Friday, 26 October 2007

Company and Stock?

Have you thought of these questions of what are the differences between a growth company and a growth stock? How about a defensive company and a defensive stock? Do they equate one another? What are their differences? Below is a summary of what do they actually meant.

Growth companies are ones that consistently earn higher returns than required by their risk. A growth stock is one that earns higher returns than other stocks of equivalent risk. Typically growth stocks have P/E ratios higher than that of the market average P/E as well.

A defensive company is a company that has earnings that are relatively insensitive to downturns in the economy. A utility company is a good example. These types of firms typically have low business risk and moderate financial risk. A defensive stock is a stock that will not decline as much as the market when the overall market declines. The returns of defensive stocks have a low correlation with the returns of the market. Defensive stocks are characterized by having low beta values.

A cyclical company is a company with earnings that tend to follow the business cycle. An automobile company is a good example. Cyclical companies often have high levels of fixed costs (business risk) and/or leverage (financial risk). A cyclical stock is a stock with rates of return that will change more than changes in the return on the overall market. These are stocks with betas greater than one, indicating more than a one-to-one reaction to changes in the return on the market.

A speculative company is a company that has assets that are very risky, but have the potential to generate very large earnings. An oil exploration company is a good example. A speculative stock is a stock that is highly likely to have very low or negative returns, because they are almost always overpriced. These stocks have a low probability of a return near that of the market, but a slight probability of an enormous return.

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