most online stock listings, you simply click the ticker symbol for more information about the company.

Exploring sectors where dividend stocks hang out

Companies in certain industries, such as utilities and telecoms, are more likely to pay dividends than companies in other industries, including technology and biotech. The biggest reason for this tendency is that some industries have larger, more established companies, compared with industries that have a higher concentration of smaller, growth-oriented companies.

As you begin investing in dividend stocks, you may want to focus your efforts on the following sectors:

✓ Utilities: Electricity, water, and natural gas (suppliers, not producers)

✓ Energy: Oil, natural gas (producers, not suppliers), and Master Limited Partnerships (MLPs)

✓ Telecoms: Carriers (U.S. and international) and wireless

✓ Consumer staples: Food/beverages, prescription drugs, household products, tobacco, and alcohol

Prior to the mortgage meltdown that started in 2007, real estate and financials would have been at the top of the list. Both sectors were traditionally good for dividend stocks. The fiscal crisis caused many to cut or eliminate their dividends. Since then, some financial and real estate companies have resumed paying dividends, but many have not.

Crunching the numbers

Eeny, meeny, miny, moe is no way to pick dividend stocks. Savvy investors carefully inspect the company reports – balance sheet, income statement, and cash flow statement – and crunch the numbers to evaluate the company’s performance, at least on paper. As you prepare to evaluate a company, research the following figures or calculate them yourself by using numbers from the company’s quarterly report. (Chapter 9 shows you how.)

✓ Current dividend per share (DPS): The quarterly cash payment each investor receives for each share of company stock he or she owns.

✓ Indicated dividend: The projected annual dividend for the next year, assuming the company pays the same dividend per share for each quarter of the next year.

✓ Dividend yield: A ratio that compares the amount the company pays out in dividends per share to its share price. You use yields to gauge a dividend’s rate of return. Yields move inversely to share price – that is, yields go up when share prices go down (and vice versa).

✓ Earnings per share (EPS): The portion of a company’s profit allocated to each share of stock. If XYZ Company sold 2 million shares of stock and earned a profit of $1 million, it earned 50 cents per share, or $1 million/2 million shares = $0.50. A company that earns $1 per share is twice as profitable as the one that earned 50 cents a share.

✓ Price-to-earnings ratio (P/E): The ratio of the share price to the annual earnings per share, which tells you how many dollars you need to invest to receive a dollar of the company’s profits.

✓ Payout ratio: The percentage of a company’s net profit it pays to shareholders in the form of dividends. The payout ratio indicates whether the company is sharing more of its profits with investors or reinvesting it in the company.

✓ Net margin: The ratio of net profits to net revenues, indicating the percentage of each dollar of sales that translates into a profit. High net margins typically indicate that a company has little competition and large demand for its products. This situation allows the company to charge a high price for its products or services.

✓ Return on equity (ROE): The ratio of a company’s annual net profit to shareholder equity, ROE provides some indication of how effective a company is turning investor dollars into profits.

✓ Quick ratio: An indication of a company’s liquidity or ability to meet its short-term financial obligations. The higher the ratio, the more likely it can afford to pay dividends moving forward.

✓ Debt covering ratio: An indication of whether a company has sufficient operating income to cover its current liabilities, including payments on debt.

✓ Cash flow: The difference in how much actual cash comes into the company during the quarter versus how much it pays out. A company can make a lot of sales in a quarter, but if clients don’t pay their bills, no cash comes into the firm.

Don’t evaluate a company based on one value. The numbers work collectively to paint a portrait of the company’s current financial status. For additional guidance on interpreting these values, see Chapter 9.

Performing additional research and analysis

Numbers paint a fairly detailed portrait of a company’s current financial status and can even be used to some degree to forecast the company’s future performance. Numbers, however, provide no context. They may indicate potential problems or opportunities, but they don’t reveal what’s causing those problems or making those opportunities available. They provide little indication of the company’s management philosophy or expertise; or outside factors, such as the state of the economy, what’s going on in the sector, and what analysts and investors think of the company’s prospects.

To find out everything you need to know to make a wise decision, you have to do some research. Here are some suggestions to find out more information about the companies you’re thinking of investing in:

✓ Read the quarterly earnings reports of the companies you’re thinking of investing in. Every public company is legally obligated to file these reports with the U.S. Securities and Exchange Commission (SEC) – the federal regulator of Wall Street.

✓ Research companies on the Internet. You can usually find plenty of information on the company’s website, in online financial publications, and on sites such as Yahoo! Finance and Google Finance. Use your favorite search engine to search for the company by name.

✓ Check out the competition online, too. Which company is leading the pack; what’s it doing that the others aren’t?

✓ Read reports written by stock analysts at investment banks. These analysts spend a lot of time each quarter investigating whether companies are performing up to their own expectations.

✓ Subscribe to and read financial publications online or off. Sorry, but not everything is available for free on the Internet – you usually have to pay for the best information, whether you get it online or in print.

✓ Check out what other investors have to say. Many investors maintain blogs that provide useful insights and can give you some sense of investor sentiment.

Blogs may provide insight, but never base an investment decision on a blog or comment from an investor. These people may have an agenda that conflicts with yours. Some people talk up stocks on Internet chat boards and blogs to raise the share price on the stocks they own so that they can cash out.

Building and Managing Your Portfolio

When you evaluate individual companies, you’re involved in what can best be described as identifying the best pieces for an investment puzzle. When you actually buy shares to assemble a portfolio, you shift to a more “big picture” perspective. Although you must micromanage the portfolio by keeping an eye on each investment, you also need to evaluate how each investment fits into your master plan and ultimate investment goals.

Settling on a stock-picking strategy

Every investor has a unique investment strategy for spinning straw into gold. Usually the best approach is a combination of several strategies to achieve the right balance of risk and return while efficiently reaching the investor’s goal.

Any general in the military can tell you that strategies don’t always unfold as planned on the battlefield, but not having a strategy in place is pure folly. Develop the best strategy possible, but keep in mind as you move forward, that you may need to adjust it.

The following are some semi-famous strategies that investors have developed for picking dividend stocks:

✓ The Dogs of the Dow: In 1991, Michael O’Higgins proposed an investment strategy called The Dogs of the Dow based on the fact that a dividend stock’s yield rises whenever its share price drops. Proponents of this theory believe that the components of the Dow Jones Industrial Average with the highest dividend yields have the greatest potential for capital appreciation in the coming year.

✓ The Geraldine Weiss Approach: Geraldine Weiss, editor of Investment Quality Trends (www.iqtrends.com), is a leading expert on dividend investing who promotes buying high-yield blue-chip stocks. The overall strategy is to buy high and sell low – that is, buy when dividend yields are at the historic highs and sell when the dividend yields hit historic lows. Sticking with blue-chips helps avoid financially troubled companies.

✓ Relative Dividend Yield: Developed by money manager Anthony Spare, this approach rates stocks by comparing a company’s dividend yield to that of the average yield of the S&P 500. In his book Relative Dividend Yield: Common Stock Investing for Income and Appreciation, 2nd Edition (Wiley), Spare recommends giving careful consideration to stocks with a dividend yield that’s more than double the average on the S&P 500.

✓ Dividend Achievers: Dividend Achievers identifies companies that have an outstanding track record for increasing dividend payments every year. To make it on the U.S. Broad Dividend Achievers Index, U.S. companies must have at least ten consecutive years of increasing regular dividends, be listed on the NYSE or NASDAQ, and have a minimum average daily cash volume of $500,000.

Limiting your exposure to risk

In the world of investing, risk is an ever-present reality, but you can implement several strategies to limit your exposure:

✓ Education and research: Knowledge is power, and by reading this book, you’re already engaged in the pursuit of the requisite insight and know-how.

✓ Dollar cost averaging: Dollar cost averaging is investing a fixed amount of money at regular intervals (such as monthly) toward the purchase of a particular investment. With dollar cost averaging, sometimes you pay more for the investment and sometimes less. This strategy reduces your chance of paying a premium for a large number of shares and then losing a huge amount of money when the price drops.

✓ Diversification: Don’t put all of your golden goose eggs in one basket by investing heavily in any one company, sector, or type of investment. By diversifying your portfolio with stocks, bonds, and cash, you not only spread the wealth but also lower your risk profile.

✓ Strategic timing: No, I’m not recommending that you try to time the market. What I do recommend is that you match your investment strategy to your time frame. Be aware of how many years you have before you need this money. The less time you have, the more conservative your investments should be. As you get older, consider allocating a higher percentage of your portfolio to safer investments, such as bonds, to protect your capital.

Buying and selling shares

After dealing with all the preliminaries, including settling on an investment strategy and carefully researching individual stocks, you’re almost ready to start trading. Almost, because you need to address one more preliminary – how you’re going to go about buying and selling shares. You basically have three options:

✓ Direct: You may be able to purchase shares directly from the company. For more about direct purchase programs, see Chapter 6.

✓ Broker: Brokers buy and sell shares on commission. In other words, they execute trades on your behalf. A full-service broker charges more but may offer some valuable insight and advice. A discount broker merely processes your order. If you’re a do-it-yourselfer, this route is the way to go.

✓ Investment advisor: A registered investment advisor is a step above a broker. An advisor can help you build and manage a portfolio to meet your financial goals, recommend stocks and other investments to consider, and meet with you regularly to make adjustments.

Reviewing your portfolio regularly

In the best of all possible worlds, you can build your portfolio and let it set sail without a care in the world. In the real world, you must continue to invest at least some time and effort reviewing your portfolio and making adjustments. Monitoring dividend stocks consists of reevaluating them regularly, using the same criteria you used to select them in the first place: dividend, yield, price-to-earnings ratio, payout ratio, and so on. When you notice the performance of one of the stocks in your portfolio slipping or have reason to believe it will start slipping, you may need to replace it with a better prospect. In addition, you probably want to make adjustments to your portfolio as your goals change. At the very least, you should check your portfolio twice a year to make sure your asset allocations match your strategy.

Don’t fall asleep at the wheel. Companies, even large, well-established companies, can run aground. Remain vigilant and jump ship before that happens.

Staying on top of possible tax code changes

Tax legislation can make investing in dividend stocks more or less attractive. For many years, dividends were taxed as ordinary income – at a rate as high as 39.6 percent. In other words, for every dollar in dividends, investors had to fork over about 40 cents to Uncle Sam. In 1981, when the rate on long-term capital gains was reduced to a maximum of 20 percent, many investors shifted from dividend to growth stocks to give themselves a tax cut.

The Jobs and Growth Tax Relief Reconciliation Act of 2003 (JGTRRA) changed all that. It dropped the tax rate on long-term capital gains and dividends to a maximum of 15 percent, leveling the playing field.

Tax legislation can be a game changer, and Congress can change the rules at any time. Remain vigilant to protect yourself from unfavorable tax legislation and to take advantage of favorable legislation. Remember, the less you pay in taxes, the more you get to keep and even reinvest.

Checking Out Various Investment Vehicles

Investment vehicle is a fancy term used to describe an investment product other than basic stocks or bonds. Sometimes it refers to a product, such as a fund, which holds many different stocks or bonds. Other times, it refers to a way to purchase stocks or bonds other than a straightforward purchase. Some examples are