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Chapter 12 - PowerPoint PPT Presentation


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Chapter 12. Securities Markets. Learning Objectives. Identify and describe the primary and secondary securities markets. Trade securities using a broker. Locate and use several different sources of investment information to trade securities. Introduction.

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Chapter 12

Securities Markets

learning objectives
Learning Objectives
  • Identify and describe the primary and secondary securities markets.
  • Trade securities using a broker.
  • Locate and use several different sources of investment information to trade securities.
introduction
Introduction
  • One way to improve your chances of success is to understand how the securities markets work.
  • Success in investing cannot be guaranteed—but the first step to becoming rich through a great investment is learning how to make that investment.
securities markets
Securities Markets
  • Securities —stocks and bonds—are issued by corporations to raise money
  • Securities Markets — places where you buy and sell securities—primary and secondary markets
  • After the initial issue of a security, the company doesn’t make money on trading; securities are bought and sold among investors
primary markets
Primary Markets
  • Place where new securities are traded
    • Initial public offering (IPO)—the first time a stock is traded publicly
    • Seasoned new issues – stock offerings from companies that already have traded stock. A sale of new shares from Nike would be considered a seasoned new issue
  • All stock offerings must be approved by the SEC
primary markets1
Primary Markets
  • Investment Banker
    • The middleman between the firm issuing the securities and the buying public
  • Underwriter
    • An investment banker who purchases a block of securities and then sells them to investors
  • Prospectus
    • A legal document that is made available to investors that describes a securities issue
secondary markets stocks
Secondary Markets—Stocks
  • Markets in which previously issued securities are traded
    • Any time that a stock is traded after its IPO it is traded on a secondary market
  • Organized exchange —a physical location where stocks trade, such as the New York Stock Exchange and the American Stock Exchange
secondary markets stocks1
Secondary Markets - Stocks
  • Over-the-counter market —transactions conducted over phone or computer rather than at an organized exchange
    • It is highly automated
    • Brokers can see up-to-the-second price quotes on about 35,000 securities
    • The largest of these exchanges is NASDAQ
secondary markets stocks2
Secondary Markets - Stocks
  • Bid price is the highest price someone is willing to pay for a security
  • Ask price is the lowest price someone is willing to sell a security
secondary markets stocks3
Secondary Markets - Stocks
  • New York Stock Exchange (NYSE)
    • The oldest exchange, since 1792
    • 1,366 seats available
    • To be listed, a company must meet strict requirements
    • In 2011, there were 2,800 companies traded on the NYSE
  • American Stock Exchange (AMEX)
    • 660 seats and lists 500 companies
    • 3% of the volume of the NYSE
secondary markets bonds
Secondary Markets - Bonds
  • Some bonds trade at the NYSE, but most trading is done by bond dealers who deal directly with large financial institutions.
  • Small investors access bond dealers through their broker
  • Volume of trading for government bonds is enormous, dominated by Federal Reserve, commercial banks, and financial institutions
international markets
International Markets
  • Been around for centuries
    • Since 2000 BC
  • Some foreign shares traded on exchanges in the U.S.
  • American Depository Receipt (ADR)
      • A document that certifies that a bank holds shares of a foreign firm’s stock
      • International stocks can be traded through ADRs
  • Foreign investments account for about 10% of U.S. investors’ holdings
figure 12 2 the world stock market
Figure 12.2 The World Stock Market

More than half of all stocks are from foreign companies.

regulation of the securities markets
Regulation of theSecurities Markets
  • Regulations are aimed at protecting investors so that all have a fair chance of making money.
  • Securities and Exchange Commission (SEC), the federal institution that regulates buying and selling of stocks
  • Self-regulation – much of day-to-day regulation is left up to the markets themselves
regulation of securities markets
Regulation of Securities Markets
  • Insider trading - trading with insider knowledge, allowing an unfair advantage
    • Martha Stewart, some members of Congress
  • Market abuses:
    • Stock price run-ups and abnormal volume
    • Churning – excessive trading on a client’s account, generating extra commissions for the broker
the role of the specialist in securities trading
The Role of the Specialist in Securities Trading
  • Continuous markets —markets in which trading can occur at any time, with prices free to fluctuate as trading occurs
    • Stock prices can fluctuate sharply
  • Specialist —an exchange member who oversees the trading in one or more stocks—to “maintain a fair and orderly market.” Specialists may buy and sell stocks to keep prices stable
order characteristics
Order Characteristics
  • Order Size
    • Odd lots – orders between 1 and 99 shares
    • Round lots – orders in multiples of 100
  • Time Period for Which the Order Will Remain Outstanding
    • Day orders expire at the end of the trading day
    • Open orders or Good-till-cancelled (GTC) orders remain open until filled or cancelled
    • In a discretionary account, the trader gives his/her broker power to make trades
types of orders
Types of Orders
  • Market Orders —buy or sell immediately at the best price available
  • Limit Orders —trade is to be made only at a certain price or better
  • Stop Orders or Stop-Loss Orders —order to sell if the price drops below a specified level or to buy if the price climbs above a specified level
short selling
Short Selling
  • Short selling — the more the price drops, the more money you make
    • You borrow stock from your broker and then sell it. If the price goes down, you buy it at the lower price and pay back your broker, making money
    • If the price goes up, you buy it back at a higher price and lose money
  • Margin requirement – the percentage that an investor must have on deposit with a broker when selling short
example of short selling
Example of Short Selling
  • You think McDonalds (MCD) is going to drop from its current price of $70
    • You borrow 1,000 shares from your broker and sell 1,000 shares short. The $70,000 you make goes into your account, but you can’t access the money
    • You also have to have an additional $35,000 margin requirement in your account
    • If MCD drops to $50, you purchase 1,000 shares for $50,000 and pay back your broker, making $20,000
    • If MCD goes up to $90, you purchase 1,000 shares for $90,000 and lose $20,000
dealing with brokers
Dealing with Brokers
  • Most common way to purchase stock is through stockbroker, who is licensed to buy or sell stocks for others
  • Asset Management Accounts – financial services packages offered by a brokerage:
    • Checking account
    • Debit and credit cards
    • Money market mutual funds
    • Loans
types of brokers
Types of Brokers
  • Full-Service Brokers or Account Executive – they are paid commissions based on sales volume (Merrill Lynch, Edward Jones, Morgan Stanley, etc.)
  • Discount and Online Brokers – execute trades but do not provide advice
    • Charge lower commission, usually a flat amount per trade
    • Fidelity, ScotTrade, E-Trade, etc.
cash versus margin accounts
Cash Versus Margin Accounts
  • Cash Accounts – the investors pay in full for security purchases; payment due within 3 business days
  • Margin Accounts – investors borrow a portion of the purchase price of the stock from broker
  • Margin or Initial Margin – the amount the investor must pay for the stock; it has been 50% for the last 30 years
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When shares are bought on margin, they remain in the broker’s name. They are collateral on the loan to buy the shares

    • Buying on margin can be a dangerous practice
  • Maintenance margin – a minimum percentage of collateral that you must maintain
  • Margin call – requires that you replenish the margin account by adding cash to bring the amount back up to its required minimum level. This happens when the stock goes down.
registration street name or your name
Registration: Street Nameor Your Name
  • Securities can be registered in your name or “street name.”
  • Street Name – registered securities remain in the broker’s custody and are a computer entry in your name.
    • More convenient to sell
    • May have maintenance fee for inactivity
  • Avoid fee by registering stock in your name
joint accounts
Joint Accounts
  • Joint Tenancy with Right of Survivorship – when one owner dies, the other receives full ownership of assets in the account
  • Tenancy-in-Common Account – the deceased’s portion of the account goes to the heirs of the deceased, not the surviving account holder
choosing a broker
Choosing a Broker
  • Using a full-service broker – personal service and advice but for higher price
  • Using a discount broker – keeps transaction costs down because they cost 10 to 20 times less; personal service is much lower, but some offer free research reports
the cost of trading
The Cost of Trading
  • Sales commission to buy stock – for a full-service broker, it can be very expensive, and they also charge a commission to sell the stock
  • Transaction fee, generally small
  • Annual fee for inactive accounts – could range from $25 - $200 a year
  • Use discount broker especially for large purchases
online trading
Online Trading
  • Day traders – investors who trade, generally on Internet, with a very short-term time horizon
    • The idea is to trade on the up or down momentum of a stock and get out before it changes direction
  • Be prepared to suffer severe financial losses
  • Don’t confuse day trading (speculation) with investing.
  • Don’t believe claims of easy profits
  • Watch out for “hot tips” or “expert advice”
sources of investment information
Sources of Investment Information
  • Corporate Sources – annual reports
  • Brokerage Firm Reports – available from stock analysts
  • The Press – the Wall Street Journal, Forbes, Fortune, Barron’s, Money, etc.
  • Investment Advisory Services – Value Line Investment Survey follows 1700 companies; also evaluates industries
sources of investment information1
Sources of Investment Information
  • Internet Sources
  • Investment Clubs – people join the club and pool their money; knowledge and experience is shared
summary
Summary
  • Primary securities markets are where new securities are sold.
  • Previously issued securities are traded in the secondary markets which can be organized exchanges.
  • Investors must specify time period for orders in day orders, open orders, or fill-or-kill orders.
summary1
Summary
  • Short selling involves borrowing stocks from a broker, selling high and buying back low, making a profit, and returning the stocks to the broker
  • Be careful on where you get information to make investment decisions