Nov
22
2023
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Guide to Calculating EPS and Why It Matters

By | Growing Wealth, invest, Investing, Terminology | Comments Off on Guide to Calculating EPS and Why It Matters

Earnings per share (EPS) tells investors a company’s ability to produce income for shareholders, and relates to its profitability. To calculate EPS, investors can use a ratio that takes a company’s quarterly or annual net income and divide it by the number of outstanding shares of stock on the market.

Knowing a stock’s earnings per share can be a valuable portfolio benchmarking tool. Think of EPS as GPS for where a public company is on the value map, based on how profitable it has been. Further, knowing an investment’s EPS gives investors — and portfolio managers — a good indicator of a stock’s performance over a specific period of time and its potential share price performance in the near future.

Key Points

•   Earnings per share (EPS) is a ratio that measures a company’s ability to generate income for shareholders.

•   EPS is calculated by dividing a company’s net income by the number of outstanding shares of stock.

•   EPS is a valuable tool for benchmarking a company’s profitability and assessing its potential share price performance.

•   Basic EPS includes all outstanding stock shares, while diluted EPS considers additional assets like convertible securities.

•   EPS may help investors evaluate a company’s financial health, make investment decisions, and assess risk.

What Is Earnings Per Share (EPS)?

The starting point for any conversation about the EPS ratio is the earnings report companies issue to regulators, shareholders, and potential investors. Earnings reports play a major role, if not the starring role, during earnings season.

Publicly traded companies must, by law, report their earnings quarterly and annually. Earnings represent the net income a company generates (after taxes and after expenses are deducted), along with an estimate of what profits or losses can be expected going forward.

Typically, investment analysts, money managers and investors look at earnings as a major component of a company’s profit potential, with earnings per share a particularly useful measurement tool when gauging a company’s financial prospects.

While a company’s earnings call represents a publicly traded company’s revenues, minus operating expenses, earnings per share is different.

EPS indicates a firm’s earnings for investors, divided by the company’s number of remaining shares. Earnings per share is perhaps most optimal when comparing EPS rates of publicly traded firms operating in the same industry.

It is likely not, however, the only investment measurement tool when researching stocks and funds. Other key indicators, like share price, market share, market capitalization, dividend growth, and historical performance may also be added to the investment assessment mix. In all, though, it’s an important tool that can help determine the investing risk at play when making investing decisions.

If you’re wondering how to find earnings per share, investors can find a company’s quarterly and yearly EPS by visiting the firm’s investor relations page on its website or by plugging in the stock’s ticker symbol on major business and finance media platforms.


💡 Quick Tip: Before opening an investment account, know your investment objectives, time horizon, and risk tolerance. These fundamentals will help keep your strategy on track and with the aim of meeting your goals.

Basic and Diluted EPS

When companies report earnings per share, they may do so in two forms: basic EPS or diluted EPS. Each has key distinctions that investors should know about. Basic EPS is a good barometer of a firm’s financial health, while diluted EPS represents a deeper dive into a company’s financial metrics and its use of alternative assets like convertible securities.

Basic

Basic earnings per share, or basic EPS, includes all of a publicly traded company’s outstanding stock shares.

Diluted

Diluted earnings per share, or diluted eps, includes all of a company’s outstanding stock shares, plus its investable assets, like stock options, stock warrants, and other forms of convertible investments tied to a company’s financial performance that could become common stocks one day.

One big takeaway for both EPS models is that any major deviation between basic and diluted EPS calculations should be considered a warning sign to investors, as it indicates that a company’s use of convertible securities is complicated and still in flux.

That scenario may indicate that the company isn’t in an ideal position to provide accurate share value to the investing public at a given time.

Why Is EPS Important to Investors

EPS calculations are not only a snapshot of a company’s profit performance, but they can also be used to evaluate a company’s stock price going forward. Even a moderate increase in EPS may indicate that a company’s profit potential is on the upside, and investors may take that as a sign to buy the company’s stock.

Conversely, a small decrease in a company’s EPS from quarter to quarter may trigger a red flag among investors, who could view a downward EPS trend as a larger profit issue and shy away from buying the company’s stock.

In short, the higher the EPS, the more attractive that company’s stock generally is to investors. But the higher a stock’s EPS, the more expensive its shares are likely to be.

Once investors have an accurate EPS figure, they can decide if a stock is priced fairly and make an appropriate investment decision.

What Is Considered a Good EPS Ratio?

There’s no hard and fast figure to point to when trying to determine a good EPS ratio. It’s perhaps better practice to look, in general, for a higher number. Context is important, too, because whether an EPS is good may depend on the expectations surrounding it.

Companies grow at different rates, and some are in different stages of growth than others. With that in mind, you might expect a different EPS for, say, a tech startup than you would for a decades-old auto manufacturer. So, there are differences and contexts to take into consideration.

But again, it may be best to look for a high number — or, to do some research to figure out what analysts and experts are looking for in terms of a specific company’s EPS. Again, this can all help you determine whether a stock is right for your portfolio and strategy in accordance with your tolerance for risk.


💡 Quick Tip: How to manage potential risk factors in a self directed investment account? Doing your research and employing strategies like dollar-cost averaging and diversification may help mitigate financial risk when trading stocks.

Earnings Per Share Ratio Considerations

Investors should prepare to dig deeper and examine what factors influence EPS figures. These factors are at the top of that list:

•   EPS numbers can rise or fall significantly based on earnings’ rise or fall, or as the number of company shares rises or falls.

•   A company’s earnings may rise because sales are surging faster than expenses, or if company managers succeed in curbing operations costs. Additionally, investors may get a “false read” on EPS if too many company expenses are shed from the EPS calculation.

•   A company’s number of outstanding shares may fall if a company engages in significant stock share buybacks. Correspondingly, shares outstanding may jump when a firm issues new stock shares.

•   A company’s profit margins are also a big influencer on EPS. A company that is losing money usually has a negative EPS number. (Then again, that may send a wrong signal to investors. The company could be on the path to profits, and that trend may not show up in an EPS calculation.)

•   A price to earnings ratio is another highly useful metric to evaluate a stock’s share growth potential. Investors can find a P/E ratio through a proper calculation of EPS (“P” is the price per share; “E” refers to EPS), though it’s easy to look up a P/E ratio on any site that aggregates stock information.

EPS can be reported for each quarter or fiscal year, or it can be projected into the future with a forward EPS.

How to Calculate EPS

The EPS formula is fairly simple, and it can be used in a couple of different methods, too. The most common way to accurately gauge an EPS figure is through an end-of-period calculation.

EPS Formula

The EPS formula is a company’s net income, minus its preferred dividends, divided by the number of shares outstanding. It looks like this:

EPS = (net income – preferred dividends) / outstanding shares

EPS is perhaps usually calculated using preferred dividends, but it can be calculated without them, too. Here are a couple of examples:

Example With Preferred Dividends

Investors can calculate EPS by subtracting a stock’s total preferred dividends from the company’s net income. Then divide that number by the end-of-period stock shares that are outstanding.

Basic EPS = (net income – preferred dividends) / weighted average number of common shares outstanding

For example, ABC Co. generates a net income of $2 million in a quarter. Simultaneously, the company rolls out $275,000 in preferred dividends and has 12 million outstanding shares of stock. In that calculation, knowing that shares of common stock are equal in value, the company’s earnings per share is $0.14.

(2,000,000 – 275,000) ÷ 12,000,000＝ 0.14

Example Without Preferred Dividends

For smaller publicly traded companies with no preferred dividends, the EPS calculation is more straightforward.

Basic EPS = net income / weighted average number of common shares outstanding

Let’s say DEF Corp. has generated a net income of $50,000 for the year. As the company has no preferred shares outstanding and has 5,000 weighted average shares on an annual basis, its earnings per share is $10.

50,000 ÷ 5,000＝ 10

In any EPS calculation, preferred dividends must be severed from net income. That’s because earnings per share is primarily designed to calculate the net income for holders of common stock.

Additionally, in most EPS end-of-period calculations, a company is mostly likely to calculate EPS for end-of-year financial statements. That’s because companies may issue new stock or buy back existing shares of company stock.

In those instances, a weighted average of common stock shares is required for an accurate EPS assessment. (A weighted average of a company’s outstanding shares can provide more clarity because a fixed number at any given time may provide a false EPS outcome, as share prices can be volatile and change quickly on a day-to-day basis.)

The most commonly used EPS share model calculation is the “trailing 12 months” formula, which tracks a company’s earnings per share by totaling its EPS for the previous four quarters.

The Takeaway

Earnings per share (EPS) can be calculated by investors to get a better sense of a company’s ability to produce income for shareholders. To calculate EPS, investors can use a ratio that takes a company’s quarterly or annual net income and divide it by the number of outstanding shares of stock on the market. There are different variations of the calculation, too.

Earnings trends, up or down, make earnings per share one of the most valuable metrics for assessing investments. Four or five years of positive EPS activity is considered an indicator that a company’s long-term financial prospects are robust and that its share growth should continue to rise.

Ready to invest in your goals? It’s easy to get started when you open an investment account with SoFi Invest. You can invest in stocks, exchange-traded funds (ETFs), mutual funds, alternative funds, and more. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).


For a limited time, opening and funding an Active Invest account gives you the opportunity to get up to $1,000 in the stock of your choice.

FAQ

How do you calculate EPS by year?

To calculate EPS by year, investors can use the formula that subtracts preferred dividends from net income, and then divide that number by the weighted average of common shares outstanding for the given year.

What is a good EPS ratio?

Each company is different, as is the context surrounding it, so there is no general rule about what makes a “good” EPS ratio for any given stock. Instead, investors should gauge analyst expectations, and consider a company’s age, among other things, to determine if its EPS is good or bad.

What are the two ways to calculate EPS?

Earnings per share (EPS) can be calculated with preferred dividends, or without preferred dividends, depending on the specific company.

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INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE
SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

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22
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Is a Reverse Stock Split Good or Bad?

By | Growing Wealth, invest, Investing | Comments Off on Is a Reverse Stock Split Good or Bad?

A stock split allows companies to increase the number of shares offered to investors, without changing shareholder equity. Rather than issuing new shares, companies may split stock to reduce prices. A reverse stock split can be used to condense and combine stock shares. This type of stock split is often done to increase share prices.

While a reverse stock split can improve a stock’s price in the near term, it could be a sign that a company is struggling financially. Large fluctuations in stock pricing associated with a reverse stock split could also cause investors to lose money. For investors who are concerned about managing risk inside their investment portfolio, it’s important to understand how a reverse stock split works, along with the pros and cons.

Key Points

•   A reverse stock split reduces the number of shares on the market and can be used to boost share prices in the short-term.

•   Companies may execute a reverse stock split to attract new investors, or meet minimum bid price requirements.

•   Investors don’t usually lose money on a stock split, but the value of their shares and dividend payments may change.

•   Whether a reverse stock split is good or bad depends on the company’s financial situation and goals.

•   A reverse stock split may create opportunities for growth or result in losses if the new price doesn’t hold.

What Is a Reverse Stock Split?

A stock split increases the number of shares available to trade without affecting an investor’s equity stake in those shares. For example, if you own 100 shares of XYZ stock and the company initiates a two-for-one split, you’d own 200 shares of stock once it’s completed. At the same time, the stock’s price would be cut in half. So if your shares were worth $100 before, they’d be worth $50 each afterward.

A reverse stock split moves in the opposite direction. Companies can use different ratios for executing reverse stock splits. For example, a company could decide to initiate a reverse split that converts every 10 shares of stock into a single share. So if you owned 100 shares before the reverse split, you’d own 10 shares afterward.

The stock’s price would also change proportionately. So if each share of stock was valued at $10 before the split, those shares would be worth $100 afterward. Your overall investment would still be valued at $1,000; the only thing that changes is the number of shares you own.

Why Do Companies Execute Reverse Stock Splits?

There are different reasons why a company may choose to execute a reverse stock split. Most often, it’s used as a tool for increasing the share prices of stock.

Raising stock prices is a tactic that can be used to attract new investors if the company believes the current trading price is too low. A higher share price could send a signal to the market that the company is worth investing in. Companies may also choose to reverse split stocks to meet minimum bid price requirements in order to stay listed on a major stock exchange.

Reverse stock splits don’t affect a company’s market capitalization, which represents the total number of a company’s outstanding shares multiplied by its current market price per share. But by consolidating existing shares into fewer shares, those shares can become more valuable.

Do Investors Lose Money on a Stock Split?

Investors don’t usually lose money on a stock split. Avoiding losses is part of investing strategically, and it makes sense if investors wonder how a forward stock split or a reverse stock split could impact them financially.

A stock split itself doesn’t cause an investor to lose money, because the total value of their investment doesn’t change. What changes is the number of shares they own and the value of each of those shares.

For example, if you have $1,000 invested before a forward stock split or a reverse stock split, you would still have $1,000 afterward. But depending on which way the stock split moves, you may own more or fewer shares and the price of those shares would change correspondingly.

If you own a stock that pays stock dividends, those dividend payments would also adjust accordingly. For instance, in a forward two-for-one split of a stock that’s currently paying $2 per share in dividends, the new payout would be $1 per share. If you own a stock that pays $1 per share in dividends, then undergoes a reverse stock split that combines five shares into one, your new dividend payout would be $5 per share.

Are Reverse Stock Splits Good or Bad?

Whether a reverse stock split is good or bad can depend on why the company chose to initiate it and the impacts it has on the company’s overall financial situation.

At first glance, a reverse stock split can seem like a red flag. If a company is trying to boost its share price to try and attract new investors, that could be a sign that it’s desperate for cash. But there are other indicators that a company is struggling financially. A poor earnings call or report, or a diminishing dividend could also be clues that a company is underperforming.

In terms of outcomes, there are two broad paths that can open up following a reverse stock split.

A Reverse Stock Split Could Create Opportunities

One potential path creates new opportunities for the company to grow and strengthen financially, but this is usually dependent on taking other measures. For example, if a company is also taking steps to reduce its debt load or improve earnings, then a reverse stock split could yield long-term benefits with regard to pricing.

A Reverse Stock Split Could Result in Losses

On the other hand, a reverse stock split could result in losses to investors if the new price doesn’t stick. If stock prices fall after a reverse stock split, that means an investor’s new combined shares become less valuable. This scenario may be likely if the company isn’t making other efforts to improve its financial situation, or if the efforts they are making fail.

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Should I Sell Before a Stock Split?

There are many factors that go into deciding when to sell a stock. Whether it makes sense to sell before a stock split or after can depend on what other signs the company is giving off with regard to its financial health and how an investor expects it to perform after the split.

Investors who have shares in a company that has a strong track record overall may choose to remain invested. Even though a split may result in a lower share price in the near term, their investments could grow in value if the price continues to climb after the split.

With a reverse stock split, a decision to sell (or not sell) may hinge on why the company is executing the split. If a reverse stock split is being done to raise prices and attract new investors, it’s important to consider what the company’s goals are for doing so.

Taking a look at the company’s finances and comparing things like price to earnings (P/E) ratio, earnings per share (EPS) and other key ratios that may be gleaned by reading the company’s earnings report, can give you a better idea of which direction things may be headed.

The Takeaway

A reverse stock split involves a company reducing the overall number of shares on the market, likely in an effort to boost share prices. A reverse stock split itself shouldn’t have an immediate or outsized impact on an investor — their overall investment value remains the same, even as stocks are consolidated at a higher price. But the reasons behind the reverse stock split are worth investigating, and the split itself has the potential to drive stock prices down.

Stock splits are something investors may encounter from time to time. Understanding what the implications of a forward or reverse stock split are and what they can tell you about a company can help an investor develop a strategy for managing them.

Ready to invest in your goals? It’s easy to get started when you open an investment account with SoFi Invest. You can invest in stocks, exchange-traded funds (ETFs), mutual funds, alternative funds, and more. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).

For a limited time, opening and funding an Active Invest account gives you the opportunity to get up to $1,000 in the stock of your choice.

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INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE
SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Disclaimer: The projections or other information regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results, and are not guarantees of future results.
Claw Promotion: Customer must fund their Active Invest account with at least $25 within 30 days of opening the account. Probability of customer receiving $1,000 is 0.028%. See full terms and conditions.

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22
2023
Tax Loss Carryforward

Tax Loss Carryforward

By | Growing Wealth, invest, Investing | Comments Off on Tax Loss Carryforward

A tax loss carryforward is a special tax rule that allows capital losses to be carried over from one year to another. In other words, an investor can take capital losses realized in the current tax year to offset gains or profits in a future tax year.

Investors can use a capital loss carryforward to minimize their tax liability when reporting capital gains from investments. Business owners can also take advantage of loss carryforward rules when deducting losses each year. Knowing how this tax provision works and when it can be applied is important from an investment tax savings perspective.

Key Points

•   Tax loss carryforward allows investors to offset capital losses against future gains, reducing tax liability.

•   Investors can take advantage of tax loss carryforward by deducting capital losses from taxable income, reducing their overall tax liability.

•   Capital loss carryforward rules prohibit violating the wash-sale rule and have limitations on deductions.

•   Net operating loss carryforward is similar to capital loss carryforward for businesses operating at a loss.

•   Losses can be carried forward indefinitely at the federal level, but capital losses must be used to offset capital gains in the same year.

What Is Tax Loss Carryforward?

Tax loss carryforward, sometimes called capital loss carryover, is the process of carrying forward capital losses into future tax years. A capital loss occurs when you sell an asset for less than your adjusted basis. Capital losses are the opposite of capital gains, which are realized when you sell an asset for more than your adjusted basis.

Adjusted basis means the cost of an asset, adjusted for various events (i.e., increases or decreases in value) through the course of ownership.

Whether a capital gain or loss is short-term or long-term depends on how long you owned it before selling. Short-term capital losses and gains apply when an asset is held for one year or less, while long-term capital gains and losses are associated with assets held for longer than one year.

The Internal Revenue Service (IRS) allows certain capital losses, including losses associated with personal or business investments, to be deducted from taxable income.

There are limits on the amount that can be deducted each year, however, depending on the type of losses being reported. For example, the IRS allows investors to deduct up to $3,000 from their taxable income if the capital loss is from the sales of assets like stocks, bonds, or real estate. If capital losses exceed $3,000, the IRS allows investors to carry capital losses forward into future years and use them to reduce potential taxable income.

💡 Recommended: SoFi’s Guide to Understanding Your Taxes

How Tax Loss Carryforwards Work

A tax loss carryforward generally allows you to report losses realized on assets in one tax year on a future year’s tax return. Realized losses differ from unrealized losses or gains, which are the change in an investment’s value compared to its purchase price before an investor sells it.

IRS loss carryforward rules apply to both personal and business assets. The main types of capital loss carryovers allowed by the Internal Revenue Code are capital loss carryforwards and net operating loss carryforwards.

Capital Loss Carryforward

IRS rules allow investors to “harvest” tax losses, meaning they use capital losses to offset capital gains. An investor could sell an investment at a capital loss, then deduct that loss against capital gains from other investments to reduce taxable income, assuming they don’t violate the wash-sale rule.

The wash-sale rule prohibits investors from buying substantially identical investments within the 30 days before or 30 days after the sale of a security for the purpose of tax-loss harvesting.

If capital losses are equal to capital gains, they will offset one another on your tax return, so there’d be nothing to carry over. For example, a $5,000 capital gain would cancel out a $5,000 capital loss and vice versa.

However, if capital losses exceed capital gains, investors can deduct a portion of the losses from their ordinary income to reduce tax liability. Investors can deduct the lesser of $3,000 ($1,500 if married filing separately) or the total net loss shown on line 21 of Schedule D (Form 1040). But any capital losses over $3,000 can be carried forward to future tax years, where investors can use capital losses to reduce future capital gains.

To figure out how to record a tax loss carryforward, you can use the Capital Loss Carryover Worksheet found on the IRS’ Instructions for Schedule D (Form 1040) .

💡 Recommended: A Guide to Tax-Efficient Investing

Net Operating Loss Carryforward

A net operating loss (NOL) occurs when a business has more deductions than income. Rather than posting a profit for the year, the company operates at a loss. Business owners may be able to claim a NOL deduction on their personal income taxes. Net operating loss carryforward rules work similarly to capital loss carryforward rules in that businesses can carry forward losses from one year to the next.

According to the IRS, for losses arising in tax years after December 31, 2020, the NOL deduction is limited to 80% of the excess of the business’s taxable income. To calculate net operating loss deductions for your business, you first have to omit items that could limit your loss, including:

•   Capital losses that exceed capital gains

•   Nonbusiness deductions that exceed nonbusiness income

•   Qualified business income deductions

•   The net operating loss deduction itself

These losses can be carried forward indefinitely at the federal level.

Note, however, that the rules for NOL carryforwards at the state level vary widely. Some states follow federal regulations, but others do not.

How Long Can Losses Be Carried Forward?

According to IRS tax loss carryforward rules, capital and net operating losses can be carried forward indefinitely. Before the Tax Cuts and Jobs Act of 2017, business owners were limited to a 20-year window when carrying forward net operating losses.

It’s important to remember that capital loss carryforward rules don’t allow you to roll over losses. IRS rules state that you must use capital losses to offset capital gains in the year they occur. You can only carry capital losses forward if they exceed your capital gains for the year. The IRS also requires you to use an apples-to-apples approach when applying capital losses against capital gains.

For example, you’d need to use short-term capital losses to offset short-term capital gains. You couldn’t use a short-term capital loss to balance out a long-term capital gain or a long-term capital loss to offset a short-term capital gain. This rule applies because short- and long-term capital gains are subject to different tax rates.

Example of Tax Loss Carryforward

Assume that you purchase 100 shares of XYZ stock at $50 each for a total of $5,000. Thirteen months after buying the shares, their value has doubled to $100 each, so you decide to sell, collecting a capital gain of $5,000.

Suppose you also hold 100 shares of ABC stock, which have decreased in value from $70 per share to $10 per share over that same period. If you decide to sell ABC stock, your capital losses will total $6,000 – the difference between the $7,000 you paid for the shares and the $1,000 you sold them for.

You could use $5,000 of the loss of ABC stock to offset the $5,000 gain associated with selling your shares in XYZ to reduce your capital gains tax. Per IRS rules, you could also apply the additional $1,000 loss to reduce your ordinary income for the year.

Now, say you also have another stock you sold for a $6,000 loss. Because you already have a $1,000 loss and there is a $3,000 limit on deductions, you could apply up to $2,000 to offset ordinary income in the current tax year, then carry the remaining $4,000 loss forward to a future tax year, per IRS rules. This is an example of tax loss carryforward. All of this assumes that you don’t violate the wash-sale rule when timing the sale of losing stocks.

💡 Recommended: What to Know about Paying Taxes on Stocks

The Takeaway

If you’re investing in a taxable brokerage account, you must include tax planning as part of your strategy. Selling stocks to realize capital gains could result in a larger tax bill if you’re not deducting capital losses at the same time. With tax-loss harvesting, assuming you don’t violate the wash sale rule, it’s possible to carry forward investment losses to help reduce the tax impact of gains over time. This applies to personal as well as business gains and losses. Thus, understanding the tax loss carryforward provision may help reduce your personal and investment taxes.

If you’re interested in building a portfolio with financial guidance, it may help to open an online brokerage account with SoFi Invest®. With SoFi, you can trade stocks, exchange-traded funds (ETFs), and fractional shares with no commissions. Even better, as a SoFi Member, you have access to financial professionals who can offer complimentary guidance and answer your most pressing investing questions.

Take a step toward reaching your financial goals with SoFi Invest.

Photo credit: iStock/bymuratdeniz

SoFi Invest®
INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE
SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

External Websites: The information and analysis provided through hyperlinks to third-party websites, while believed to be accurate, cannot be guaranteed by SoFi. Links are provided for informational purposes and should not be viewed as an endorsement.

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What is a Retail Investor? Definition, Pros, and Cons

Retail Investors: Definition, Pros, and Cons

By | Growing Wealth, invest, Investing | Comments Off on Retail Investors: Definition, Pros, and Cons

When it comes to buying and selling stocks, bonds, exchange-traded funds (ETFs), and other securities, there are two primary types of investors: institutional and retail investors.

Unless you work at an investment bank or big brokerage firm, you likely fall into the latter category. Institutional investors generally buy and sell securities on behalf of corporations, funds, organizations, or other high-net-worth individuals, whereas retail investors make investment decisions for themselves.

Here’s a closer look at what a retail investor, or retail trader, is and the pros and cons of investing on your own.

Key Points

•   Retail investors are non-professional individuals who invest money in their own accounts through brokerage firms.

•   Retail investors may manage their own accounts, or hire a professional to guide their investment decisions.

•   Retail investors typically make smaller transactions compared to institutional investors.

•   The SEC protects retail investors by enforcing securities laws and providing online education.

•   Retail investor activity may impact individual stocks and the market at large.

What Is a Retail Investor?

A retail investor is a non-professional, individual investor who invests money in their own accounts, typically through traditional or online brokerage firms. They may invest as an active investor, allocating the money and making trades on their own, or they may hire a professional, such as a financial planner or advisor, to oversee the investment decision-making process.

Retail trading typically involves relatively small transactions, perhaps in the hundreds or thousands of dollars. Institutional investors, such as hedge funds, might move millions of dollars with every trade.

The Securities and Exchange Commission (SEC) protects retail investors by enforcing securities laws and providing online education for investors.

How Retail Investing Works

Retail investors start by opening a brokerage account with a traditional or online broker. Online brokers may offer automated accounts, also known as robo advisors, that can help investors who prefer a hands-off approach to building a financial portfolio.

Investors transfer money into their brokerage account and then buy and sell securities, including a wide range of stocks, bonds, exchange-traded funds (ETFs), and mutual funds. Alternatively, they can have a financial professional buy and sell securities on their behalf.

Retail investors may choose to invest in various securities depending on their investment goals and risk tolerance. For example, an investor looking for long-term growth may decide to invest in stocks, while an investor looking for steady income may choose to invest in bonds. Retail investors may also diversify their portfolios by investing in a mix of securities, such as stocks, bonds, and alternative assets.

Investors may have to pay investment commissions and fees to make trades, especially when working with a professional. Because retail investors tend to make smaller trades, these fees may be relatively high. That said, many online brokerages have reduced or eliminated commissions for individuals making trades for certain securities like stocks or ETFs. Investors can minimize the impact of commissions or fees by avoiding frequent trades and holding investments over the long term.

💡 Recommended: How to Invest in Stocks: A Beginner’s Guide

Overview of the U.S. Retail Investment Market

It is difficult to determine the exact size of the retail investment market in the U.S., as it is constantly changing and is influenced by various factors, such as economic and political events and market sentiment. Nonetheless, retail investors represent a significant portion of the American markets. By some estimates, there are more than 100 million retail investors, and American households own $38 trillion, or 59% of the U.S. equity market directly or through retirement accounts, mutual funds, and other investments.

The U.S. retail investment market has grown significantly in recent years, with many individual investors participating. This growth has been driven partly by the increasing availability of investment products and services and the increasing use of technology in the financial industry, making it easier for retail investors to access and trade securities.

What Impact Do Retail Investors Have on the Markets?

Retail investors can greatly impact individual stocks and the market at large. According to some experts, individuals are now having a greater impact on the market than they have for the last decade.

For example, retail investors took more interest in active trading during the pandemic and flocked to online brokers, trading apps, and automated investing services. During this time, investors drove up the price of so-called “meme stocks” to thwart hedge funds attempting to make money shorting the stock. Such campaigns created volatility throughout the market.

Whether this enthusiasm will continue remains to be seen. But some believe the recent popularity points to a permanent structural change in which retail investors continue to play a significant role in market movements in the future.

Get up to $1,000 in stock when you fund a new Active Invest account.*

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*Customer must fund their Active Invest account with at least $25 within 30 days of opening the account. Probability of customer receiving $1,000 is 0.028%. See full terms and conditions.

Pros and Cons of Being a Retail Investor

Being a retail investor can give you access to many benefits, though there are a few drawbacks to be aware of as well. Here’s a look at some pros and cons of being a retail investor compared to an institutional investor.

Pros: Being a Retail Investor

Some of the potential pros of being a retail investor include:

•   Control: As a retail investor, you can make your own investment decisions and choose the securities you invest in. This can be a significant advantage for those who want to control their investment portfolio and actively participate in the investment process.

•   Diversification: Retail investors can diversify their portfolios by investing in various securities, such as stocks, bonds, and alternative investments. Diversification can help reduce risk by spreading investments across multiple assets rather than being heavily concentrated in just one or a few investments.

•   Accessibility: The retail investment market is generally more accessible to individual investors than the institutional investment market, which is typically only open to large organizations, businesses, and high-net-worth individuals.

Cons: Being a Retail Investor

However, being a retail investor also has some potential drawbacks, including:

•   Limited resources: Retail investors may have fewer resources and less access to information than larger institutional investors. This can make it more challenging for retail investors to compete with institutional investors in some cases.

•   Higher costs: Retail investors may also face higher costs than institutional investors, such as higher trading fees and other expenses. These higher costs can eat into investment returns and make it more difficult for retail investors to achieve their financial goals.

•   Lack of expertise: Some retail investors may have a different level of expertise or knowledge about investing than professional investors or financial advisors. This can make it more challenging for them to make informed investment decisions.

Retail vs Institutional Investors: What Are the Differences?

Retail and institutional investors are two types of investors who buy and sell securities for different purposes. Some key differences between retail and institutional investors include the following.

Retail Investors

 Institutional Investors
Size Invest a relatively small amount of money Generally have significantly more capital and resources at their disposal
Investment goals May have various investment goals, such as saving for retirement, generating income, or growing their wealth over the long term May have more specific investment goals, such as maximizing returns or minimizing risk for clients or a particular group of investors
Investment strategies May focus on individual stocks and bonds, or use mutual funds and ETFs to diversify their portfolio May use more complex investment strategies, like quant trading and various derivatives
Access to information Relies on publicly available information or seeks guidance from financial advisors or other professionals Generally have access to more information and research, such as proprietary data and contacts within companies and governments
Costs Higher trading fees and other investment costs Lower trading fees and other investment costs

The Takeaway

If you’re an individual saving for the future with investments, you’re a retail investor. While there are some disadvantages to being a retail investor compared to an institutional investor, there are also many benefits, and it’s a good way to build financial security over time.

Ready to start participating in the markets? SoFi can help. With a SoFi Invest® online investment account, you can start trading stocks, ETFs, IPOs, fractional shares, and more with no commissions. Plus, you’ll have access to loads of educational resources to help you learn more about investing.

Take a step toward reaching your financial goals with SoFi Invest.

FAQ

Who is an individual retail investor?

A retail investor is an individual investor who buys and sells securities for their personal account rather than for a client, organization, or business. Retail investors may include individuals who invest in stocks, bonds, mutual funds, ETFs, and other securities through a brokerage account or other financial institution.

How do retail investors invest?

Retail investors invest in various securities and other financial instruments through a brokerage account or other financial institution. Some common ways retail investors invest include stocks, bonds, mutual funds, ETFs, and alternative investments.

How do I become a retail investor?

To become a retail investor, you’ll need to open a brokerage account with a financial institution, such as a bank or an online broker. Once you have opened a brokerage account, you’ll need to fund it. You can do this by transferring money from your bank account. Once your account is open and funded, you can start researching and choosing investments that align with your goals and risk tolerance. You can use the broker’s research tools and resources to help you make informed investment decisions.

SoFi Invest®
INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE
SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

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Nov
22
2023
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Capital Appreciation on Investments

By | Growing Wealth, invest, Investing | Comments Off on Capital Appreciation on Investments

The term capital appreciation refers to an investment’s value rising over time. Theoretically, capital, meaning money or funds, appreciates, or goes up (as opposed to depreciates) after an investor initially purchases it, and that rise in value is what’s referred to as capital appreciation.

Of course, capital can also depreciate, but investors aren’t usually looking for negative returns. This is an important concept for investors to grasp, too, as capital appreciation is likely the main goal of most investors’ overall strategies.

Key Points

•   Capital appreciation refers to the increase in an investment’s value over time.

•   Calculating capital appreciation involves comparing the current market price of an asset to its original purchase price.

•   Factors such as company performance, economic conditions, and monetary policy can influence capital appreciation.

•   Assets like stocks, real estate, mutual funds, ETFs, and commodities are commonly associated with capital appreciation.

•   Capital appreciation is an important component of long-term wealth-building strategies, along with income from dividends and interest.

What Is Capital Appreciation?

As noted, capital appreciation refers to a rise in the price of an investment. Essentially, it is how much the value of an asset has increased since an investor purchased it. Analysts calculate capital appreciation by comparing the asset’s current market price and the original purchase price, also called the cost basis.

Example of Capital Appreciation

Capital appreciation can be understood by analyzing an example from stock market investing.

If an investor purchases 100 shares of Company A for $10 a share, they are buying $1,000 worth of stock. If the price of this investment increases to $12 per share, the initial 100 share investment is now worth $1,200. In this example, the capital appreciation would be $200, or a 20% increase above the initial investment.


💡 Quick Tip: Look for an online brokerage with low trading commissions as well as no account minimum. Higher fees can cut into investment returns over time.

What Causes Capital Appreciation?

The value of assets can rise and fall for various reasons. These include factors specific to individual investments and those affecting the economy and financial world as a whole.

Asset Fundamentals

In the most traditional sense, the price of an asset will increase because of a rise in the fundamental value of the underlying investment. When investors see that a company is doing well and expect it to keep doing well, they will invest in the company’s stock. This activity pushes the stock price up, resulting in capital appreciation if an investor holds shares in the company.

For a real estate asset, the value of a property could go up after a homeowner or landlord renovates a structure. This capital improvement increases the property’s market value.

Macroeconomic Factors

When the economy is booming, it can buoy all kinds of financial assets. In a strong economy, people typically have good jobs and can afford to spend money. This helps many companies’ bottom lines, which causes investors to put money into shares of the company. The opposite of this scenario is also true. When the economy endures a downturn, asset prices may fall.

Recommended: Understanding Economic Indicators

Monetary Policy

Central banks like the Federal Reserve play a significant role in how the financial markets operate. Because of this, the monetary policy set by central banks can play a prominent role in capital appreciation.

For example, when a central bank cuts interest rates, corporations can usually borrow money at a lower cost. Businesses often use this injection of cheap money to invest in and grow their business, which may cause investors to pour into the stock market and push share prices higher. Additionally, companies may take advantage of lower interest loans to borrow money to buy shares of their stock, known as a stock buyback. These moves may push share prices higher, further leading to capital appreciation.

Another monetary policy tool is quantitative easing (QE), which refers to a method of central bank intervention where central banks purchase long-term securities to increase the supply of money and encourage investment and lending. Like a low interest rate policy, this method can lead to rising asset prices because more money is being added to the economy — money that flows into assets, bidding their prices higher.

Speculation

Another potential cause of capital appreciation is speculation. Speculation occurs when many investors perceive the value of a particular asset as being higher than it is and start buying the asset in anticipation of a higher price. This activity may lead to the price of an asset being pushed higher. After a frenzy, the price of the asset eventually drops as investors sell in a panic when they realize there’s no fundamental reason to keep holding the asset. This type of speculation is fueled by investors’ emotions, rather than financial fundamentals.

Assets Designed for Capital Appreciation

There are several categories of assets that are designed for returns through price appreciation. Investors generally hold these investments for the long term hoping that prices will rise. This isn’t an exhaustive list, but it provides a good overview.

Stocks

Stocks are a type of financial security that represents equity ownership in a corporation. They can be thought of as little pieces of a publicly-traded company that investors can purchase on an exchange, with hopes that the price of the shares will go up.

Real Estate

Real estate is a piece of land and anything attached to that land. Many people build wealth through homeownership and capital appreciation, buying a house at a specific price with an expectation that it will appreciate in value by the time they are ready to sell.

Residential real estate is just one area of real estate investment. Investors may also look to put money into commercial, industrial, and agricultural real estate activities. Investors can invest in various real estate investment trusts (REITs) to get exposure to returns on real estate.

Mutual Funds

A mutual fund consists of a pool of money from many investors. The fund might invest in various assets, including stocks, bonds, commodities, or anything else. In the context of a mutual fund, capital appreciation occurs when the value of the assets in the fund rises.

ETFs

Similar to mutual funds, exchange-traded funds (ETFs) are investment vehicles that contain a group of different stocks, bonds, or commodities. ETFs can track stocks in one particular industry, e.g., gold mining stocks, or track all the stocks in an entire index such as the S&P 500. As the name suggests, ETFs are bought and sold on exchanges just like stocks.

Commodities

Commodities are an investment that has a tangible economic value. This means that the market values these raw materials because of their different use cases. For example, commodities like oil and wheat are desired because they can power automobiles and be used for food, respectively. Commodities markets can be highly volatile, but many investors take advantage of the volatility to see the capital appreciation on both a short-term and long-term time horizon.


💡 Quick Tip: Distributing your money across a range of assets — also known as diversification — can be beneficial for long-term investors. When you put your eggs in many baskets, it may be beneficial if a single asset class goes down.

Capital Appreciation Bonds

Capital appreciation bonds are municipal securities backed by local government agencies. With these bonds, investors hope to receive a significant return in the future by investing a small amount upfront.

Like all bonds, capital appreciation bonds yield interest, which is a primary reason that investors buy them. But instead of paying out interest annually, the interest gets compounded regularly until maturity. This gives the investor one lump sum payout at the end of the bond’s lifetime.

Unlike other assets that experience capital appreciation, the price of the capital appreciation bond does not rise. Instead, capital appreciation refers to the compounded interest paid out to the bondholder at maturity.

Capital Appreciation vs Capital Gains

Though the terms are sometimes used interchangeably, there is a difference between capital appreciation and capital gains.

Capital appreciation occurs when the value of an investment rises above the purchase price while the investor owns the asset. In contrast, capital gains are the profit made once an investment is sold. Appreciation is, in effect, an “unrealized” gain. It becomes “realized” once the investment is sold for a profit.

Capital appreciation alone does not have tax implications; an investor doesn’t have to pay taxes on the price growth of an investment when they own it. But when an investor sells an investment and realizes a profit, they must pay capital gains taxes on the windfall.

Capital Appreciation vs Income

Capital appreciation is one piece of the puzzle in an investment strategy. Another critical component to build wealth is investing in assets that pay out dividends, interest, and other income sources.

A dividend is a portion of a company’s earnings paid out to the shareholders. For every share of stock an investor owns, they get paid a portion of the company’s profits.

Interest income is typically earned by investing in bonds, otherwise known as fixed-income investments. The interest payment is determined by the bond’s yield or interest rate. Investors can also be paid interest by putting money into savings accounts or certificates of deposit (CDs).

For real estate investors, rents paid by tenants can also act as a regular income payout.

Investing in assets that pay out regular income can supplement capital appreciation. The combination of capital appreciation with income returns is the total return of an investment.

Risks Associated With This Type of Investment

Assets intended for capital appreciation tend to be riskier than those intended for capital preservation, like many types of bonds.

Investing in stocks for capital appreciation alone is also known as growth investing. This strategy is typically focused on investing in young or small companies that are expected to increase at an above-average rate compared to the overall market.

The returns with a growth investing strategy can be high, but the risk involved is also high. Because they don’t have a long track record, these small and young companies can struggle to grow their business and lead to bankruptcy.

The Takeaway

Capital appreciation refers to the rise in value, or price, of an investment in an investor’s portfolio. It’s paramount to the whole concept of investing, as most investors invest in an effort to generate returns, or appreciation, on their money.

Capital appreciation is one part of a long-term wealth-building strategy. Along with income from dividends, interest, and rent, capital appreciation is part of the total return of an investment that investors need to consider.

Ready to invest in your goals? It’s easy to get started when you open an investment account with SoFi Invest. You can invest in stocks, exchange-traded funds (ETFs), mutual funds, alternative funds, and more. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).

For a limited time, opening and funding an Active Invest account gives you the opportunity to get up to $1,000 in the stock of your choice.

FAQ

What is the difference between capital growth and capital appreciation?

The difference between the terms capital growth and capital appreciation is merely semantics. Both terms refer to an increase in value of an investment over time, and effectively mean the same thing.

How much tax do you pay on capital appreciation?

Investors do not pay taxes on capital appreciation, as an investment gaining value does not trigger a taxable event. They do pay taxes on capital gains, which are realized when an investor sells an asset.

What is the difference between dividend and capital appreciation?

A dividend is a payout to shareholders from a company’s profits. Capital appreciation is the rise in market value of an investment or asset, so they are two completely different things.

SoFi Invest®
INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE
SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Claw Promotion: Customer must fund their Active Invest account with at least $25 within 30 days of opening the account. Probability of customer receiving $1,000 is 0.028%. See full terms and conditions.

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