Wall Street Steward Blog

Reader Questions - February 2011

Why do people buy a stock just before it splits?  Is there an advantage to doing that?  - Mike S.

I have NO IDEA why people do this.  There is no explicit benefit to doing this.  Sometimes stocks will spike on the day a split is announced and on occasion, this spike causes a desire for investors to buy a stock before the split actually occurs. 

If you own 100 shares of a $50 stock (value of $5,000), and the stocks splits 2 for 1…you now own 200 shares of a $25 stock (value still $5,000).  You have twice the shares, but the share price is ½ of what it was.

Sometimes, if the stock is a truly expensive stock, the split can act as a catalyst to attract smaller investors.  With a small amount of money to invest, an investor is less likely to buy a stock for $500 per share than they are for $50 per share.  Despite that fact, over time, it has very little impact on the price movement of the company. 

What is the difference between FDIC insurance and SIPC insurance?
- Kay V.

The Federal Deposit Insurance Corporation (FDIC) is an agency created by the US Congress to insure deposits in financial institutions.  Each person’s deposits are insured up to $250,000 per bank as long as the bank is a member.  This insurance is meant to maintain the confidence a potential customer has in their financial institution.  Investment products are NOT FDIC insured.    

The Securities Investor Protection Corporation (SIPC) is a federally mandated corporation designed to protect investors’ capital if an investment firm FAILS.  This is insurance against the insolvency of the firm, NOT insurance against loss of capital.  The coverage is up to a total of $500,000, including up to $250,000 in cash.

In some cases, institutions will purchase additional insurance to provide their customers extra protection.  For example, through London Insurers, LPL accounts have additional securities protection to cover the net equity of customer accounts up to an overall aggregate firm limit of $575,000,000, subject to conditions and limitations.

Where do you get your ideas for your blog? 
- Lauren F. 

Anywhere I can find them!  Sometimes, an idea will just hit me and I have to race to a notepad to write it down before it disappears.  Other times a client will ask a question, and as I answer it, it will create an idea.

Two additional features that will added are a TERMINOLOGY section where I define industry jargon in real world terms and a CASE STUDY feature where I will use a created scenario with false names.  Seeing my opinions on a hypothetical case study will hopefully shed some light on how I would handle certain situations.  

Should I consider taking some of the equity out of my home and investing it? 
- Larry P.. 

No.  Despite interest rates being low, the last thing a homeowner should do it to take their home equity out and try to invest it.  Any investment that offers a reasonable rate of return (4% or more) is going to also include some risk, and to take risk with your home equity is a proposition that I would avoid. 

The best thing that could come of the situation is that the investments earn a good rate of return, but after paying the interest on the loan and any associated taxes on the growth, your “take-home” will most likely be minimal.

The worst thing that could happen is that the investment declines sharply just as the variable rate on the loan starts to increase.  Throw in a declining real estate market, and you could end up losing your home.

Not worth the risk.

Creative Commons License photo credit: Micky.!