What Is the Coupon Rate of a Bond?

A bond coupon rate represents the annual interest rate paid on a bond by the issuer, as determined by the bond’s face value. Issuers typically pay bond coupon rates on a semiannual basis.

Coupon rate is a predetermined percentage of interest, typically paid out twice per year. Investors often use the term “coupon rate” when discussing fixed-income securities, including bonds and notes.

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Q: How Does Coupon Rate Affect Bond Price?

Bond prices can move up or down based on its coupon rate, relative to movements in interest rates. When interest rates are higher than the bond’s coupon rate, that bond’s price may fall in order to offset a less attractive yield. If interest rates drop below the bond’s coupon rate, the bond’s price may rise if it becomes a more attractive investment opportunity.

Dec

2023

Understanding the Coupon Rate of a Bond

By Rebecca Lake | Growing Wealth, invest, Investing | Comments Off

A bond’s coupon rate represents the annual interest rate paid by the issuer, as determined by current market interest rates and based on the bond’s face value. Bond issuers typically pay coupon rates on a semiannual basis.

The coupon rate of a bond can tell an investor how much interest they can expect to collect on a yearly basis. The bond coupon rate is not the same as the bond yield, which investors who buy bonds on the secondary market use to estimate the total rate of return at maturity.

Investment-quality bonds can help with diversification in a portfolio while providing a consistent stream of interest income. Understanding the coupon rate and what it means is important when choosing bonds for your portfolio.

What Is the Coupon Rate?

Bonds represent a debt where the bond issuer borrows money from investors and agrees to pay interest at regular intervals in exchange for the use of their capital. Both governments and non-government entities, like corporations, may issue bonds to raise capital to fund various endeavors.

The coupon rate of a bond is usually a fixed interest rate, typically paid out twice per year. That said, there are some variable-rate bonds, as well as zero-coupon bonds (more on those below). Investors often use the term “coupon rate” when discussing fixed-income securities, including bonds and notes.

Recommended: How Does the Bond Market Work

The Role of Coupon Rates in Bond Investments

Investors can buy individual bonds, bond funds, or bond options, which are derivatives similar to stock options.

The coupon interest rate tells you what percentage of the bond’s face value, or par value, you’ll receive yearly. The rate won’t change during the life of the bond, which is why some bonds are worth more than others on the secondary market.

Coupon rates are typically lower for investment-grade bonds and higher for junk bonds, due to their higher risk.

Example of a Bond’s Coupon Rate

Assume you purchase a bond with a face value of $1,000. The bond has a coupon rate of 4%. This means that for each year you hold the bond until maturity, you’d receive $40, regardless of what you paid for the bond.

If you buy a bond on the secondary market, the story changes somewhat. That’s because bonds trade either at a premium to the par value (higher than the face value), or at a discount to par (lower than the face value). Because the coupon rate of the bond stays the same until maturity, it may represent a higher or lower percentage of the par value — this is called the yield.

History of the Term Coupon

Bond holders used to get literal coupons as a way of collecting their interest payments. This is no longer the case, as interest is paid on a set schedule to the investor directly.

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Calculating the Coupon Rate

The bond coupon rate formula is fairly simple:

Bond coupon rate = Total annual coupon payment/Face or par value of the bond x 100

To apply the coupon rate formula you’d need to know the face or par value of the bond and the annual interest or coupon payment. To find this payment, you’d multiply the amount of interest paid by the number of periodic payments made for the year. You’d then divide that by the par value and divide the result by 100.

Recommended: How to Buy Bonds: A Guide for Beginners

Step-by-Step Calculation of the Coupon Rate

Say you have a bond with a face value of $1,000, which pays $25 in interest to you twice per year.

• To find the annual coupon payment you’d multiply $25 by two to get $50.

• You’d then divide the $50 annual coupon payment by the $1,000 par value of the bond. 50 / 1000 = 0.05

• Then multiply the result by 100 (0.05 x 100) to find that your bond has a coupon rate of 5%.

The Impact of Market Interest Rates on Coupon Rates

How is the coupon rate determined? This is where current market interest rates come into play.

How Interest Rate Fluctuations Affect Bonds

Interest rates can influence coupon rates. An interest rate is the rate a lender charges a borrower. Individual lenders determine interest rates, often based on movements in an underlying benchmark rate. When discussing bond coupon rates and interest rates, it’s typically in the context of changes to the federal funds rate. This is the rate at which commercial banks lend to one another overnight.

Movements in the federal funds rate directly influence other types of interest rates, including coupon rates and bond prices on the secondary market.

When interest rates rise, based on changes to the federal funds rate, that can cause bond prices to fall. When interest rates decline, bond prices typically rise. When bond prices change that doesn’t impact the coupon rate, which stays the same. But a bond’s price is an important consideration for investors who trade on the secondary market because it impacts the yield to maturity.

Strategies for Investors in a Changing Rate Environment

Bond prices can move up or down based on the coupon rate, relative to movements in interest rates.

When interest rates are higher than the bond’s coupon rate, that bond’s price may fall in order to offset a less attractive yield. If interest rates drop below the bond’s coupon rate, the bond’s price may rise if it becomes a more attractive investment opportunity.

When comparing coupon rates and bond prices, it’s important to understand the relationship between the bond’s face value and what it trades for on the secondary market. If a bond is trading at a price above its face value, that means it’s trading at a premium to par. Conversely, if a bond is trading at a price below its face value, that means it’s trading at a discount to par.

An investor who purchases a bond with the intent to hold it until it reaches maturity does not need to worry about bond price movements. Their end goal is to collect the annual interest payments and recover their principal on the assigned maturity date, making it a relatively safe investment as long as the issuer fulfills their obligation.

Investors looking to buy bonds and resell them before they mature, however, may pay attention to which way bond prices are moving relative to the coupon rate to determine whether selling would yield a profit or loss.

Understanding Coupon Rate vs. Yield

Coupon rate tells investors how much interest a bond will pay yearly until maturity. But there are other metrics for evaluating bonds, including yield to maturity and interest rates. Understanding the differences in what they measure matters when determining whether bond investments are a good fit and what rate of return to expect.

Coupon Rate vs. Yield to Maturity

A bond’s yield to maturity or current yield reflects the interest rate earned by an investor who purchases a bond at market price and holds on to it until it reaches maturity. A bond’s maturity date represents the date at which the bond issuer agrees to repay the investor’s principal investment. Longer maturity dates may present greater risk, as they leave more room for the bond issuer to run into complications that could make it difficult to repay the principal.

When evaluating yield to maturity of a bond, you’re looking at the discount rate at which the sum of all future cash flows is equal to the price of the bond. Yield to maturity can be quoted as an annual rate that’s different from the bond coupon rate. In figuring yield to maturity, there’s an assumption that the bond issuer will make coupon and principal payments to investors on time.

The coupon rate is the annual interest earned while yield to maturity reflects the total rate of return produced by the bond when all interest and principal payments are made.

Coupon Rate vs Interest Rate

While coupon rate and interest rate seem similar, they are distinct. The coupon rate is set by the issuer of the bond, and the amount paid to the bondholder is tied to the face value.

But the prevailing interest rate set by the government is what determines the coupon rate. If the central bank, i.e. the Federal Reserve, sets the interest rate at 6%, that will influence what lenders are willing to accept in the form of the coupon rate.

Also, the price of a bond on the secondary market hinges on the coupon rate. A higher-coupon bond is more desirable than a lower-coupon bond, so its price will be higher.

💡 Quick Tip: It’s smart to invest in a range of assets so that you’re not overly reliant on any one company or market to do well. For example, by investing in different sectors you can add diversification to your portfolio, which may help mitigate some risk factors over time.

Variable-Rate and Zero-Coupon Bonds

Not all coupon rates are fixed. Investors can also consider whether buying variable-rate bonds or zero-coupon bonds might make sense.

Fixed vs. Variable Coupon Rates and Investment Impact

Although bonds typically offer fixed-income payments, some bonds do offer coupon rates that adjust periodically. For that reason these bonds are sometimes called floating-rate or adjustable-rate bonds.

In these cases, the coupon rate adjusts according to a formula that’s linked to an interest rate index such as the SOFR (Secured Overnight Financing Rate), the new benchmark in the U.S. that has largely replaced the LIBOR (London Interbank Offered Rate).

Although these are income-producing bonds, and there is always the possibility that they could offer a higher yield under the right conditions, they are not technically fixed-income instruments, which is something for investors to bear in mind. In addition they come with the risk of default.

Zero-Coupon Bonds Explained

Some bonds, called zero-coupon bonds, don’t pay interest at all during the life of the bond. The upside of choosing zero bonds is that by forgoing annual interest payments, it’s possible to purchase the bonds at a deep discount to par value. This means that when the bond matures, the issuer pays the investor more than the purchase price.

Zero-coupon bonds typically have longer maturity dates, which may make them suitable when investing for long-term goals. This type of bond may experience more price fluctuations compared to other types of bonds sold on the secondary market. Investors may still have to pay taxes on the imputed interest generated by the bond, though it’s possible to avoid that by investing in zero-coupon municipal bonds or other tax-exempt zero-coupon bond options.

The Takeaway

Investing in bonds can help you create a well-rounded portfolio alongside stocks, and other securities, which is why knowing the coupon rate of a bond is important. The coupon rate is the interest rate paid by the issuer, and it’s fixed for the life of the bond — which makes it possible to create a predictable income stream, whether you buy the bond at issuance or on the secondary market.

As you get closer to retirement, bonds can be an important part of your income and risk management strategy, whether you’re investing through an IRA, a 401(k), or a brokerage account.

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Dec

2023

Budgeting for the Cost to Build a Deck

By Bonnie Gibbs Vengrow | Budgeting & Goals, Home Ownership, personal_loan | No Comments

A deck can turn your backyard into a dream destination. But the reality is, building one isn’t cheap.

A new 320-square-foot wood deck can set you back around $19,248, according to the latest estimates from Remodeling Magazine’s Cost vs. Value Report. A composite deck of the same size runs around $24,677. On average, a typical homeowner will spend between $30 and $60 per square foot to have a deck professionally built, according to Angi. But project costs can vary based on where you live, the materials you use, the size of the deck, and other factors.

Whatever your deck plans entail, you’ll want to make sure you’re financially prepared. Here’s a closer look at the factors that can impact how much you could pay to have a professionally built deck added to your home.

Get an Idea of Labor Costs

No matter what kind of deck you’re building, count on labor taking up a big chunk of the budget. Generally speaking, it’s around 50% of the overall project costs, though some estimates put that figure closer to 70% (The rest of the budget typically goes toward covering the cost of materials and other smaller expenses.)

One way to get a rough idea of how much you’ll pay for labor is to use the rule of two. This method involves estimating the total cost of the project (labor plus materials) and dividing that amount by two. The result is the estimate of labor costs.

The rule of two also works the other way around. Let’s say you get a quote from a contractor who will be building your deck. To get an idea of the total cost of the project, simply multiply the labor cost you’ve been quoted by two.

While this method can provide a solid starting point as you plan your budget, it doesn’t factor in any unexpected costs that may crop up as your deck is being built.

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Consider the Decking Materials

Another important factor to consider is the material you want to use for your deck. More durable decking material will likely cost you more, but could save in the long run with minimal upkeep or less-expensive repairs. Here’s a look at the average cost of common materials, according to Angi:

• Pressure-treated wood: $15 to $25 per square foot

• Composite decking: $4 to $12 per square foot (materials only) or $25 to $54 per square foot (for an installed deck)

• Bamboo: $3 to $10 per square foot

• Cedar: $4 to $9 per square foot

• Redwood: $5 to $35 per square foot

• Metal: $15 to $20 per linear foot

Of course, price is just one factor. You’ll also want to think about the climate where you live. Do you get a lot of snow in the winter? Is it very humid in the summer? Be sure whatever decking material you choose can stand up to the environment.

Choose a Design That Fits Your Budget

After materials and labor, the actual design of a deck can influence the overall cost of the project. To help keep prices low, you may want to stick with a simple design, traditional, squared-off corners, or even a smaller deck.

One affordable option? A ground-level deck, which sits within 30 inches from the ground. Because it’s so low, this type of deck requires fewer materials and structural reinforcements. And you won’t need to add a railing or stairs, which can be additional savings.

Factor In Additional Costs

While labor, materials, and design are the major players in a construction budget, there are other costs you’ll want to consider.

Permits are one example. Most towns and cities require permits for additional structures like decks. Deck contractors are usually well-versed in this process, and most will include the price of permits in their quotes.

If you’re building the deck yourself — or your contractor won’t pull a permit — you’ll need to handle the red tape yourself. Start by calling your local building department and explaining the project to them. If a permit is required, they can explain how the process works and provide you with the correct application form.

It’s also a smart move to factor in any costs you may incur once the deck is built. For instance, the new addition could increase your home insurance premiums. (Your agent can explain what changes, if any, you’ll need to make to your policy.)

You may also be hit with a higher property tax bill, since the addition of a permanent fixture like a deck typically increases a home’s value. To get an estimate of the change, contact your local building and tax departments.

Comparison Shop

Construction is similar to plumbing or automotive repair in that if you aren’t an expert, it can be hard to gauge the price. Whether you’re hiring a contractor or a carpenter, it can help to ask for bids from a few local professionals to ensure you have the right person for the job — and your budget. Ask potential candidates to provide photos of their projects and names of previous clients you can call.

For a long-term investment like a deck, going with the cheapest option might not be the best strategy. While there are ways to potentially lower the cost of a new deck, be sure you’re not sacrificing quality for price. After all, this is something that you and your family will hopefully be using for years.

Ways to Pay For a New Deck

While a deck brings comfort and enjoyment, the cost of building one can be significant. Here are some common financing options to explore.

Personal Loan

If you need to access funds quickly, don’t want to use your home as collateral, and can afford to make the monthly payments, consider a personal loan.

With this type of loan, you borrow a lump sum from a lender, which you’ll pay back with interest. The money can be used for almost anything, including paying for a new deck. Personal loans are usually unsecured, which means they don’t require collateral. Instead, a lender will consider a borrower’s creditworthiness.

Most lenders offer a personal loan amount of $50,000, though some lenders, including SoFi, offer lending amounts up to $100,000. Repayment terms are usually two to seven years, and interest rates are typically fixed.

💡 Quick Tip: Before choosing a personal loan, ask about the lender’s fees: origination, prepayment, late fees, etc. SoFi personal loans come with no-fee options, and no surprises.

Fixed-Rate Home Equity Loan

If you’ve built up equity in your home and have a one-time cash need, you may want to look into a fixed-rate home equity loan.

This loan type is fairly straightforward: You receive a lump-sum payment from the lender, which you’ll repay over a period of time with a set interest rate. The term of these loans typically spans five to 15 years, and the amount you borrow must be repaid in full if you sell your home. If you’re unable to make the payments, you could risk losing your house.

Note that the closing costs may be similar to the cost of closing on a home mortgage. As you’re comparison shopping, be sure to ask about the lender’s closing costs so you can prepare your budget accordingly.

Home Equity Line of Credit (HELOC)

If your deck addition turns into an ongoing project, and you want some flexibility to pay as you go, then a home equity line of credit (HELOC) may be a good fit.

A HELOC is revolving debt, meaning that as you pay down the loan balance, you can borrow it again during the draw period. That’s when you can use, or draw, funds against the line of credit, typically 10 years. After that, you can no longer draw funds. (Another important time period to keep in mind? The repayment period, which is the amount of time you have to repay the loan in full.)

Note that unlike a fixed-rate home improvement loan, a HELOC’s interest rate is variable. This means it changes to reflect the current interest rate, which could cause your monthly loan payment amounts to vary.

No-Interest Credit Cards

With a no-interest, or 0% APR, credit card, you won’t be charged any interest on your purchases for a set period of time. Some cards also extend the temporary 0% APR to balance transfers.

A no-interest credit card comes with low borrowing costs, which could make it an attractive way to finance a new deck. But qualifying for one of these cards can be difficult. And when the promotional period ends, a potentially high APR will start accruing on the remaining balance.

The Takeaway

Adding a deck onto your home can be a great way to enjoy your backyard and add to the value of your home. When budgeting for the cost to build a deck, you’ll want to factor in labor, materials, design, and extra expenses like permits, insurance premiums, and property taxes. Enlisting the help of a reputable, licensed contractor or carpenter can help ensure you get the deck you want, at a price you can afford.

There are some common ways to finance a new deck, and each has its own set of pros and cons. With a personal loan, you may be able to get a lump sum fairly quickly. A fixed-rate home equity loan may have lower rates and longer repayment terms than a personal loan, but you’ll need to use your house as collateral. A HELOC allows you to pay as you go, which could be handy if the construction project runs long. And a no-interest credit card offers low borrowing costs, but a potentially high APR kicks in once the promotional period ends.

Think twice before turning to high-interest credit cards. Consider a SoFi personal loan instead. SoFi offers competitive fixed rates and same-day funding. Checking your rate takes just a minute.

SoFi’s Personal Loan was named NerdWallet’s 2024 winner for Best Personal Loan overall.

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Dec

2023

How to Calculate the Debt-to-Equity Ratio

By Samuel Becker | Growing Wealth, Investing | No Comments

The debt-to-equity ratio (D/E) is one of many financial metrics that helps investors determine potential risks when looking to invest in certain stocks.

Companies also use debt, also known as leverage, to help them accomplish business goals and finance operating costs. Calculating a company’s debt-to-income ratio requires a relatively simple formula investors can use on their own or with a spreadsheet.

What Is the Debt-to-Equity Ratio?

The debt-to-equity ratio is one of several metrics that investors can use to evaluate individual stocks. At its simplest, the debt-to-equity ratio is a quick way to assess a company’s total liabilities vs. total shareholder equity, to gauge the company’s reliance on debt.

In other words, the D/E ratio compares a company’s equity — how much value is locked up in its shares — to its debts. Among other things, knowing this figure can help investors gauge a company’s ability to cover its debts. For example, if a company were to liquidate its assets, would it be able to cover its debt? How much money would be left over for shareholders?

Investors often use the debt-to-equity ratio to determine how much risk a company has taken on, and in return, how risky it may be to invest in that company. After all, if a company goes under and can’t cover its debts, its shares could wind up worthless.

💡 Quick Tip: When people talk about investment risk, they mean the risk of losing money. Some investments are higher risk, some are lower. Be sure to bear this in mind when investing online.

What Is Leverage?

To understand the debt-to-equity ratio, it’s helpful to understand the concept of leverage. A business has two options when it comes to paying for operating costs: It can either use equity, or it can use debt, a.k.a. leverage.

The company can use the funds they borrow to buy equipment, inventory, or other assets — or to fund new projects or acquisitions. The money can also serve as working capital in cyclical businesses during the periods when cash flow is low.

While it’s potentially risky to use leverage — a company might have to declare bankruptcy if it can’t pay its debt — borrowed funds can also help a company grow beyond the limitation of its equity at critical junctures.

The term “leverage” reflects the hope that the company will be able to use a relatively small amount of debt to boost its growth and earnings. Wise use of debt can help companies build a good reputation with creditors, which, in turn, will allow them to borrow more money for potential future growth.

Understanding Different Types of Debt

Not all debt is considered equally risky, however, and investors may want to consider a company’s long-term versus short-term liabilities. Generally speaking, short-term liabilities (e.g. accounts payable, wages, etc.) that would be paid within a year are considered less risky.

A company’s ability to cover its long-term obligations is more uncertain, and is subject to a variety of factors including interest rates (more on that below).

The Debt-to-Equity Ratio Formula

Calculating the debt-to-equity ratio is fairly straightforward. You can find the numbers you need on a listed company’s balance sheet.

To calculate the D/E ratio, take the company’s total liabilities and divide it by shareholder equity. Here’s what the debt to equity ratio formula looks like:

D/E = Total Liabilities / Shareholder Equity

How to Calculate the Debt-to-Equity Ratio

In order to calculate the debt-to-equity ratio, you need to understand both components.

Total Liabilities

This component includes a company’s current and long-term liabilities. Current liabilities are the debts that a company will typically pay off within the year, including accounts payable. Long-term liabilities are debts whose maturity extends longer than a year. Think mortgages on buildings or long-term leases.

Equity

The equity component includes two portions: shareholder equity and retained earnings. Shareholder equity is the money investors have paid in exchange for shares of the company stock. Retained earnings are profits that the company holds onto that aren’t paid out in the form of dividends to shareholders.

Excel Formula for Debt-to-Equity Ratio

Using excel or another spreadsheet to calculate the D/E is relatively straightforward. First, using the company balance sheet, pull the total debt amount and the total shareholder equity amount, and enter these numbers into adjacent cells (e.g. E2 and E3).

Then, in cell E4 enter the formula “=E2/E3”, and this will give you the D/E ratio.

Debt-to-Equity Example

To look at a simple example of a debt to equity formula, consider a company with total liabilities worth $100 million dollars and equity worth $85 million. Divide $100 million by $85 million and you’ll see that the company’s debt-to-equity ratio would be about 1.18. In other words, the company has $1.18 in debt for every dollar of equity.

When using a real-world debt to equity ratio formula, you’ll probably be able to find figures for both total liabilities and shareholder equity on a company’s balance sheet. Publicly traded companies will usually share their balance sheet along with their regular filings with the Securities and Exchange Commission (SEC).

Putting the D/E in Context

Remember that arriving at this ratio is just that: a single number that reveals a certain aspect of a company’s potential performance, but doesn’t tell the whole story. It’s essential to compare a company’s D/E ratio to that of other companies in its industry.

In addition, there are many other ways to assess a company’s fundamentals and performance — by using fundamental analysis and technical indicators. Experienced investors rarely rely on one measure to evaluate a stock.

What Is a Good Debt-to-Equity Ratio?

Once you’ve calculated a debt-to-equity ratio, how do you know whether that number is good or bad?

As a general rule of thumb, a good debt-to-equity ratio will equal about 1.0. However, the acceptable rate can vary by industry, and may depend on the overall economy. A higher debt-to-income ratio could be more risky in an economic downturn, for example, than during a boom.

Recommended: Investing During a Recession

For example, if a company, such as a manufacturer, requires a lot of capital to operate, it may need to take on a lot of debt to finance its operations. A company like this may have a debt equity ratio of about 2.0 or more.

Other companies that might have higher ratios include those that face little competition and have strong market positions, and regulated companies, like utilities, that investors consider relatively low risk.

Companies that don’t need a lot of debt to operate may have debt-to-equity ratios below 1.0. For example, the service industry requires relatively little capital.

Modifying Debt-to-Equity Ratio

As noted above, it’s also important to know which type of liabilities you’re concerned about — longer-term debt vs. short-term debt — so that you plug the right numbers into the formula.

For example, if you have two companies, each with $2.5 million in shareholder equity, and $2.5 million in debt, their D/E ratios would be the same: 1.0.

But let’s say Company A has $2 million in long-term liabilities, and $500,000 in short-term liabilities, whereas Company B has $1.5 million in long-term debt and $1 million in short term debt. The long-term D/E ratio for Company A would be 0.8 vs. 0.6 for company B, indicating a higher risk level.

Depending on the industry they were in and the D/E ratio of competitors, this may or may not be a significant difference, but it’s an important perspective to keep in mind.

What Does a Company’s Debt-to-Equity Ratio Say About It?

A debt-to-equity-ratio that’s high compared to others in a company’s given industry may indicate that that company is overleveraged and in a precarious position. Investors may want to shy away from companies that are overloaded on debt.

Not only that, companies with a high debt-to-equity ratio may have a hard time working with other lenders, partners, or even suppliers, who may be afraid they won’t be paid back.

In some cases, creditors limit the debt-to-equity ratio a company can have as part of their lending agreement. Such an agreement prevents the borrower from taking on too much new debt, which could limit the original creditor’s ability to collect.

It is possible that the debt-to-equity ratio may be considered too low, as well, which is an indicator that a company is relying too heavily on its own equity to fund operations. In that case, investors may worry that the company isn’t taking advantage of potential growth opportunities.

Ultimately, businesses must strike an appropriate balance within their industry between financing with debt and financing with equity.

What Does It Mean for a Debt-to-Equity Ratio to Be Negative?

There could be several reasons for a negative debt-to-equity ratio, including:

• Interest rates are higher than the returns

• A negative net worth (more liabilities than assets)

• A financial loss after a large dividend payout

• Dividend payments that surpass investor’s equity in the firm

So, what does this mean for investors?

Negative D/E ratios may tell investors that the company indicates investment risk and shows that the company is not financially stable. Therefore, investing in such a company may result in a loss for investors.

💡 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.

Which Industries Have High Debt-to-Equity Ratios?

The depository industry (banks and lenders) may have high debt-to-equity ratios. Because banks borrow funds to loan money to consumers, financial institutions usually have higher debt-to-equity ratios than other industries.

Other industries with high debt-to-equity ratios include:

• Non-depository credit institutions

• Insurance providers

• Hotels, rooming houses, camps, and other lodging places

• Transportation by air

• Railroad transportation

Effect of Debt-to-Equity Ratio on Stock Price

The debt-to-equity ratio can clue investors in on how stock prices may move. As a measure of leverage, debt-to-equity can show how aggressively a company is using debt to fund its growth.

The interest rates on business loans can be relatively low, and are tax deductible. That makes debt an attractive way to fund business, especially compared to the potential returns from the stock market, which can be volatile. And sometimes an aggressive strategy can pay off.

For example, if a company takes on a lot of debt and then grows very quickly, its earnings could rise quickly as well. If earnings outstrip the cost of the debt, which includes interest payments, a company’s shareholders can benefit and stock prices may go up.

The opposite may also be true. A highly leveraged company could have high business risk. If earnings don’t outpace the debt’s cost, then shareholders may lose and stock prices may fall.

Having to make high debt payments can leave companies with less cash on hand to pay for growth, which can also hurt the company and shareholders. And a high debt-to-equity ratio can limit a company’s access to borrowing, which could limit its ability to grow.

Debt-to-Equity (D/E) Ratio vs the Gearing Ratio

The debt-to-equity ratio belongs to a family of ratios that investors can use to help them evaluate companies. These ratios are collectively known as gearing ratios.

Here’s a quick look at other gearing ratios you may encounter:

Equity Ratio

This ratio compares a company’s equity to its assets, showing how much of the company’s assets are funded by equity.

Debt Ratio

This looks at the total liabilities of a company in comparison to its total assets. On the surface, this may sound like the debt ratio formula is the same as the debt-to-equity ratio formula. However, the total debt ratio formula includes short-term assets and liabilities as part of the equation, which the debt-to-equity ratio discounts. Also, this ratio looks specifically at how much of a company’s assets are financed with debt.

Time Interest Earned

This ratio helps indicate whether a company has the ability to make interest payments on its debt, dividing earnings before interest and taxes (EBIT) by total interest. Most of the information needed to calculate these ratios appears on a company’s balance sheet, save for EBIT, which appears on its profit and loss statement.

How Businesses Use Debt-to-Equity Ratios

Businesses pay as much attention to debt-to-equity as individual investors. For example, if a company wants to take on new credit, they would likely want their debt-to-equity ratio to be favorable.

Banks and other lenders keep tabs on what healthy debt-to-equity ratios look like in a given industry. A debt-to-equity ratio that seems too high, especially compared to a company’s peers, might signal to potential lenders that the company isn’t in a good position to repay the debt.

Publicly traded companies that are in the midst of repurchasing stock may also want to control their debt-to-equity ratio. That’s because share buybacks are usually counted as risk, since they reduce the value of stockholder equity. As a result the equity side of the equation looks smaller and the debt side appears bigger.

How Can the Debt-to-Equity Ratio Be Used to Measure a Company’s Risk?

While acceptable D/E ratios vary by industry, investors can still use this ratio to identify companies in which they want to invest. First, however, it’s essential to understand the scope of the industry to fully grasp how the debt-to-equity ratio plays a role in assessing the company’s risk.

Many companies borrow money to maintain business operations — making it a typical practice for many businesses. For companies with steady and consistent cash flow, repaying debt happens rapidly. Also, because they repay debt quickly, these businesses will likely have solid credit, which allows them to borrow inexpensively from lenders.

Therefore, even if such companies have high debt-to-equity ratios, it doesn’t necessarily mean they are risky. For example, companies in the utility industry must borrow large sums of cash to purchase costly assets to maintain business operations. However, since they have high cash flows, paying off debt happens quickly and does not pose a huge risk to the company.

On the other hand, companies with low debt-to-equity ratios aren’t always a safe bet, either. For example, a company may not borrow any funds to support business operations, not because it doesn’t need to but because it doesn’t have enough capital to repay it promptly. This may mean that the company doesn’t have the potential for much growth.

IPOs and Debt-to-Equity Ratios

Many startups make high use of leverage to grow, and even plan to use the proceeds of an initial public offering, or IPO, to pay down their debt. The results of their IPO will determine their debt-to-equity ratio, as investors put a value on the company’s equity.

So in the case of deciding whether to invest in IPO stock, it’s important for investors to consider debt when deciding whether they want to buy IPO stock.

The Limitations of Debt-to-Equity Ratios

Debt-to-equity ratio is just one piece of the puzzle when it comes to evaluating stocks. Whether the ratio is high or low is not the bottom line of whether one should invest in a company. A deeper dive into a company’s financial structure can paint a fuller picture.

A company’s accounting policies can change the calculation of its debt-to-equity. For example, preferred stock is sometimes included as equity, but it has certain properties that can also make it seem a lot like debt. Specifically, preferred stock with dividend payment included as part of the stock agreement can cause the stock to take on some characteristics of debt, since the company has to pay dividends in the future.

If preferred stock appears on the debt side of the equation, a company’s debt-to-equity ratio may look riskier. If it’s included on the equity side, the ratio can look more favorable.

In some cases, companies can manipulate assets and liabilities to produce debt-to-equity ratios that are more favorable. Additionally, investors may want to keep an eye on interest rates. If they’re low, it can make sense for companies to borrow more, which can inflate the debt-to-equity ratio, but may not actually be an indicator of bad tidings.

Finally, the debt-to-equity ratio does not take into account when a debt is due. A debt due in the near term could have an outsized effect on the debt-to-equity ratio.

As a result of temporary imbalances like these, investors may want to compare debt-to-equity ratios from various time periods to get an idea of a company’s normal wage, or whether fluctuations are signaling more noteworthy movement within the company.

Investing in Businesses With SoFi

Investors can use the debt-to-equity ratio to help determine potential risk before they buy a stock. As an individual investor you may choose to take an active or passive approach to investing and building a nest egg. The approach investors choose may depend on their goals and personal preferences.

Investors who want to take a more hands-on approach to investing, choosing individual stocks, may take a look at the debt-to-equity ratio to help determine whether a company is a risky bet.

Invest with as little as $5 with a SoFi Active Investing account.

FAQ

What is a good debt-to-equity ratio?

Generally speaking a D/E ratio of about 1.0 doesn’t raise any red flags, but it’s important to consider the needs of the company, its industry, and its competitors, as any of these factors might justify a higher debt-to-equity ratio.

How do you interpret debt-to-equity ratio?

Taking a broader view of a company and understanding the industry its in and how it operates can help to correctly interpret its D/E ratio. For example, utility companies might be required to use leverage to purchase costly assets to maintain business operations. But utility companies have steady inflows of cash, and for that reason having a higher D/E may not spell higher risk.

What is considered a bad debt-to-equity ratio?

A D/E ratio of about 1.0 to 2.0 is considered good, depending on other factors like the industry the company is in. But a D/E ratio above 2.0 — i.e., more than $2 of debt for every dollar of equity — could be a red flag. Again, context is everything and the D/E ratio is only one indicator of a company’s health.

SoFi Invest®

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

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Dec

2023

A Guide to Keeping Your Data Safe: Top 11 Cyber Security Tips

By SoFi Editors | Credit, credit card | Comments Off

Of course, there’s a risk in handing over sensitive data. Identity theft is on the rise — the Federal Trade Commission received more than 1.1 million reports of it in 2022 alone. And the total number of data breaches has more than tripled, according to a 2022 report from Verizon.

The good news is, there are steps you can take to help protect your personal information. Some of these you’ll only need to do once, others are a habit that you’ll get the hang of with time.

Let’s take a closer look.

1. Use Strong Passwords

One of the most basic ways to protect yourself online is to use a unique password for each of your accounts — email, social media, mobile banking, you name it. Aim for passwords that are simple for you to remember but difficult for others to guess.

To create a strong password, keep the following tips in mind:

• Use a combination of upper- and lower-case letters, symbols, and numbers.

• Longer is usually better — aim for a password that’s at least six characters long.

• Never use personal information like your name, birthday, or email address.

• Random passwords are usually difficult for hackers to crack. Use a password generator if you need help.

💡 Quick Tip: Make money easy. Enjoy the convenience of managing bills, deposits, and transfers from one online bank account with SoFi.

2. Turn On Two-Factor Authentication

Take advantage of two-factor authentication (2FA) when possible. 2FA involves using one authentication method plus your username and password. Examples of 2FA include sending a numerical code to your phone or email, using fingerprint ID, or identifying you via facial recognition.

Certain accounts add an extra layer of protection by using authenticator apps like Google Authenticator, Authy, or Microsoft Authenticator. Typically, these apps generate a verification passcode, which you’ll need to enter when you log in.

3. Always Use a Secure Connection

There were concerns in the not-so-distant past about using a public wifi network to get online, as it could make your information vulnerable to hackers. But today, connecting through a public network is usually considered safe. That’s because most websites protect data through encryption, a process that involves scrambling information so it can only be deciphered using a unique encryption key.

To make sure your connection is encrypted, look for either a lock symbol or “https” to the left of the URL in a browser.

4. Know the Signs of a Phishing Scam

Phishing is the oldest trick in the book. Unfortunately, it also happens to be fairly successful.

Phishing emails and text messages can take many different forms: a link to confirm financial information, an alert about suspicious activity or log-in attempts on one of your accounts, an invoice you don’t recognize, a coupon for a free prize.

One effective way to help prevent falling for these scams? Be cautious about emails that have an attachment or embedded link, and don’t click or download anything from a source you don’t recognize. Keep in mind that legitimate companies usually won’t send you a link to change or update your payment information. If you’re not sure whether a message is authentic, you can call the company directly to confirm.

5. Check Your Credit Report

Checking your credit report regularly is a simple way to help protect your identity and financial security. You can request a free credit report from each of the three major credit reporting agencies, Equifax, Experian, and Transunion, by visiting AnnualCreditReport.com . It will detail all the information about your financial history, including credit card debt, student loans, missed payments and more.

When you receive your credit report, make sure all of the information is accurate. If you notice anything that is incorrect, report it to the credit bureaus and dispute any inaccurate information.

💡 Quick Tip: Check your credit report at least once a year to ensure there are no errors that can damage your credit score.

6. Monitor Your Credit Card and Bank Accounts

Keeping tabs on your credit card and bank accounts doesn’t just help with tracking your spending. It’s also a good way to spot mysterious charges.

Sometimes, a scammer will start with a small, unassuming charge and then quickly escalate their spending when they feel that a person isn’t paying attention. Look for strange names and keep tabs on every purchase, no matter how small.

7. Make Social Media Profiles Private

At first glance, this might seem like an unnecessary step. After all, if someone has your social security and your address, what more do they need? But strengthening your privacy settings on your social media accounts can go a long way to protecting your data in the future. Hackers can use photos, comments, and more to learn about you, which could make it easier for them to break into your accounts.

8. Tap Into Online Tools for Help

As data security becomes more important, the government is getting involved. If you think, or know, that your identity has been stolen, you can visit Identity Theft , the Federal Trade Commission’s website dedicated to cyber security protection. There are resources to help you troubleshoot ongoing issues, create a plan to protect your identity, report identity theft, and more.

9. Update Software

Yes, updating apps, web browsers, and operating systems takes time and may temporarily disrupt your work. But the reward — protecting your data — is worth the few extra minutes. Many times, software updates include new features or improved security.

Set updates to happen automatically so you always have the latest and greatest version.

10. If Your Identity Has Been Stolen, Consider Placing a Credit Freeze on Your Files

By placing a credit freeze or security freeze on your files, you can prevent a potential hacker from opening a new account in your name. The freeze restricts access to your credit report, which makes it difficult for a cyber criminal to open up any accounts.

Freezing your credit does not affect your credit score. However, as long as the freeze is in place, you won’t be able to open any new accounts in your name. If you’re planning to rent an apartment, apply for a job, or buy insurance, you’ll likely need to temporarily lift the freeze for a certain amount of time or for a specific party.

Check with the credit reporting company in advance to find out the costs and lead times. The process is daily involved, as you’ll have to request a credit freeze with all three agencies.

Also, it’s worth mentioning that a credit freeze doesn’t prevent a hacker from adding charges to your existing accounts

11. Consider Placing a Fraud Alert on Your File If You Suspect Identity Theft

This is a much easier option than placing a full credit freeze, as it only requires creditors to confirm your identity instead of freezing all your credit in the future. It may be a good step to take if you are concerned that someone might have been able to access your personal data but lack proof

The Takeaway

Data breaches and identity theft happen, but by taking some simple precautions, you can help keep your personal information from falling into the wrong hands.

Cybercrime isn’t just disruptive, it can also be expensive. That’s why SoFi has partnered with Blink by Chubb to help protect your finances with cyber insurance. Apply in just minutes and get your quote.

SoFi helps you safeguard your digital life.

Photo credit: iStock/ozgurcankaya

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

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.

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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Dec

2023

What Is a Red Herring in Investing & How Does It Work?

By Brian O'Connell | Growing Wealth, invest, Investing | Comments Off

What Is a Red Herring?

A red herring is a preliminary prospectus filed by a company that’s planning an initial public offering, or IPO. While a red herring prospectus includes coverage of the company’s operations, total estimated IPO amount, management and competitive market standing, it doesn’t reveal the share price or number of shares to be issued.

The SEC reviews the red herring prospectus, and all subsequent iterations, to make sure that all information is accurate before allowing the company to transition to the final investment prospectus phase.

A red herring prospectus has both investment and regulatory implications for companies heading toward an IPO, and any investors who may be interested in obtaining IPO stock.

Key Points

• A red herring in an IPO is a preliminary prospectus filed by a company that provides information on operations, estimated IPO amount, management, and market standing.

• A red herring is not final, and investors must take into considerations that the filing doesn’t include the share price for the IPO or the number of shares to be issued.

• The SEC reviews a red herring prospectus to make sure that all information is accurate before allowing the company to transition to the final investment prospectus phase.

• Red herrings offer investors some insight into the pros and cons potentially associated with trading IPO shares of the company in question.

IPOs, Explained

An initial public offering is the process through which a private company goes public, with shares of the company’s stock available to the investing public. The term “initial public offering” simply refers to a new stock issuance on a public exchange, which allows corporations to raise money through the sale of company stock.

Red Herring Prospectus

When a company transitions from a private company to public stock issuance, they must file a prospectus, a formal document sharing the new company’s structure, the purpose of the issue, underwriting, board of directors, and other relevant details with the Securities and Exchange Commission (SEC).

That prospectus, while not final, may help potential investors make investment decisions based on the information included in the prospectus. A prospectus doesn’t just cover stocks — it’s also required for bonds and mutual funds.

While all stocks include some degree of risk, IPO shares are particularly high-risk investments. Despite the media hype around many IPOs, which often focuses on big wins, the history of IPOs shows plenty of losses as well, owing to the volatility of these shares.

The risks associated with IPO stock is a significant reason why investors are typically asked to meet certain requirements in order to trade IPO shares through a brokerage.

💡 Quick Tip: Before opening any investment account, consider what level of risk you are comfortable with. If you’re not sure, start with more conservative investments, and then adjust your portfolio as you learn more.

How a Red Herring Works

Prospectuses are dynamic and change regularly, as new information about a company comes forth. So, an investment prospectus will likely have multiple drafts before a final draft is released after SEC review.

In a red herring document, the prospectus is incomplete and noted as such, with the word “Red Herring” included on the prospectus cover. That disclaimer lets readers know not only that the prospectus is incomplete, but also that the company has filed for an upcoming IPO. The term “red herring” refers to both the initial prospectus and the subsequent drafts.

Additionally, a stock cannot complete its IPO until it fulfills the S-1 registration statement process, which is a primary reason why a red herring prospectus doesn’t include a stock price or the number of shares traded.

The SEC will review a red herring prospectus prior to its release to ensure that all information is accurate and that the document does not include any intentional discrepancies, falsehoods, or misleading information.

Recommended: A Guide to Tech IPOs

Once regulators clear the registration statement, the company can go ahead and transition out of the red herring IPO phase and enter into the final investment prospectus phase. The time between the approval of the registration process and the time that it reaches its “effective date” (which clears the stock for public trading) is 15 days.

In clearing the IPO for stock market trading, the SEC confirms the necessary information is included in the final prospectus, and that the information is accurate and compliant, based on U.S. securities law. Once the company gets through that hurdle they can continue moving through the IPO process.

💡 Quick Tip: Access to IPO shares before they trade on public exchanges has usually been available only to large institutional investors. That’s changing now, and some brokerages offer pre-listing IPO investing to qualified investors.

Red Herring Pros and Cons

Any investor looking to invest in an IPO stock should understand the benefits and investment risks when it comes to red herrings and in investing in IPOs.

Red Herring Advantages

• Useful overall information on the company. While investors won’t find any information on pricing or share amounts, they can review company history, operational strategies, management team, potential IPO amount, and market performance, among other company particulars.

• Some financial data points. Red herring IPOs may provide valuable information about how a company plans to use proceeds from an IPO stock offering. Knowing, for example, that a company plans to use stock proceeds to grow the company or to pay down debts gives investors a better indication of company direction, which they can use to make more informed investment decisions.

• Risk factors. Under a section known as “Risk Factors”, a soon-to-be publicly-traded company lists any potential risk factors that could curb performance and growth. Legal or compliance problems, abundant market competition, and frequent management turnover are just some of the potential risks included in a red herring IPO prospectus – and investors should factor those risks into any potential investment decision.

Red Herring Disadvantages

• No pricing data. The biggest drawback of red herring IPO prospectus is the fact that the documents don’t provide any guidance on IPO stock pricing or number of shares available. These are obviously critical components of any investment decision, but investors must wait until the registration statement process is fully complete before that data is available.

• Shifting information. IPO company information can and does change from document version to version. Investors need to be diligent and stay apprised of all information on red herring prospectuses, from version to version, if they’re interested in an IPO stock.

• Uncertainty. If government regulators cite deficiencies in a red herring prospectus they may half the IPO process until they’re addressed.

Red Herring Example

A red herring prospectus when filed with the SEC may have the words “Red Herring” stamped on the document as a reminder to prospective investors that the information in the document is subject to change, and that the securities (i.e. shares of stock, or bonds) are not available for sale until the SEC has approved the final prospectus.

The statement typically included in a new company’s prospectus may say:

The information in this preliminary prospectus is not complete and may be changed. We may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This preliminary prospectus is not an offer to sell these securities and we are not soliciting offers to buy these securities in any state or other jurisdiction where the offer or sale is not permitted.

The Takeaway

The red herring prospectus is the first version of a new IPO company S-1 prospectus, and may be the first detailed impression that institutional investors and the investing public gets of an initial public offering.

By providing all the necessary information on a new publicly traded company (minus the opening share price and the number of shares available), a red herring prospectus can introduce investors to a new stock, which can provide much of the information necessary for investors to decide whether they’re interested in the company, and willing to assume the risks involved in trading IPO shares (if eligible).

Whether you’re curious about exploring IPOs, or interested in traditional stocks and exchange-traded funds (ETFs), you can get started by opening an account on the SoFi Invest® brokerage platform. On SoFi Invest, eligible SoFi members have the opportunity to trade IPO shares, and there are no account minimums for those with an Active Investing account. As with any investment, it's wise to consider your overall portfolio goals in order to assess whether IPO investing is right for you, given the risks of volatility and loss.

Invest with as little as $5 with a SoFi Active Investing account.

FAQ

How does a red herring document differ from the final prospectus?

The red herring document is usually shorter than the final filing with the SEC. In addition the final document contains the number of shares in the IPO, as well as the IPO price.

Are there any legal or regulatory requirements associated with red herring documents?

Yes. The SEC must validate all claims and data included in the red herring to ensure that it does not include any false information, or anything that might violate existing laws and regulations. Once the red herring passes muster,

Can investors rely on the information provided in a red herring document when making investment decisions?

Investors may use the red herring document to inform their basic understanding of the company that is seeking an IPO, but it may not be enough to guide an actual decision to buy shares.

Are there any risks or limitations associated with red herring documents that investors should be aware of?

Red herring documents are an important part of a new company’s IPO process, and as such they contain key information about the company, but investors need to be aware that the details are not finalized, and the terms may change before the final prospectus is filed.

Photo credit: iStock/Riska

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.

Investing in an Initial Public Offering (IPO) involves substantial risk, including the risk of loss. Further, there are a variety of risk factors to consider when investing in an IPO, including but not limited to, unproven management, significant debt, and lack of operating history. For a comprehensive discussion of these risks please refer to SoFi Securities’ IPO Risk Disclosure Statement. IPOs offered through SoFi Securities are not a recommendation and investors should carefully read the offering prospectus to determine whether an offering is consistent with their investment objectives, risk tolerance, and financial situation.

New offerings generally have high demand and there are a limited number of shares available for distribution to participants. Many customers may not be allocated shares and share allocations may be significantly smaller than the shares requested in the customer’s initial offer (Indication of Interest). For SoFi’s allocation procedures please refer to IPO Allocation Procedures.

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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