The Red and Black of Finance

in the red, in the black

In finance red and black are opposites. Whereas being in the red is bad, being in the black is good. The Web Lender Portal takes a look at some well-known financial terms using the words red and black as well as some lesser known.

Red

Red is a term relating to a negative balance on a company’s financial statements.

The phrase in the red is used widely to refer to companies that have not been profitable within their last accounting period. This term is derived from the color of ink used to by accountants to enter a negative figure on a company’s financial statements.

Red Ink

Red ink is a slang term denoting a financial loss. When accountants make physical entries into a financial ledger, red ink is used to show a negative number. Black ink is used to show that a number is positive or profitable.

Red as a color is often used in business to indicate that something unwanted is happening. The color also is used in this context outside of a firm’s balance sheet. For example, regulations governing businesses are often referred to as red tape. Investors may also refer to a security position losing money as being in the red.

Red Flag

A red flag is an indicator of potential problems with a security, such as any undesirable characteristic that stands out to an analyst as it pertains to a company’s stock, financial statements or negative news reports. Because there are many different methods used to pick stocks and investments, there are many different types of red flag. A red flag for one investor might be desirable to another, as in the example of how low institutional ownership might be a positive for someone looking for undiscovered companies but a negative for a pension fund that searches out blue chips.

There is no universal standard for identifying red flags. The method used to detect problems with an investment opportunity depends on the research methodology an investor employs.

Problems With Financial Statements

Regarding publicly traded companies, red flags may appear in quarterly financial statements compiled by a company’s chief financial officer, auditor or accountant. These red flags may indicate some financial distress or underlying problem within the company. Unfortunately, red flags may not be readily apparent on a financial statement, and it may take some extra digging to get to the root of the problem. Red flags usually appear consistently in reports for several quarters in a row, but a good rule of thumb is to examine three years’ worth of reports to make an informed investment decision.

Examples of Red Flags

Investors can look at revenue trends to spot a company’s growth potential. Several quarters in a row of downward-trending revenue can spell doom for a company. Measures needed to rectify the situation aren’t good either if a company needs to lay off employees or cut wasteful spending.

When a company takes on more debt without adding value to the business, the debt-to-equity ratio could rise above 100%. This could point towards cash flow problem as the business may have trouble paying down its debts on a regular basis.

A large stockpile of cash on hand doesn’t necessarily denote a healthy company. A business that moves cash up and down, on a regular basis, indicates buying raw materials and then selling a finished product. Large amounts of cash may show accounts are being paid but no new money is coming into the firm.

Rising accounts receivables and high inventories may mean a company is having trouble selling its products or services. If this trend continues for several quarters, investors have to ask themselves why the company seems to be unable to empty its warehouses.

Red Candlestick

Also known as a black candlestick or a closed candlestick, the component of a candlestick chart represents a downward movement in an underlying price. A red candlestick is composed of the period’s high, low, opening and closing prices. If the closing price is lower than the day’s opening price, then the body of the candle is red or black.

Charts are primarily used in technical analysis. A red candle quickly conveys a downward movement as well as the range of the price for the day. The longer the candle, the greater the price movement. Most charting software will allow you to change the colors of these candles. Even though red and black are common colors for this type of candlestick, any color can be used.

Red Herring

A red herring is a preliminary prospectus filed by a company with the Securities and Exchange Commission (SEC), usually in connection with the company’s initial public offering. A red herring prospectus contains most of the information pertaining to the company’s operations and prospects but does not include key details of the issue, such as its price and the number of shares offered.

A red herring prospectus may refer to the first prospectus filed with the SEC as well as a variety of subsequent drafts created prior to obtaining approval for public release. To be considered eligible for release, the SEC must thoroughly review a red herring prospectus to ensure the information contained therein does not include any intentional or incidental falsehoods or statements that are in violation of any laws or regulations. The SEC may also note any failure to disclose required information.

Red Clause Letter Of Credit

The red clause letter of credit is a specific type of letter of credit in which a buyer extends an unsecured loan to a seller. Red Clause Letters of Credit permit documentary credit beneficiaries to receive funds for any merchandise outlined in the letter of credit. These letters are commonly used by beneficiaries who act as purchasing agents for buyers in another country.

The funds provided in a Red Clause Letter of Credit are known as advances. These advances are then deducted from the face amount of the credit when it is presented for payment. Red Clause Letters are usually employed to facilitate international exports and trade.

Red Chip

A red chip is a company based in Mainland China that is incorporated internationally and listed on the Hong Kong Stock Exchange. Red chip stocks are expected to maintain the filing and reporting requirements of the Hong Kong exchange, which makes them a main outlet for foreign investors who wish to participate in the rapid growth of the Chinese economy.

Red chips may be issued in addition to A-shares in the same companies, although only Chinese citizens can invest in A-shares.

Thirty red chip stocks (a reference to the color of China’s flag) make up the Hang Seng China-Affiliated Corporations Index, which appreciated rapidly in the 2002-2007 time frame. As a sign of the pent-up demand among mainland Chinese citizens for Chinese stocks, the A-shares they are permitted to invest in often have 30-50% premiums compared to red chips for the exact same companies.

Black

Black is a description of a positive balance on a company’s financial statements. A company would be said to be in the black if it is profitable or, more specifically, if the company produces positive earnings after accounting for all expenses.

The phrase in the black is widely used to refer to the condition of companies that have been profitable in their last accounting period. This term is derived from the color of ink used by accountants to enter a positive figure on a company’s financial statements. It is always better to be in the black as this indicates solid business performance.

Black Knight

A company that makes a hostile takeover offer for a target company. In mergers and acquisitions, a black knight attempts a takeover that the target company deems unwelcomed. When a company is facing a hostile takeover by a black knight, a white knight may appear to offer a way to avoid the hostile takeover with a friendly takeover.

Black knights attempt hostile takeovers of target firms. A white knight can help the target firm by offering terms for a friendly takeover. A gray knight is a company that offers an unsolicited bid, while another company is negotiating a takeover with the target firm. A yellow knight is a company that initiated a hostile takeover, but changes tactics during the process to negotiate on more agreeable terms.

Black Economy

Black economy is the segment of a country’s economic activity that is derived from sources that fall outside of the country’s rules and regulations regarding commerce. The activities can be either legal or illegal depending on what goods and/or services are involved.

For instance, a construction worker who is paid under the table will neither have taxes withheld, nor will the employer pay taxes on the his earnings. The construction work is legal; it is the nonpayment of taxes that classifies the event as part of the black economy. The illegal-weapons trade is an example of black-economy activity that is illegal.

Black Market

The black market is economic activity that takes place outside government-sanctioned channels. Black market transactions usually occur under the table to let participants avoid government price controls or taxes. The black market is also the venue where highly controlled substances or products such as drugs and firearms are illegally traded. Black markets can take a toll on an economy, since they are shadow markets where economic activity is not recorded and taxes are not paid. In the financial context, the biggest black market exists for currencies in nations with strict currency controls. While most consumers may shun the black market because they consider it sleazy, there may be rare occasions when they have no choice but to turn to this necessary evil.

The black market’s many drawbacks include the risk of fraud, financial crime, the possibility of violence, being saddled with counterfeit goods or adulterated products (which is especially dangerous in the case of medications), and the fact that the buyer has no recourse.

Participating in the black market is not always a black and white matter. Suppose you are on vacation with your family in an exotic location and run out of formula for your baby? If there is nothing available in local stores and the only way to acquire baby formula is through a black market transaction, few people would hesitate to make the purchase.

Black Friday

Black Friday has two meanings. The more contemporary one refers to the day after the U.S. Thanksgiving, which has also traditionally been a holiday itself for many employees; a day full of special deals and heavy discounts, it’s considered the kickoff of the holiday shopping season.

In history, Black Friday was a stock market catastrophe that took place on Sept. 24, 1869. On that day, after a period of rampant speculation, the price of gold plummeted and the market crashed.

Black Monday

Black Monday refers to Oct. 19, 1987, when the Dow Jones Industrial Average (DJIA) lost almost 22% in a single day. That event marked the beginning of a global stock market decline, making Black Monday one of the most notorious days in financial history. By the end of the month, most of the major exchanges had dropped more than 20%.

The cause of the massive drop cannot be attributed to any single news event because no major news event was released on the weekend preceding the crash. While there are many theories that attempt to explain why the crash happened, most agree that mass panic caused the crash to escalate.

Black Tuesday

Black Tuesday was Oct. 29, 1929, and was marked by a sharp fall in the stock market, with the Dow Jones Industrial Average (DJIA) especially hard hit in high trading volume. The DJIA fell 12%, one of the largest one-day drops in stock market history. More than 16 million shares were traded in the panic sell-off, which effectively ended the Roaring ’20s and led the global economy into the Great Depression.

Black Tuesday signaled the end of a period of post-World War I economic expansion and the beginning of the Great Depression, which lasted until the beginning of World War II.

Black Swan

A black swan is an event or occurrence that deviates beyond what is normally expected of a situation and is extremely difficult to predict; the term was popularized by Nassim Nicholas Taleb, a finance professor, writer and former Wall Street trader. Black swan events are typically random and are unexpected.

Taleb argued that black swan events are impossible to predict yet have catastrophic ramifications. Therefore, it is important for people to always assume a black swan event is a possibility, whatever it may be, and to plan accordingly. He also used the 2008 financial crisis and the idea of black swan events to point out if a broken system is allowed to fail, it actually strengthens it against the catastrophe of future black swan events.

Black Money

Black money is money which is earned through any illegal activity controlled by country regulations. Black money proceeds are usually received in cash from underground economic activity and, as such, is not taxed. Recipients of black money must hide it, spend it only in the underground economy, or attempt to give it the appearance of legitimacy through money laundering.

Possible sources of black money include drug trafficking, weapons trading, terrorism, prostitution, selling counterfeit or stolen goods and selling pirated versions of copyrighted items such as software and musical recordings. Black Money is also the name of a television series hosted by Lowell Bergman that explores the secret world of bribery in international business.

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