What is the Securities and Exchange Commission?

What is the SEC, SEC logo on blue background 2x1
The SEC investigates and prosecutes fraud, insider trading, and other securities-related crimes.

  • The SEC is a government agency that protects investors and ensures fair and efficient capital markets.
  • The SEC ensures investment brokers, stock exchanges, and other market participants comply with US securities laws.
  • It also regulates the disclosures of publicly held companies to help investors make informed decisions.
  • Visit Insider’s Investing Reference library for more stories.

If you’ve ever heard the name Bernie Madoff or Enron, then the Securities and Exchange Commission (SEC) is probably on your radar. But the agency does a lot more than just investigate white-collar crimes and financial scandals.

The SEC also regulates capital markets, ensures investors have a safe and fair playing ground, and holds publicly traded companies to certain reporting and disclosure laws, among other things. Here’s what you need to know about this important agency.

What is the SEC?

The SEC is an independent, public agency of the US government. It’s one of many agencies and wears several hats, but its main goal is to ensure the integrity of capital markets and the fair treatment of American investors.

“The Securities and Exchange Commission is the primary US securities market regulator,” says Robert R. Johnson, chartered financial analyst and professor of finance at Creighton University and author of various investing books, including “Investment Banking for Dummies.” “The mission of the SEC is to protect investors, maintain fair, orderly, and efficient markets, and facilitate capital formation.”

The agency also investigates and prosecutes fraud, insider trading, and other securities-related crimes. Enron and Bernie Madoff are two of the SEC’s highest-profile cases. Another well-known case is the investigation of Martha Stewart for insider trading in the early 2000s.

What does the SEC do?

The SEC’s overarching goal is to protect US investors by maintaining a fair market. But it doesn’t work directly with investors. Instead, it performs its duty by regulating stock exchanges, as well as those who sell and trade securities, including brokers, investment advisors and asset managers. It also regulates investment companies, including investments such as mutual funds and ETFs, and ensures that companies follow public disclosure and reporting laws.

“The SEC is there to instill confidence,” says Vincent Lupo, managing director of US Tiger Securities, an investment brokerage based in New York. “Whether you’re saving for retirement or trying to attain new financial goals, the SEC is there to enforce the rules and make sure you’re protected. They require public companies and other market participants to disclose financial and other important information so that investors have the complete information to make informed investment decisions – which is especially important in today’s marketplace.”

The SEC performs a variety of functions, including:

  • Protecting investors from financial fraud or manipulation
  • Enforcing securities laws and regulations
  • Regulating the activities of brokers, asset managers and other investment professionals
  • Informing investors with accurate market information, data and scam alerts
  • Monitoring corporate takeover actions
  • Ensuring publicly held companies follow disclosure and financial reporting laws

That last one is important, as all publicly held companies must both register with the SEC and issue certain disclosures and financial reports on a regular basis. According to John Carney, partner at law firm BakerHostetler and former senior counsel for the SEC, it’s also one of the most important SEC duties of all.

“They oversee how public companies report their earnings and how they make their disclosures, because that’s what makes stocks go up and down,” Carney says. “They make sure companies tell the truth about what’s how they’re doing, how much money they’ve made and all their operations.”

How the SEC operates

The SEC is an independent agency within the US government that’s run by a chairman and four commissioners, all of whom are appointed by the US president and confirmed by the Senate. Each commissioner or chairman serves a term of five years.

As you can see above, the SEC has a lot of work to do, so it’s quite a large organization. More than 4,000 employees work for the agency, spread across six divisions and 26 offices. The six divisions include:

  • Corporation finance: This department holds companies to disclosure and reporting laws – both when they go public and on a regular basis. This helps investors make more informed and successful decisions.
  • Examinations: The examinations division works to analyze existing processes and regulations that affect US securities. Its “exams” are used to improve and inform future policy and enforcement practices.
  • Economic and risk analysis: This department handles the SEC’s analytics and data efforts, which inform actions across the rest of the agency.
  • Investment management: This division regulates investment companies, including mutual funds, money market funds and ETFs. As the agency itself explains, “The work of the Division of Investment Management touches the lives of Main Street investors. We oversee mutual funds and other investment products and services that investors may use to help them buy a home, send kids to college or prepare for retirement.”
  • Enforcement: The enforcement division investigates securities violations and prosecutes misconduct through civil penalties and the US court system.
  • Trading and markets: The division of trading and markets regulates securities professionals, stock exchanges and other market participants. It also establishes and maintains market standards to ensure a fair playing ground for all investors.

The SEC’s main headquarters are located in Washington DC, but has regional offices in 11 locations across the U.S., including New York, Chicago, and Los Angeles.

The financial takeaway

If you have a 401K or are invested in the stock market or a mutual fund, then the SEC has a hand in the success of those investments and the information you have to base them on.

The SEC is also there should you need guidance or fall victim to a dishonest broker or investment advisor. As Carney puts it, “People should know that they can call the SEC. The SEC is there to protect them. If you believe an asset manager or a broker stole from you, the SEC can run an investigation, go after them, bring charges and try to get your money back.”

What is the FDIC?What caused the Great Recession? Understanding the key factors that led to one of the worst economic downturns in US historyThe Federal Reserve is the central bank of the US – here’s why it’s so powerful and how it affects your financial lifeWhat is a recession? How economists define periods of economic downturn

Read the original article on Business Insider

What is a stop-limit order?

Photo showing the midsection of a woman showing a stop gesture to a businessman giving her an envelope on an office desk.
When setting up a stop-limit order, the stop price and limit price don’t have to be the same amount.

  • A stop-limit order is a type of trade that combines stop orders and limit orders into one.
  • Stop orders set a price to execute an order and limit orders specify how much should be bought or sold at that set price.
  • Not all stop-limit orders will execute and there are risks investors should be aware of.
  • Visit Insider’s Investing Reference library for more stories.

A stop-limit order is a way for investors to exert control over their trades while also managing levels of risk. There are two aspects of a stop-limit order: the stop price and the limit price. The stop price states that you’ll buy or sell at a specific price. The limit price sets a standard for buying or selling an amount of stocks when the price reaches the set price.

Here’s what to know about this conditional trade type and how it’s used.

What is a stop-limit order?

A stop-limit order is a financial tool that investors can use to maximize gains and minimize loss. The Securities and Exchange Commission (SEC) describes a stop-limit order as combining both stop orders and limit orders, which exist individually, into a single tool which investors can use as part of their risk-mitigation strategy.

Stop orders, sometimes referred to as a stop-loss order, is when you set a specific stop price on a stock. Once that stop price is reached, an order is executed to buy or sell a stock. That order then turns into a market order – actively trading on the market right away.

A limit order is a type of order where you buy or sell a stock at a certain price. So if you wanted to buy shares of a stock for $20, you could place a limit order of that amount and the order would take place only if and when the stock price was $20 or better.

Stop-limit orders merge two benefits from stop orders and limit orders into one financial tool. The stop order sets a price to execute an order and the limit order specifies how much should be bought or sold at that set price.

Stop orders alone turn into a market order trading immediately, whereas a stop-limit order turns into a limit order that will only be executed at a set price or even better.

“A stop-limit order is an order to buy or sell a stock at the market when it reaches a specified price, but then as soon as the stock has been bought or sold, the order becomes a limit order for an amount below the triggering price,” explains Jenna Lofton, a former Certified Financial Advisor with an MBA in Finance and founder of StockHitter. “This type of order gets one last chance to fulfill before it’s canceled without any execution. It helps protect against whipsaws and sudden spikes – especially on highly volatile stocks.”

Understanding how stop-limit orders work

Stop-limit orders combine the features of stop orders and limit orders to create a powerful strategy for investors to control costs. Investors need to set two price points:

  • The stop price
  • The limit price

The stop price and limit price don’t have to be the same amount. The stop price you set triggers execution of the order and is based on the price that the stock was last traded at. The limit price you set is the limit that sets price constraints on the trade and must be executed at that price or better.

“When trading, you can observe the market price and decide to buy or sell at any given moment, or you can condition the process so that it only activates once the price hits or exceeds the price point A (the stop) but does not break through the price point B (the limit). The latter option is called a stop-limit order,” explains Adam Garcia, founder of TheStockDork.com. “So you’re basically looking to buy the stock once it starts getting on an upward trajectory. On the other hand, there’s only so much that you can afford to pay, which is why you need to cap it.”

Let’s say you have a stop price of $50 on a sell stop limit order and your limit price is $45. If market conditions are appropriate and the price of a stock reaches $50 it would trigger a limit order that would only activate at the limit price of $45 or better.

An investor can execute a stop-limit order on their trades through their investment brokerage firm, though not all brokerages may offer this option. Additionally, brokerages may have different definitions for determining if a stop or limit price has been met.

Traders set a period of time when the stop-limit order is effective or can choose from good-til-canceled (GTC) option. Through these options, the stop-limit order is active until the price is triggered to buy or until the transaction expires. Stop-limit orders are executed during market hours.

You set a stop price which triggers the execution of an order. The limit price helps lower risk by stating that orders must be traded below or up to the limit price.

“You need to specify the timeframe in which this trade is going to be executed. But considering that this trade is conditioned, there’s no guarantee that it will actually happen. To make matters worse, this timeframe only includes regular trading hours. If a portion of your order gets executed today and the rest of it gets allocated across several days, your broker may charge several commissions instead of just one,” warns Garcia.

Pros and cons of stop-limit orders

Before deciding if a stop-limit order is a good strategy for you, consider the pros and cons.

Pros Cons
  • Offers more control and flexibility around costs
  • Can help lessen risk
  • You can use a buy stop limit or sell stop limit
  • Orders may not go through, depending on price
  • Can result in “partial fills” where not all of your orders actually execute

  • Brokerages may not offer this or have different standards

The financial takeaway

Using stop-limit orders as part of your investment strategy is one way to have greater control over how you invest and at what cost. You can set limits for both buying and selling and set parameters for executing orders on your terms.

While this strategy has its benefits, you should be aware that price fluctuations throughout the day can trigger an order and be “substantially inferior” to the closing price of the stock for that day, according to Investor.gov.

Be sure to check if this option is available at your brokerage firm and how they define prices so you know when your order would execute.

What is a broker? What to know about the intermediary that helps investors buy stocksA comprehensive guide to investing in stocks for beginnersWhat to know about swing trading and how to minimize risks of this speculative trading strategyWhat to know about speculation: When investors buy high-risk assets with the expectation of significant returns

Read the original article on Business Insider

What is a hedge fund and how does it work?

Smiling muslim woman in a business meeting shaking someone’s hand.
Despite being called “hedge” funds, these investment vehicles are quite risky.

  • Hedge funds are pooled investment funds that aim to maximize returns and protect against market losses by investing in a wider array of assets.
  • Hedge funds charge higher fees and have fewer regulations, which can make them riskier.
  • Individuals, large companies, and pension funds may invest in hedge funds as long as they meet asset requirements.
  • Visit Insider’s Investing Reference library for more stories.

A hedge fund is a type of investment that’s open to accredited investors. The goal is for participants to come out ahead no matter how the overall market is performing, which may help protect and grow your portfolio over time. But hedge funds come with some risks, which you’ll need to consider before diving in.

What is a hedge fund?

A hedge fund is a private investment that pools money from several high-net-worth investors and large companies with the goal of maximizing returns and reducing risk. To protect against market uncertainty, the fund might make two investments that respond in opposite ways. If one investment does well, then the other loses money – theoretically reducing the overall risk to investors. This is actually where the term “hedge” comes from, since using various market strategies can help offset risk, or “hedge” the fund against large market downturns.

Understanding how hedge funds work

Hedge funds have a lot of leeway in how they earn money. They can invest both domestically and around the world and use just about any investment strategy to make active returns. For instance, the fund may borrow money to grow returns – known as leveraging – make highly concentrated bets, or take aggressive short positions.

But that flexibility also makes these investment vehicles risky, despite being called “hedge” funds. “There’s no transparency in hedge funds, and most of the time, managers can do whatever they want inside of the fund,” says Meghan Railey, a certified financial planner and co-founder/chief financial officer of Optas Capital. “So they can make big bets on where the market’s going, and they could be very wrong.”

The elevated risk is why only accredited investors – those deemed sophisticated enough to handle potential risks – can invest in this type of fund. To be considered an accredited investor, you’ll need to earn at least $200,000 in each of the last two years ($300,000 for married couples) or have a net worth of more than $1 million.

Hedge funds vs. the S&P 500

It’s tough to compare hedge funds to the S&P 500 because there are so many different types of hedge funds, and the markets they invest in might be global-oriented, says Chris Berkel, investment adviser and founder of AXIS Financial. “However, we can say that a broad index of hedge funds underperformed the S&P 500 over the last 10 to 15 years,” Berkel says.

Berkel points to data compiled by the American Enterprise Institute (AEI) from both the S&P 500 and the average hedge fund from 2011 to 2020. The data shows that S&P 500 index outperformed a sample of hedge funds in each of the 10 years from 2011 to 2020:

Year Average hedge fund S&P 500 Index
2011 -5.48% 2.10%
2012 8.25% 15.89%
2013 11.12% 32.15%
2014 2.88% 13.52%
2015 0.04% 1.38%
2016 6.09% 11.77%
2017 10.79% 21.61%
2018 -5.09% -4.23%
2019 10.67% 31.49%
2020 10.29% 18.40%
Source: American Enterprise Institute

“The S&P 500 is a systematic risk, which cannot be diversified away,” Berkel says. A hedge fund may provide some safeguards to your portfolio, which you won’t get with the S&P 500.

Hedge funds pay structure

Investors earn money from the gains generated on hedge funds, but they pay higher fees compared to other investments such as mutual funds. “The management fee is charged every year, regardless of performance, and the incentive fee is charged if the manager performs in excess of a specific threshold, typically its high-water mark,” Berkel says.

The fee is typically structured as “2% and 20%.” So in this example, participants pay an annual fee of 2% of their investment in the fund and a 20% cut of any gains. But recently, many hedge funds have reduced their fees to “1.5% and 15%,” says Evan Katz, managing director of Crawford Ventures Inc.

Once you put money into the fund, you’ll also have to follow rules on when you can withdraw your money. “During market turmoil, most hedge funds reserve the right to ‘gate,’ or block, investors from redeeming their shares,” Berkel says. “The rationale is that it protects other investors and helps the fund manager maintain the integrity of their strategy.”

Outside of these lockup periods, you can usually withdraw money at certain intervals such as quarterly or annually.

Are hedge funds regulated?

Hedge funds are regulated, but to a lesser degree than other investments such as mutual funds. Most hedge funds aren’t required to register with the Securities and Exchange Commission (SEC), so they lack some of the rules and disclosure requirements that are designed to protect investors. This can make it difficult to research and verify a hedge fund before investing in this type of product. However, hedge fund investors are still protected against fraud, and fund managers still have a fiduciary duty to the funds they manage.

The financial takeaway

Investing in hedge funds could help your portfolio grow, but you wouldn’t want to concentrate your entire nest egg here. Hedge funds are illiquid, require higher minimum investments, are only open to accredited investors, and have fewer regulations than other types of investments, making them a risky endeavor.

“Start by consulting a financial professional who’s not incentivized to sell you a hedge fund,” Railey says. “Read the offering memorandum, ask some critical questions about past performance, and ask what their strategy is going forward.” Then, she suggests, allocate no more than 5% to 10% of your overall investable assets into a hedge fund.

If you’re not an accredited investor or you’d rather look at different investments, you still have options outside of your retirement accounts. For instance, you might decide to open an online brokerage account. Keeping your money in the market over time – instead of trying to buy and sell based on market conditions – can be a good strategy, Railey says. “Just start simple, stay simple, and add on complexity as time goes and you have more experience to be able to understand the difference.”

What is net worth? How it can be important indicator of your financial well-beingWhat are the safest investments? 7 low-risk places to put your money – and what makes them soHow to invest in the S&P 500 – a guide to the funds that mimic the influential index’s makeup and movesHow to diversify your portfolio to limit losses and guard against risk

Read the original article on Business Insider

What is a hedge fund and how does it work?

Smiling muslim woman in a business meeting shaking someone’s hand.
Despite being called “hedge” funds, these investment vehicles are quite risky.

  • Hedge funds are pooled investment funds that aim to maximize returns and protect against market losses by investing in a wider array of assets.
  • Hedge funds charge higher fees and have fewer regulations, which can make them riskier.
  • Individuals, large companies, and pension funds may invest in hedge funds as long as they meet asset requirements.
  • Visit Insider’s Investing Reference library for more stories.

A hedge fund is a type of investment that’s open to accredited investors. The goal is for participants to come out ahead no matter how the overall market is performing, which may help protect and grow your portfolio over time. But hedge funds come with some risks, which you’ll need to consider before diving in.

What is a hedge fund?

A hedge fund is a private investment that pools money from several high-net-worth investors and large companies with the goal of maximizing returns and reducing risk. To protect against market uncertainty, the fund might make two investments that respond in opposite ways. If one investment does well, then the other loses money – theoretically reducing the overall risk to investors. This is actually where the term “hedge” comes from, since using various market strategies can help offset risk, or “hedge” the fund against large market downturns.

Understanding how hedge funds work

Hedge funds have a lot of leeway in how they earn money. They can invest both domestically and around the world and use just about any investment strategy to make active returns. For instance, the fund may borrow money to grow returns – known as leveraging – make highly concentrated bets, or take aggressive short positions.

But that flexibility also makes these investment vehicles risky, despite being called “hedge” funds. “There’s no transparency in hedge funds, and most of the time, managers can do whatever they want inside of the fund,” says Meghan Railey, a certified financial planner and co-founder/chief financial officer of Optas Capital. “So they can make big bets on where the market’s going, and they could be very wrong.”

The elevated risk is why only accredited investors – those deemed sophisticated enough to handle potential risks – can invest in this type of fund. To be considered an accredited investor, you’ll need to earn at least $200,000 in each of the last two years ($300,000 for married couples) or have a net worth of more than $1 million.

Hedge funds vs. the S&P 500

It’s tough to compare hedge funds to the S&P 500 because there are so many different types of hedge funds, and the markets they invest in might be global-oriented, says Chris Berkel, investment adviser and founder of AXIS Financial. “However, we can say that a broad index of hedge funds underperformed the S&P 500 over the last 10 to 15 years,” Berkel says.

Berkel points to data compiled by the American Enterprise Institute (AEI) from both the S&P 500 and the average hedge fund from 2011 to 2020. The data shows that S&P 500 index outperformed a sample of hedge funds in each of the 10 years from 2011 to 2020:

Year Average hedge fund S&P 500 Index
2011 -5.48% 2.10%
2012 8.25% 15.89%
2013 11.12% 32.15%
2014 2.88% 13.52%
2015 0.04% 1.38%
2016 6.09% 11.77%
2017 10.79% 21.61%
2018 -5.09% -4.23%
2019 10.67% 31.49%
2020 10.29% 18.40%
Source: American Enterprise Institute

“The S&P 500 is a systematic risk, which cannot be diversified away,” Berkel says. A hedge fund may provide some safeguards to your portfolio, which you won’t get with the S&P 500.

Hedge funds pay structure

Investors earn money from the gains generated on hedge funds, but they pay higher fees compared to other investments such as mutual funds. “The management fee is charged every year, regardless of performance, and the incentive fee is charged if the manager performs in excess of a specific threshold, typically its high-water mark,” Berkel says.

The fee is typically structured as “2% and 20%.” So in this example, participants pay an annual fee of 2% of their investment in the fund and a 20% cut of any gains. But recently, many hedge funds have reduced their fees to “1.5% and 15%,” says Evan Katz, managing director of Crawford Ventures Inc.

Once you put money into the fund, you’ll also have to follow rules on when you can withdraw your money. “During market turmoil, most hedge funds reserve the right to ‘gate,’ or block, investors from redeeming their shares,” Berkel says. “The rationale is that it protects other investors and helps the fund manager maintain the integrity of their strategy.”

Outside of these lockup periods, you can usually withdraw money at certain intervals such as quarterly or annually.

Are hedge funds regulated?

Hedge funds are regulated, but to a lesser degree than other investments such as mutual funds. Most hedge funds aren’t required to register with the Securities and Exchange Commission (SEC), so they lack some of the rules and disclosure requirements that are designed to protect investors. This can make it difficult to research and verify a hedge fund before investing in this type of product. However, hedge fund investors are still protected against fraud, and fund managers still have a fiduciary duty to the funds they manage.

The financial takeaway

Investing in hedge funds could help your portfolio grow, but you wouldn’t want to concentrate your entire nest egg here. Hedge funds are illiquid, require higher minimum investments, are only open to accredited investors, and have fewer regulations than other types of investments, making them a risky endeavor.

“Start by consulting a financial professional who’s not incentivized to sell you a hedge fund,” Railey says. “Read the offering memorandum, ask some critical questions about past performance, and ask what their strategy is going forward.” Then, she suggests, allocate no more than 5% to 10% of your overall investable assets into a hedge fund.

If you’re not an accredited investor or you’d rather look at different investments, you still have options outside of your retirement accounts. For instance, you might decide to open an online brokerage account. Keeping your money in the market over time – instead of trying to buy and sell based on market conditions – can be a good strategy, Railey says. “Just start simple, stay simple, and add on complexity as time goes and you have more experience to be able to understand the difference.”

What is net worth? How it can be important indicator of your financial well-beingWhat are the safest investments? 7 low-risk places to put your money – and what makes them soHow to invest in the S&P 500 – a guide to the funds that mimic the influential index’s makeup and movesHow to diversify your portfolio to limit losses and guard against risk

Read the original article on Business Insider

What is APR?

Business woman on a laptop making calculations with a cell phone and calculator.
Even a small difference in APR can really add up when you’re borrowing any sum of money.

When you use a credit card or take out a loan, your lender will charge you interest for the privilege of borrowing the money. They’ll typically present this cost as an annual percentage rate, or APR, which shows your total cost of borrowing – plus fees. Because they help you compare offers and find the best deal, it’s important to know how they work.

What is APR?

An APR is the cost of borrowing money expressed as a yearly rate. While the APR is usually applied to consumer debt, like credit cards and loans, it can also represent the return on an investment you make.

“In most cases, [it’s] the single most important factor to understand when both borrowing or saving money,” says Brian Stivers, an investment adviser and founder of Stivers Financial Services in Knoxville, Tennessee. That’s because it helps you “understand the true cost of borrowing money and not just the monthly payment.”

For instance, you can use APRs to compare the borrowing costs on a mortgage. Let’s say Lender A and Lender B both offer an interest rate of 2.75% and quote you a list of fees you’ll pay on the loan.

It can be tough to compare those fees because they may go by different names – plus, you’ll have to crunch the numbers. But the APR takes those fees, along with the interest rate, and translates the information into a unit you can quickly measure. In this example, let’s say Lender A charges an APR of 2.90%, while Lender B quotes an APR of 3.50%. At a quick glance, you can tell Lender B’s loan includes more costs outside of what you’re borrowing.

Lender A Lender B
Interest rate 2.75% 2.75%
APR 2.90% 3.50%

While the 0.60% difference may seem insignificant in this example, it can really add up if you’re borrowing a large sum of money – like a mortgage, for example.

APR 30-yr mortgage Monthly payment Total mortgage
Lender A 2.90% $300,000 $1,249 $449,528
Lender B 3.50% $300,000 $1,347 $484,968

In the example above, that 0.60% difference means you’d pay $35,440 more if you’d went with Lender B. This is the power of APR.

That being said, it’s always a good idea to calculate the interest you’ll pay over the life of a loan when the interest rates are different. You might end up paying less interest on a loan that has a higher APR, and you’ll have to figure out if the higher fees are worth it.

How does APR work?

On a loan, APR includes the interest rate plus any fees the lender charges, such as origination, legal, or underwriting fees. APR isn’t so complicated on a credit card – it’s just the interest rate stated as a yearly rate.

The APR was designed to give borrowers more information about what they’re really paying to borrow money. Thanks to the federal Truth in Lending Act (TILA), lenders are required to disclose the APR on every consumer loan agreement before the borrower signs the contract. The TILA disclosure also includes other important terms, including:

  • Finance charge, or the cost of credit expressed as a dollar amount.
  • Amount financed, which is typically the dollar amount you’re borrowing.
  • Payment information, such as the monthly payment, the total number of payments you’ll make, and the sum of all your payments combined (which includes principal plus financing costs).
  • Other information, such as late fees and prepayment penalties.

When you apply for the loan and receive the TILA disclosure, it might be written into the loan contract. It’s a good idea to review the whole contract and make sure you understand the terms before signing on the dotted line.

How is APR calculated?

The formula for calculating APR is as follows:

Formula graphic for how to calculate APR (Annual Percentage Rate)

Where n = number of days in the loan term.

Check out one example to see how it works. Let’s say you take out a $5,000 personal loan with a two-year loan term and a $400 origination fee. The total interest you pay over the life of the loan equals $980. Follow these steps to calculate the APR:

  1. Add up the fees and interest: $400 + $980 = $1,380
  2. Divide that number by the principal, or the amount you’re borrowing: $1,380/$5,000 = 0.276
  3. Divide by the number of days in the loan term: 0.276/730 = 0.00037808219
  4. Multiply what you’ve got by 365: 0.00037808219 x 365 = 0.138
  5. Now multiply by 100 to find the APR: 0.138 x 100 = 13.8%

What is a good APR?

A good APR is simply one that’s affordable to you, but there are some general rules you can follow when shopping around. For instance, the National Consumer Law Center says APRs over 36% are unaffordable.

But it also depends on the type of financial product and loan term. The APR on an auto loan might be higher than one on a mortgage, but the longer term on a mortgage means you’ll likely pay more interest over time.

APR varies with the type of financial product you’re taking out, but it also depends on the lender’s overhead costs. For example, an online lender often has lower expenses than a large bank with brick-and-mortar locations. “With lower expenses, they can generally charge less APR to achieve their profit margin,” Stivers says, “than a larger lending institution with many locations and more employees.”

APR vs. APY

Here’s what to know when comparing APR with APY:

APR APY
  • An interest rate, plus fees that are stated as a yearly rate
  • Usually applies to money you borrow
  • A lower APR helps you save money and is based off your credit
  • Different types of APRs depending on the financial product
  • A yearly interest rate that includes the compounding effect
  • Usually applies to money you earn on an investment
  • A higher APY helps you earn more money
  • Doesn’t include fees

APR vs. interest rate

Some people think the APR and the interest are one and the same, but they have different meanings when it comes to loans. “Interest rates only reflect the percentage of interest charged on the loan,” Stivers says. “The APR includes additional costs associated with the loan.”

Some of these additional costs include discount points, loan origination fees, and other underwriting fees.

Here’s a good way to think about it: You’ll use the interest rate to calculate your monthly payment, and use the APR to help gauge the entire cost of the loan and compare offers.

Types of APR

Several credit products, like mortgages and auto loans, only come with one APR. The APR may be fixed, which means it never changes, or variable, in which it may go up or down over time.

Other types of debt, like credit cards, may charge several APRs. That’s because “lenders, in general, have different APRs for different risk,” Stivers says. “For example, a balance transfer from one credit card to another generally has lower risk since there is a history of the consumer paying the payment to the original credit card company. So, the new credit card may discount their APR due to the perceived less risk than a brand-new purchase with no payment history.”

A credit card may charge a different APR based on the type of transaction you’re doing:

  • Purchase APR: applies to the purchases you make with the credit card. “Credit card companies will often use a lower APR, sometimes 0%, for a short period of time – six months to one year – to entice a consumer to use their credit,” Stivers says.
  • Balance transfer APR: applies to debts you transfer to your credit card. Some credit cards offer a low promotional APR on balance transfers.
  • Cash advance APR: applies when you borrow cash against the credit line. This APR is usually higher than the purchase APR.
  • Penalty APR: applies when you make a late payment or miss one entirely. The credit card issuer has to follow certain rules before applying a penalty APR to your account.
  • Introductory/promotional APR: a low APR that applies to certain transactions – like purchases or balance transfers – for a limited amount of time. The time frame varies with each card but is usually anywhere from 12 to 18 months.

Keep an eye on your credit card balance when it comes with a promotional APR, though. “The credit card companies realize few consumers will pay off the debt in the allotted time,” Stivers says, “and will then raise the APR to much higher rates at the end of the promotional period of time.”

The financial takeaway

Annual percentage rate is a helpful way to measure the total cost of borrowing. On a loan, it’s based on the lender’s interest rate plus fees they charge, while on a credit card it’s simply the rate expressed as a yearly rate. It’s important to know the APR before taking out a credit card or loan because you can use this number to compare offers – and finding the best deal can help you save money.

What is simple interest? A straightforward way to calculate the cost of borrowing or lending moneyUnderstanding the way compound interest works is key to building wealth or avoiding crushing debt. Here’s how to make it work for youThe LIBOR is a global interest rate that affects the rates of many loans and investments. Here’s how it’s set, and why it’s slated to endDividends are payments made by a company to its shareholders – here’s how they work

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What to know about swing trading and how to minimize risks of this speculative trading strategy

Young woman with her puppy dog lying on the hammock.
If you’re considering swing trading, you’ll need to have the skills required to analyze charts and numbers to be successful.

  • Swing trading is a speculative strategy where investors buy and hold assets to profit from expected price moves.
  • Swing traders leverages technical analysis to determine entry (buy) and exit (sell) points.
  • Swing traders are exposed to gap risk, where a security’s price changes while the market is closed.
  • Visit Insider’s Investing Reference library for more stories.

Investors approach the stock market with a variety of goals. Many invest for the long-term, seeking to build wealth over time, while others trade for short-term profits – and many people do both. There are a variety of strategies for trading, but one of the most accessible to newcomers is swing trading.

Unlike day trading, where trading is extremely fast paced, swing trading is slower. This strategy is a great way to understand market movements and dip your toe into technical analysis. Here’s what the curious trader should know.

What is swing trading?

Swing trading is a trading strategy where investors buy a stock or some other asset and hold it – known as holding a position – for a short period of time (usually between a few days and up to a several weeks) in the hopes of turning a profit.

The goal of the swing trader is to capture a portion of any potential price movement or “swing” in the market. Individual gains may be smaller as the trader focuses on short-term trends and seeks to cut losses quickly. However, small gains achieved consistently over time can add up to an attractive annual return.

How does swing trading work?

The swing trader analyzes patterns in trading activity to buy or sell a stock in order to capitalize on price movements and momentum trends of stocks, typically, focusing on large-cap stocks since they are the most heavily traded. Because these stocks have high trading volumes, they offer investors insight into how the market perceives the company and their security’s price movements. This active trading offers the information necessary for what’s called technical analysis, which we’ll cover in the next section.

As with any style of trading, swing trading carries plenty of risk. Swing traders are exposed to several types of risk, the most common being gap risk, where a security’s price rises or falls significantly based on news or events that occur while the market is closed, whether overnight or during a weekend.

The opening price will reflect the shock of any unexpected news. The longer the market is closed, the greater the risk. Abrupt changes in the market’s direction also pose a risk, and swing traders may miss out on longer-term trends by focusing on shorter holding periods.

Example of swing trading

Let’s take a look at a real-world example of how a swing trader may analyze Amazon’s stock and determine when to buy or sell.

Candle stick chart example of Swing Trade in Amazon (AMZN)
Amazon stock from March to July 2021.

The candlestick chart above illustrates the “cup and handle” consolidation pattern, where the cup is u-shaped and the handle points slightly downward. This pattern is considered a bullish signal.

If a swing trader wants to make a profitable trade in Amazon, they would likely purchase the stock at the top of the “cup,” at or above the most recent high of $3,555. They should place a stop-loss order at the most recent low in the cup handle ($3,395). Therefore, the risk – the maximum loss on the trade – is $160 ($3,555 – $3,395 = $160).

At the recommended reward/risk ratio of 3:1, which is considered good, you’d need to sell at $480 (3 x $160 = $480) above the entry price, or $4,035 ($3,555 + $480).

Why risk management is critical in swing trading

Risk management is the most essential component in a successful swing trading strategy. Traders should choose only liquid stocks and diversify positions among different sectors and capitalizations.

Mike Dombrowski, head of capital markets at InterPrime Technologies, emphasizes the importance of risk management, saying that “each position should be roughly 2%-5% of total trading account capital. The most aggressive and professional traders may go up to 10% per position. That means a portfolio of five concentrated swing trades would represent 10%-25% of total trading account capital on average.

Having cash in reserve allows you to add to the best-performing trades to help generate larger winners. As always, the key to swing trading is to minimize losses.” He also notes that a desirable reward/risk ratio is 3:1, or 3 times the amount at risk.

Stop-loss orders are a vital tool in managing risk. When a stock falls below the stop price (or rises above the stop price for a short position), the stop-loss order converts to a market order, which is executed at the market price. With stop losses in place, the trader knows exactly how much capital is at risk because the risk of each position is limited to the difference between the current price and the stop price.

A stop loss is an effective way to manage risk per trade

Swing trading strategies

Traders can deploy many strategies to determine when to buy and sell based on technical analysis, including:

  • Moving averages look for bullish or bearish crossover points
  • Support and resistance triggers
  • Moving Average Convergence/Divergence (MACD) crossovers
  • Using the Fibonacci retracement pattern, which identifies support and resistance levels and potential reversals

Traders also use moving averages to determine the support (lower) and resistance (upper) levels of a price range. While some use a simple moving average (SMA), an exponential moving average (EMA) places more emphasis on recent data points.

For example, a trader may use 9-, 13- and 50-day EMAs to look for crossover points. When the stock price moves above, or “crosses” the moving averages, this signals an upward trend in price. When a stock price falls below the EMAs, it’s a bearish signal and the trader should exit long positions and potentially put on shorts.

Market extremes make swing trading more challenging. In a bull or bear market, actively traded stocks do not exhibit the same up-and-down movements within a range as they do in more stable market conditions. Momentum will propel the market up or down for an extended period. “[Traders should] always trade in the direction of the trend, taking long positions in bull markets and shorts when the markets trend downward,” says Dombrowski.

Swing trading vs. day trading

Swing trading and day trading have many similarities, but the most marked difference is the frequency of trades. Swing traders focus on short-to-medium term positions while day traders close out their positions at the end of each trading day. Day trading is a full-time job, requiring the trader to monitor market movements throughout the day and trade frequently. A swing trader can manage and trade on the side while still maintaining a full-time job.

Let’s look at the principal differences.

Swing trading Day trading
Trading frequency Mulitple trades per week Multiple trades per day
Time required to trade Can be done periodically Requires constant attention
Number of transactions Fewer transactions Many intra-day transactions
Profit potential Gains and losses accumulate slowly Gains and losses accumulate more quickly
Trading outlet Brokerage account Specialized trading software
Costs Lower Higher

The financial takeaway

Swing trading is an easy way for new traders to get their feet wet in the market, with traders typically starting with $5k-$10k, although less is acceptable. The cardinal rule though is that this capital should be money the investor can afford to lose. Even with the strictest risk management, the unexpected is always possible.

More importantly, swing trading doesn’t demand the same level of active attention as day trading, so the swing trader can start slowly and build the number of trades over time. But it does require the investor to take a deep dive into technical analysis, so an aptitude for charts and numbers is necessary.

For traders willing to spend time researching stocks and developing an understanding of technical analysis, swing trading offers the potential to accumulate attractive profits, slowly but steadily, over time.

Trading and investing are two approaches to playing the stock market that bring their own benefits and risksShort selling is a high-risk but high-reward trading strategy that profits from a stock price’s fallA long position means you buy a stock or stock option in the bullish belief its value will increase over timeMargin trading means buying stocks with borrowed funds – it’s riskier than paying cash, but the returns can be greater

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FINRA: The organization that regulates broker-dealers and protects investors

Finra logo inside oval shape, surrounded by financial icons on blue background
FINRA also provides educational resources and a space for investors to file complaints about brokers if needed.

  • The Financial Industry Regulatory Authority (FINRA) oversees US-based broker-dealer firms, registered brokers, and market dealings.
  • Brokers must be registered with FINRA in order to trade securities with the public.
  • FINRA plays a big role in market security by watching for manipulation or fraud.
  • Visit Insider’s Investing Reference library for more stories.

Financial Industry Regulatory Authority (FINRA) is a private organization authorized by the US government to enforce ethical investment practices among registered brokers. FINRA is largely known for regulation and registration of brokers and brokerage firms.

In reality, FINRA casts a much wider net of responsibility. The organization also monitors daily market functions, handles customer complaints, and maintains a library of educational materials for investors.

“Our whole mission is investor protection and market integrity,” says Gerri Walsh, senior vice president of Investor Education at FINRA.

Learn more about how FINRA protects everyday investors, maintains market integrity, and why its job is so important.

What is FINRA?

FINRA is a self-regulatory organization (SRO) that oversees broker-dealer firms, registered brokers, and market dealings in the US.

Empowered by the Securities and Exchange Commission (SEC), FINRA writes rules that brokers must abide by, evaluates firms’ compliance with those rules, and disciplines brokers that fail to adhere. In order to trade securities with the public, brokers must be registered with FINRA, which administers a rigorous application and examination process. FINRA’s online BrokerCheck tool shows whether a broker is registered with the organization.

FINRA also provides educational resources and a space for investors to file complaints about brokers.

Understanding FINRA

FINRA exists to help the SEC regulate aspects of the securities business, namely brokers and their relationships with consumers.

“Investing is an important part of people’s hard-earned money,” said Harris Kay, a managing partner with Murphy & McGonigle, a law firm specializing in securities law. “They deserve to be in a place that follows the rules.”

FINRA’s services can be divided into a few different, but connected, duties.

  1. Regulate and oversee brokers. Once registered with FINRA, brokers must complete ongoing education requirements over the years. Brokers are subject to periodic audits, which checks whether a firm and its employees are conducting competent and honest business. If a broker is found to be noncompliant, FINRA can bring disciplinary actions against the individual and/or the firm.
  2. Maintain its BrokerCheck database on brokers and firms. You can use FINRA’s BrokerCheck tool to check whether a broker is registered. BrokerCheck also provides background information on a broker or firm, including any history of disciplinary action.
  3. Receive and address customer complaints. When you have an issue with your broker or brokerage firm, you can turn to FINRA to file a complaint, which FINRA will then investigate.
  4. Provide dispute resolution services. When customer complaints evolve into legal action, FINRA provides a forum and lawyers for arbitration and mediation between customers and brokers as an alternative to going to court.
  5. Offer resources and tools for investors. FINRA has a wealth of personal finance and investing articles and calculators available to beginner and advanced investors alike. It even offers free online investing courses. You can give FINRA a toll-free call, to get help in understanding your investments whether you don’t understand something in your statements or you want to know more about a hard sell your broker is trying to make. There’s even a specialty helpline for senior citizens.
  6. Surveille equity markets. FINRA’s technology department plays a strong role in maintaining market integrity by monitoring market transactions and orders every day. Through algorithms and artificial intelligence, FINRA looks for any patterns or signs of market manipulation or fraud. If anything is found, it gets flagged to FINRA’s enforcement team, or sent to other relevant parties like the SEC or the securities exchange itself.

With such a wide responsibility, FINRA is split into 11 departments, including:

  • Board and External Relations includes Investor Education, Government Affairs, and Communications departments.
  • Enforcement takes care of FINRA’S disciplinary actions against brokers.
  • Legal oversees FINRA’s rulemaking and corporate legal functions, and includes Corporate Financing and Dispute Resolution departments.
  • Member Supervision watches over and examines member firms.
  • Market Regulation Transparency Services works with the SEC and exchanges to surveille markets and examine firms to identify any potential market manipulation or fraud. This department also checks that firms remain compliant to federal securities laws.
  • Office of Hearing Officers provides impartial adjudicators to preside over the disciplinary actions brought forward by the Enforcement Department.
  • Technology touches all aspects of technology at FINRA, including the algorithms that surveille markets.

FINRA vs. SEC

FINRA

SEC

Type

Private self-regulatory organization

Government agency

Main Focus

Regulation of brokerage firms and brokers

Regulate individual securities & markets

Other Duties

Administer examinations and registration to brokers and brokerage firms

Take legal action against violations of securities laws

Public Protection

Field and address customer complaints

Provide arbitration forum

Ensures accuracy of information regarding publicly available securities

Due to the magnitude of the securities trading industry, the SEC delegated the regulation of brokers to FINRA as a matter of efficiency. By outsourcing one side of the business, the SEC can maintain better oversight.

One way to see it is that FINRA primarily deals with the human aspect of investing, focusing on the way brokers do business with the public. It ensures that brokers are up to code with its registration process and audits, and assists the public by receiving complaints and offering an arbitration forum.

Meanwhile, the SEC focuses on the bigger picture. The SEC is able to regulate and keep an eye on securities. The SEC also verifies that companies are providing accurate and total information on their publicly available securities, whether on exchanges or over-the-counter. If someone is found in violation of securities laws, the SEC can bring action against them in federal court.

Still, FINRA and the SEC work together in examining broker practices, sharing market surveillance information, and teaming up on enforcement actions.

The financial takeaway

While it may seem like a background player compared to big name and trendy brokerage firms, FINRA should be investors main resource when it comes to securities and investment safety.

FINRA is a great and important resource for anyone who participates in securities markets. It provides a ton of resources, including BrokerCheck, to help investors make smart investment decisions. It also puts brokers and firms through a rigorous registration process to ensure only qualified entities are interacting with the public when it comes to securities.

FINRA can even serve as your personal secondary gut check with its toll-free helpline whenever you need help understanding the investment world.

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Understanding buy-and-hold investing – a long-term strategy that Warren Buffett swears by

A photo of a young businesswoman talking on a cellphone while checking the time on her watch in an office.
Some investors say that buy-and-hold investing is the best way to manage risk.

  • Buy-and-hold is a long-term investment strategy that involves purchasing securities and keeping them in your portfolio for a long period of time.
  • Some investors say that buy-and-hold investing is the best way to manage risk and work toward long-term financial goals.
  • Opponents argue that you could get better results with a hands-on approach to your portfolio. However, historic results typically favor a passive investment plan.
  • Visit Insider’s Investing Reference library for more stories.

We’ve all heard the saying: Good things come to those who wait. This can be applied to investing, where you can choose to buy the stock of a company you think will be successful over time, with the expectation of long-term profits. This is known as a buy-and-hold strategy.

What is the buy-and-hold strategy?

Buy-and-hold investing is a strategy where passive investors purchase an investment, like a stock or mutual fund, and keep it for a long period of time despite changes in the market. Many famous investors, such as Benjamin Graham and Warren Buffett, are well-known fans of buy-and-hold investing.

Over a short period of time, financial markets tend to fluctuate. Stock and other asset prices go up and down almost constantly during trading hours. Graham, the author of “The Intelligent Investor,” equates buying and selling stocks on a short time horizon to gambling. He says that true investing takes place over a longer time span.

Whether you manage your own portfolio or work with a trusted financial advisor, buy-and-hold investing is the best investment strategy for most people. If you are investing for retirement or other goals at least 10 years away, buy-and-hold investing is a natural fit.

Should you try the buy-and-hold strategy?

The strong argument for buy-and-hold investing is that, over a long enough period of time, a well-run company should increase in value.

Buying and holding allows you to ride out the waves and noise of the markets and capture that gain in your portfolio. For example, the average 10-year stock market return is 9.2%.

But not all investors are fans. Some mutual funds do fall into the group that can outperform the market, and actively managed fund advocates say that the biggest advantages can be seen in a down market. That’s something we have not experienced in a while.

The financial takeaway

The buy-and-hold strategy is a form of passive investing, and it’s easy to see why it’s become a go-to approach for most people.

Buying and selling stocks quickly may be exciting, but it is also very risky. Where your retirement and future are involved, you don’t want your portfolio to feel like a Las Vegas casino. If a slow-but-steady route to growing your wealth sounds enticing, buy-and-hold is probably the best investment strategy for you.

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What is a short squeeze? Understanding why they happen and how they work

The back of a stock trader watching stocks crash on screen.
A short squeeze afflicts short-sellers, investors who have sold stocks they don’t actually own, in hopes of buying them back later for less money. If the stock rises instead, the strategy goes awry.

  • A short squeeze is when a shorted stock’s price rises and sellers close their position to avoid a loss.
  • Signs of a short squeeze include frequent buying of a high number of shares being sold short.
  • Buy-limit orders and hedging strategies offer short-sellers some protection against a short squeeze.
  • Visit Business Insider’s Investing Reference library for more stories.

A short squeeze is a stock market phenomenon, something that happens to investors and traders who have acted on the assumption that an asset (a stock, usually) is going to fall – and it rises instead. Here’s how it happens.

What is a short squeeze?

Shorting a stock involves borrowing the stock, usually from a broker, and selling it now in hopes of buying it back later for less in order to make a profit.

A short squeeze is when a shorted stock’s price goes up instead of down, forcing the short seller to decide between covering their position by continuing to pay interest on the borrowed shares in hopes the price will go down or exiting their position by buying shares at the new higher price and returning them at a loss.

The downsides of a short squeeze are significant, making shorting a stock a very risky strategy for all but the most experienced traders.

Gamestop short squeeze example

In late January 2021, shares of a company called GameStop (GME) stock, which had been trading around $2.57 per share, suddenly shot up, eventually as high as $500 – when users of the Reddit website subgroup Wall Street Bets began buying up shares.

This was bad news for short-sellers, who had bet the stock would keep falling. Unlike most investors, who want their stocks to appreciate, short-sellers make money when stock prices go down and lose money when they go up.

So when GameStop started gaining, these short-sellers were caught in what’s called a short squeeze. They had borrowed to support their pessimistic investment, and they now had to pay it back – by buying GameStop shares at the higher prices. Or else, hang on – and risk losing even more money.

As of mid-July 2021, GME hovered around $185 per share. While a majority of Markets Insider analysts have a Sell rating on the stock, it held up well on July 19, 2021, during a selloff sparked by an increasing number of cases of the delta COVID variant. Even then GME closed up 2.6%.

How does a short squeeze happen?

Here is how a short squeeze scenario unfolds:

  1. You identify a stock you believe is overvalued and take a short position. Borrowing and selling shares at today’s high price in anticipation the price will go down and you will be able to buy replacement shares at a much lower price.
  2. Instead, something happens causing the price of the stock to start going up. That “something” can be the company issuing a favorable earnings report, some sort of favorable news for its industry – or simply many other investors buying the stock (as happened with GameStop).
  3. You realize you’re unable to buy the stock back at a low price. Instead of sinking, it’s climbing – and it exceeds the price you bought it for. At this point, you must either buy replacement shares at a higher price and pay back your broker at a loss, or buy even more shares than you need – in hopes that selling them for profit will help cover your losses.
  4. All this increased buying causes the stock to keep going up. This forces even more short-sellers like yourself into a tighter vise. You have the same choices as above, only the stakes keep mounting, and so do your potential losses.

Protecting yourself against a short squeeze

There are specific actions you can take to try to protect yourself against a short squeeze or to at least alleviate its grip.

  • Place stop-loss or buy-limit orders on your short positions to curb the damage. For example, if you short a stock at $50 per share, put in a buy-limit order at a certain percentage (5%, 10% or whatever your comfort level is) above that amount. If the shares rise to that price, it’ll automatically trigger a purchase, closing out your position.
  • Hedge your short position with a long position.You can also buy the stock (or an option to buy the stock) to take advantage of rising prices. Yes, you’re betting against yourself, in a way, but at least you lessen the damages of the losses and benefit from the price appreciation.

Short squeeze indicators

Short squeezes are notorious for descending quickly and unpredictably. Still, there are signs a short squeeze may be coming:

  • Substantial amount of buying pressure. If you see a sudden uptick in the overall number of shares bought, this could be a warning sign of a pending short squeeze.
  • High short interest of 20% or above. “Short interest” is the percentage of the total number of outstanding shares held by short-sellers. A high short interest percentage means a large number of all a stock’s outstanding shares are being sold short. The higher the percentage, the more likely a short squeeze may be building.
  • High Short Interest ratio (SIR) or days to cover above 10. SIR is a comparison of short interest to average daily trading volume. It represents the theoretical number of days, given average trading volume, short-sellers would need to exit their positions. The higher this number, the more likely a short squeeze is coming. Both short interest and SIR are on stock quote and screener websites such as FinViz.
  • Relative Strength Index (RSI) below 30. RSI indicates overbought or oversold conditions in the market on a scale of 0 to 100. A stock with a low RSI means it’s oversold – that is, trading at a very low price – and possibly due to increase; a high RSI indicates the stock is extremely overbought – trading at a high price – and possibly due to drop. Any RSI below 30 signals an imminent price rise, which could lead to a short squeeze. A company’s online stock listing usually includes its RSI, often under its Indicators section.

The financial takeaway

A short squeeze is bad news for short sellers and good news for investors going long. The “squeeze” forces short sellers to buy, raising the price of the stock, which causes them to lose money. Investors (buyers) benefit as the stock price goes higher. As more short sellers exit, the price goes higher causing short sellers to lose more and buyers to gain more.

Watch for any of the indicators that a short squeeze may be coming, which includes increased buying pressure, high short interest, days to cover above 10, or an RSI below 30. Most of all, you should understand that the possibility of a short squeeze makes short selling risky. Don’t go there unless you understand and accept that risk.

‘Buy the dip’ means purchasing a promising stock when its price drops, assuming a fast rebound and future profitsOptions let you lock in a good price on a stock without actually buying it – here’s how option trading worksShort selling is a high-risk but high-reward trading strategy that profits from a stock price’s fallA long position means you buy a stock or stock option in the bullish belief its value will increase over time

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