Download Stock Markets

Chapter Eight
Stock Markets
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Overview of Stock Markets
• Primary stock markets allow suppliers of funds to raise
equity capital
• Secondary stock markets are the most closely watched and
reported of all financial markets
• Stockholders are the legal owners of a corporation
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have a right to share in the firm’s profits (e.g., through dividends)
are residual claimants
have limited liability
have voting rights (e.g., to elect board of directors)
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Stock Returns
• The returns on a stock over one period (Rt) can be divided
into capital gains and dividend returns:
Pt  Pt 1 Dt
Rt 

Pt 1
Pt 1
Pt = stock price at time t
Dt = dividends paid over time t – 1 to t
(Pt – Pt – 1) / Pt – 1 = capital gain over time t – 1 to t
Dt / Pt – 1 = return from dividends paid over time t – 1 to t
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Common Stock
• Common stock is the fundamental ownership claim in a
public or private corporation
• Dividends are discretionary and are thus not guaranteed
• Common stockholders have the lowest priority claim in
the event of bankruptcy (i.e., a residual claim)
• Limited liability implies that common stockholders can
lose no more than their original investment
• Common stockholders control the firm’s activities
indirectly by exercising their voting rights in the election
of the board of directors
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Preferred Stock
• Preferred stock is a hybrid security that has
characteristics of both bonds and common stock
• Generally has fixed dividends that are paid
quarterly
• Generally does not have voting rights unless
dividend payments are missed
• Nonparticipating versus participating
• Cumulative versus noncumulative
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Primary Stock Markets
• Primary markets are markets in which
corporations raise funds through new issues of
stock, most of the time through investment
banks.
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IPO’s
• Primary market activities can be divided
into two as best effort selling and
underwriting activities.
• Best Effort Selling: The financial
intermediary does not buy the entire issue
from the issuer but agrees to use its
expertise to sell the securities.
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IPO’s
• Underwriting: The intermediary buys the
securities from the issuer.
– Stand-by Underwriting
– Firm Commitment (Bought Deal)
• Underwriting discount (fee)
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• Investment banks act as distribution agents
in best efforts selling
• Investment banks act as principals in firm
commitment underwriting
• A syndicate is a group of investment banks
working in concert to issue stock; the lead
underwriter is the originating house
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Primary Stock Markets
• An initial public offering (IPO) is the first
public issue of financial instruments by a firm
• A seasoned offering is the sale of additional
securities by a firm whose securities are already
publicly traded
– preemptive rights give existing stockholders the
ability to maintain their proportional ownership
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Right Issues
• Right Issues: Capital Raises
Registered capital system allows the board of
the campanies to call for capital increases
without having to go-through the stipulation
of Turkish Commercial Code.
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Joint Stock Companies
• They are established upon the permission of
Ministry of Commerce with at least 5
shareholders. Shareholders are responsible
only for the money they put to the company.
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Publicly held (owned) companies
• the securities of the company are listed on
exchange whatever the nr. of its
shareholders, it will subject to the CM Law
and called as publicly held companies.
• If the nr. of the shareholders of a joint stock
company exceed 250, it will be considered
as publicly held company and subject to
CM Law.
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Pre-emptive Right (Subscription Warrant)
• It gives its holder the right of first initiate to
buy new shares to be issued by the
company.
• Dilution Effect.
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Stock Split
• When the companies believe that the price
of their stock exceeds the amount smaller
individual investors would afford to pay for
the stock, they split their stock.
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Scrip Issues
• Extra shares awarded by the company to its
investors.
• The number of shares that the investor
receives is based on:
– The number of shares investor already have in
the company and
– The company's ratio for awarding scrip issues.
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Secondary Stock Markets
• Secondary stock markets are the markets in
which stocks, once issued, are traded among
investors
• The U.S. has three major stock markets
– the New York Stock Exchange Euronext (NYSE
Euronext)
– the National Association of Securities Dealers
Automated Quotation (NASDAQ)
– the American Stock Exchange (AMEX)
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NYSE Euronext
• Created by the merger of NYSE Group, Inc. and
Euronext N.V. on April 4, 2007 to become the first
truly global stock market
• Over 3,200 different stocks trade on NYSE Euronext
• Trading occurs at a specific place on the floor of the
exchange called a trading post
• Each stock has a special market maker called a
specialist that maintains liquidity for the stock at all
times
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Secondary Market transactions
• Priorities
– Price priority
– Time priority
– Customer priority
• Customer Order
– Limited Customer Order
– Free-priced Order
• Exchange Order
• Three types of transactions occur at trading posts
– a market order is an order to transact at the best price available when the
order reaches the trading post
– a limit order is an order to transact at a specified price
– specialists transact for their own account
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TYPES OF ORDERS
• Market Order: It is an order to buy or sell the security at the best price
available.
When this order reaches to the trading floor, its execution is sure and
immediate.
• Limit Orders: These are the orders to buy or sell a security at a
specified price or better.
• Stop-loss Order (Stop Order): It is usually used to sell the security
when its market price reaches or falls below a specified level. It is
designed to protect profits or limit looses.
• Stop-limit Orders: Combination of stop order and limit orders to buy or
sell at a specified price or better only after a given stop price has
reached or passed.
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Trading on NYSE Euronext
and AMEX
Order
Investor
Shares
Cash
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Order
Broker
Shares
Cash
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Order
Comm.
or
Floor
Broker
Shares
Cash
Market
Maker or
Other Floor
Broker
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Stock Market Quotes
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Name
Symbol
Open
High
Low
Close
Net Chg
% Chg
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Volume
52 Wk High
52 Wk Low
Div
Yield
P/E
YTD % Chg
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AMEX
• Generally lists smaller firms than NYSE Euronext
• Operates as a broker-specialist market-maker
system similar to NYSE Euronext
• Pioneered exchange traded funds (ETFs)
– ETFs are index funds that are listed on an exchange
and can be traded intraday
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NASDAQ and OTC Markets
• NASDAQ is the world’s first electronic market and has
no physical trading floor
• Provides continuous trading for the most active stocks
traded over the counter (OTC)
• Primarily a dealer market in which often more than 20
dealers act as market makers
• A small order execution system (SOES) provides
automatic order execution for orders of less than or equal
to 1,000 shares
• The NASD maintains an electronic “OTC bulletin
board” and “pink sheets” for small firms that are not part
of the NASDAQ
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Secondary Stock Markets
• Choice of market listings
– NYSE has extensive listing requirements (e.g., firm market value
and trading volume)
– AMEX listing requirements are less stringent than NYSE and
NASDAQ requirements are even less so
• Electronic communication networks (ECNs)
– normal trading occurs between 9:30 a.m. and 4:00 p.m. eastern
standard time
– extended-hours trading occurs through computerized alternative
trading systems (ATSs) a.k.a. ECNs
• Online trading via the internet is becoming increasingly
popular to both individual and professional investors
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Stock Market Indexes
• A stock market index is the composite value of a group
of secondary market-traded stocks
• Price-weighted index
– the Dow Jones Industrial Average (DJIA), composed of 30
companies, is the most widely know stock market index
• Value-weighted indexes
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NYSE Composite
Standard & Poor’s 500
NASDAQ Composite
Wilshire 5000
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Stock Markets
• Households, mutual funds, and private pension
funds are the largest holders of corporate stock
• Does the stock market forecast the economy?
• Market efficiency is the speed with which
financial security prices adjust to unexpected
news
– weak form market efficiency
– semistrong form market efficiency
– strong form market efficiency
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International Aspects of
Stock Markets
• U.S. stock markets are the world’s largest
• European markets have increased their share of the global
market with the advent of a common currency, the Euro
• Growth has recently strengthened in the U.K., Canada,
Japan, and Pacific Basin countries
• International stock markets allow investors to diversify by
holding stocks issued by corporations in foreign countries
• International diversification can increase risk due to
incomplete information about foreign stocks as well as
foreign exchange and political risk
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