Investors generally expect higher returns from riskier investments. Financial assets range from low-risk, low-return investments, such as high-grade government bonds, to those with higher risk and higher expected commensurate reward, such as emerging markets stock investments.
In finance, the expected future benefit from investment is called a return (to investment). The return may consist of capital gain and/or investment income, including dividends, interest,
rental income etc. The economic return to an investment is the
appropriately discounted value of the future returns to the investment.
Investment generally results in acquiring an asset,
also called an investment. If the asset is available at a price worth
investing, it is normally expected either to generate income, or to
appreciate in value, so that it can be sold at a higher price (or both).
Investors, particularly novices, are often advised to adopt an investment strategy and diversify their portfolio. Diversification has the statistical effect of reducing overall risk.
To invest is to allocate money (or sometimes another resource, such as time) in the expectation of some benefit in the future.
Speculation involves a level of risk which is greater than most investors would generally consider justified by the expected return. An alternative characterization of speculation is its short-term, opportunistic nature.
Investment differs from arbitrage, in which profit is generated without investing capital or bearing risk.
An investor may bear a risk of loss of some or all of their capital invested, whereas in saving (such as in a bank deposit) the risk of loss in nominal value is normally remote.
(Note that if the currency of a savings account differs from the
account holder's home currency, then there is the risk that the exchange
rate between the two currencies will move unfavorably, so that the
value in the account holder's home currency of the savings account
decreases.)
In the early 1900s purchasers of stocks, bonds, and other securities were described in media, academia, and commerce as speculators.
By the 1950s, the term investment had come to denote the more
conservative end of the securities spectrum, while speculation was
applied by financial brokers and their advertising agencies to higher
risk securities much in vogue at that time. Since the last half of the
20th century, the terms speculation and speculator have specifically
referred to higher risk ventures.
The Code of Hammurabi
(around 1700 BC) provided a legal framework for investment,
establishing a means for the pledge of collateral by codifying debtor
and creditor rights in regard to pledged land. Punishments for breaking
financial obligations were not as severe as those for crimes involving
injury or death.
An instance, in which the price to earnings ratio has a lesser
significance, is when companies in different industries are compared. An
example; although, it is reasonable for a telecommunications stock to
show a P/E in the low teens; in the case of hi-tech stock, a P/E in the
40s range, is not unusual. When making comparisons the P/E ratio can
give you a refined view of a particular stock valuation.
The price to earnings ratio
(P/E), or earnings multiple, is a particularly significant and
recognized fundamental ratio, with a function of dividing the share
price of stock, by its earnings per share.
This will provide the value representing the sum investors are prepared
to expend for each dollar of company earnings. This ratio is an
important aspect, due to its capacity as measurement for the comparison
of valuations of various companies. A stock with a lower P/E ratio will
cost less per share, than one with a higher P/E, taking into account the
same level of financial performance; therefore, it essentially means a low P/E is the preferred option.
Warren Buffett and Benjamin Graham are notable examples of value investors. Graham and Dodd's seminal work Security Analysis was written in the wake of the Wall Street Crash of 1929.
For investors paying for each dollar of a company's earnings, the P/E ratio is a significant indicator, but the price-to-book ratio
(P/B) is also a reliable indication of how much investors are willing
to spend on each dollar of company assets. In the process of the P/B
ratio, the share price of a stock is divided by its net assets; any
intangibles, such as goodwill, are not taken into account. It is a
crucial factor of the price-to-book ratio, due to it indicating the
actual payment for tangible assets and not the more difficult valuation,
of intangibles. Accordingly, the P/B could be considered a
comparatively, conservative metric.
A value investor buys undervalued securities (and sells overvalued
ones). To identify undervalued securities, a value investor uses
analysis of the financial reports of the issuer to evaluate the
security. Value investors employ accounting ratios, such as earnings per share and sales growth, to identify securities trading at prices below their worth.
