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GENERAL INFORMATION ON SECURITIES1
1. Investing into securities
Contemporary securities markets provide a person wishing to invest his/her money into
securities, i.e. an investor, with the opportunity to choose among numerous investment
opportunities. Investments into securities are performed for different purposes – for earning
from dividends, interest or change in the market price of securities, and also for managing
certain risks. Investment into securities always contains certain risks (e.g. the possibility not to
achieve the expected return or the possibility to lose the entire investment). In general, when
investing into securities one should take into account greater risks than e.g. when investing
into bank deposits or real estate. The objective of this document is to provide investor with
assistance in understanding the nature of different securities and the risks accompanying
these.
Prior to investing into securities, investor should determine his/her risk profile (incl. financial
position and experience in investing into securities) and investment objectives (incl. the
desired temporal length of investment). Prior to investing into securities, Swedbank would
recommend to visit an investment consultation, where customer will be assisted by
investment adviser in making those evaluations. In addition, the investor should examine the
particular securities market, the terms and conditions of investment service and the
description of risks accompanying the preferred securities. Irrespective of the fact that in
certain cases Swedbank as the provider of investment service has assessed the suitability or
appropriateness of particular securities or service for a customer, the investor shall remain
personally liable for any monetary risk pertaining to the ownership of securities (incl. taxation)
and other risks. Therefore, the investor must independently procure and analyse the
information regarding the security and its issuer.
2. Securities markets (places of execution of orders)
Investment into securities is possible through different securities markets. For example,
investors may take part in the securities offerings organised by the security issuer pursuant to
the terms and conditions of offer (so-called primary market) or purchase securities from
secondary market. There are different classifications of secondary markets (trading places).
From the point of view of the level of regulation and transparency, the significant classification
of trading places is into regulated markets, multilateral trading facilities (MTF), systematic
internalisers and the remaining trading networks or opportunities among market participants
(over the counter, OTC). Regulated markets (also often referred to as stock exchanges) are
1
The material contained by this document is informative and is not intended to be either investment advice
or recommendation in concluding transactions with any securities. Prior to concluding any transaction
involving securities with Swedbank or through it or with its intermediation, the customer should examine the
information and documents on the webpage www.swedbank.ee/mifid.
usually the systems of organisational, legal and technical solutions organised or managed by
a company and monitored by the state, which are formed or constituted for providing the
opportunity of constant and regular trading of the securities accepted for trade there. Trading
in regulated markets is most institutionalised, and there usually exist strict requirements
regarding the disclosure of information pertaining to the securities traded there. Multilateral
trading facilities are alternative trading platforms or systems, which are administrated either
by the organisers of regulated market or investment firms. The rules for accepting securities
for trade in a multilateral trading facility are less strict. A systematic internaliser is an
investment firm which, on an organised, frequent and systematic basis, deals on own account
by execution client orders outside a regulated market or an MTF. OTC market refers to other
cases where the securities are traded between brokers and other persons with the
intermediation of electronic platforms or other channels. OTC market is the least transparent
for common investor.
3. Risks pertaining to securities
As was mentioned above, investing into securities contains several risks. The principal risks
when investing into securities are listed in Annex 1 to the Terms and Conditions of Provision
of Investment Services of Swedbank. Swedbank would recommend examining this review
thoroughly.
4. Securities in general
In the table below, Swedbank lists the most widespread securities traded on securities
markets and describes their principal features and accompanying risks and fees. The
customer must take into account that the list below is not exhaustive both in terms of
securities types and descriptions.
Security
Description
Accompanying risks
Accompanying fees
Shares
Shares are securities, the holding of which
denotes participating interest in an enterprise.
Therefore, shareholder is one of the owners of
the enterprise. Shares usually grant the right to
vote at the enterprise's general meeting, but the
voting right may differ depending on the type of
shares. The shareholder presumes that if the
company earns profit s/he shall have the
opportunity to earn dividends, however it should
be taken into account that the earning of profit
and payment of dividends is never guaranteed.
In addition, the investor hopes when investing
into shares that the share price would grow. The
share price is affected by several factors, e.g.
assessment of the enterprise's growth potential
dominating on the market, the interest rates valid
on the market, and changes pertaining to
particular enterprise (e.g. changes in the
management). Therefore, a person investing into
one particular share should observe the
corresponding enterprise, the securities market
and also general economic development.
When investing into shares it is possible that the shares will not earn the
expected revenue or all the invested money will be lost. Shares traded on the
market are sensitive towards all principal risks of financial markets. The
investor shall be aware that it may lose his/her entire investment, since in case
of terminating the enterprise's activities the shareholders are among the last
parties entitled to receive compensation from the enterprise's assets.
In order to purchase shares, it is necessary
to have a securities account, the fees for
opening and maintenance of which you will
find in the price list of Swedbank:
https://www.swedbank.ee/private/home/more
/pricesrates?language=ENG,
subsection
"Transactions in securities”.
Bonds
The term private equity refers to such shares of
an enterprise that are made available to
investors, but not accepted for trading on a
regulated market (stock exchange) or in
multilateral trading facility. The capital invested by
investors into private equity shares is usually
used for developing new projects/technologies in
the enterprise. As a rule, the purchase of
enterprises' shares that are not traded on a
regulated market or MTF is extremely
complicated for retail investors, since the
minimum investment is very large.
The buyer of bond grants a loan to an enterprise,
local municipality or state. Similarly to all other
creditors, the bondholder expects the payment of
interest and/or principal of the loan on the
previously determined times pursuant to the
terms and conditions of the bond.
Traditionally, regular interest payments are made
on the basis of bonds, and the invested principal
is repaid to the investor upon the redemption of
the bond. The interest rate of the bond may be
fixed or floating (connected to certain reference
rate). There are also possible discount bonds,
where the lender (buyer of bond) earns revenue
from the difference between the selling price and
nominal value of the bond, and no interest is paid
from the bond.
Compared to other securities, the change in shares' value may be relatively
large. A widespread method for lowering the risk related to one enterprise is
risk spreading by preparing a portfolio composed of many different shares,
however it does not eliminate the general market risk – prices of shares may
strongly fluctuate due to a reason not directly connected to enterprise's
economic results (e.g. global cooling of economy or liquidity crises).
When purchasing the shares of a foreign company, the investor shall
additionally take into account the political risk, economic risk, legal risk and
potential fluctuations of currency exchange rate. Qv. Annex 1 to the Terms and
Conditions of Provision of Investment Services of Swedbank.
In case of private equity, the matter may concern extremely non-liquid shares.
In addition, public limited companies, which securities are not traded on a
regulated market, are as a rule less transparent for investors (e.g. in the part of
reporting the financial results there do not apply the same strict requirements
as for stock-exchange-listed enterprises).
Enterprise's bonds are usually considered less risky than the shares of the
same enterprise, since in case of the enterprise's liquidation the bondholders
are paid compensation before the shareholders.
The principal risk associated with bonds is the inability of the bond issuer to
pay the interest or principal of loan (issuer risk). The probability of issuer’s
insolvency is assessed by independent credit rating agencies. The rating AAA
is considered the least risky. Any changes in the rating may strongly affect the
market value of the bond. The bonds issued by governments and local
municipalities are often considered risk-free, however there always exists the
risk of failure to perform the obligations.
Smaller enterprises have not necessarily ordered a rating for its bonds, which
makes the assessment of the risk of their securities much more complicated
for investor. The unusually high interest rate of bond refers to the fact that the
issuer experiences problems with funding itself, and such bond is considered
risky on the market.
In case of purchase and sale of shares,
Swedbank charges a transaction fee, the
exact rates of which you will find in the bank's
price
list:
https://www.swedbank.ee/private/home/more
/pricesrates?language=ENG,,
subsection
"Transactions in securities”. Please pay
attention that the transactions with the shares
of enterprises located in foreign countries are
significantly more expensive than the shares
of local enterprises.
When making an investment involving private
equity, the expenses may be larger than in
case of shares traded on a regulated market.
In some cases, the expenses may be
determined by the issuer or provider of
securities.
A securities account is necessary for buying
bonds. In case of purchase and sale of
bonds, the bank charges a transaction fee,
the exact rates of which you will find in the
bank's
price
list:
https://www.swedbank.ee/private/home/more
/pricesrates?language=ENG.
Liabilities pertaining to bonds are usually not
secured, but they may well be.
A separate class of bonds are convertible bonds.
The matter concerns securities, which can be
converted during their period of validity (usually at
the time chosen by the bond holder) against a
certain number of company's shares.
Fund units
An investment fund is a pool of assets, which
provides a number of investors with the
opportunity to join their investments and have
them managed by an independent professional
manager (management company). By purchasing
a fund unit, the unit owner becomes the owner of
the fund's pool of assets according to the value of
his/her unit. The value of fund unit is generally
calculated by the management company and it is
based on the value of securities constituting part
of fund assets or other assets minus the fund's
liabilities. An investment fund may also be
established as a separate enterprise (e.g. fund
established as a public limited company).
In general, there are established certain
restrictions in investing into fund's assets either
by law or management company, using risk
diversification as the aim. Pursuant to the
investment restrictions, funds may be divided into
money market funds, bond funds, balanced
funds, share funds and real estate funds. Another
possibility is a fund of funds that invests into other
funds. In addition, a fund may specialise on a
certain sector or region. There are also
widespread real estate investment trusts (REIT)
that invest into real estate.
The majority of investment funds are open funds.
The number of units of an open fund is unlimited.
If a customer wishes to invest into a fund, new
units are issued automatically. On the other hand,
in case of closed funds the number of units is
limited and for their acquisition these have to be
purchased from some other investor. Therefore,
the principal difference of closed funds is the fact
that the market price of the units is primarily
determined by demand and supply, and not the
market value of investments calculated by the
fund.
The strong fluctuation of the market value of bond may also be caused by the
circumstances that are not directly associated with the bond issuer, but rather
with changes in general interest rates (interest risk). As a rule, the prices of
longer-term bonds are more sensitive towards any changes in the interest
rates.
In case of bonds of smaller enterprises, bonds not quoted at the stock
exchange or traded on a stock exchange of low liquidity, one shall take into
account the liquidity risk, i.e. due to small interest of buyers there may occur
difficulties in selling the bonds ahead of schedule.
In case of bonds issued in foreign currency, one should take into account the
currency risk.
Funds offered to general public are regulated by the law, which together with
the fund rules establishes activity limitations for management company.
Persons having invested into a fund lack the opportunity to directly influence
the investment decisions of the management company.
Investment funds divide their assets between a large number of various
securities with the aim of spreading the risk, but still fund investors are affected
by all principal risks e.g. market risk, liquidity risk and credit risk. A fund
investing into the assets of a foreign country may be additionally affected by
the foreign currency risk. As a rule, securities related to real estate are
extremely sensitive to macroeconomic indicators, primarily interest rates.
You can find more detailed information regarding funds from a fund prospectus
and rules. Please certainly examine the rules of the redemption of units and
pay attention to the fact that if usually fund units are redeemed within several
days, the prospectus may describe extraordinary situations, which allow the
management company to postpone the redemption for a notably longer period
of time.
Investments into hedge funds may be difficult to realise since the investment is
often accompanied by temporal limitations.
In order to realise the units of closed funds ahead of schedule, these shall be
sold to some other investor, and the management company has no obligation
to redeem the units on the daily basis.
In case of some funds, the law describes taxation rules differing from the
conventional ones.
The fees accompanying the investment into a
fund are divided into one-time and constant.
One-time fees include the issue and
redemption fee associated with the purchase
and sale of fund units respectively. A
separate fee may also be established for the
transactions involving exchange of fund units.
Another category contains fund management
fee and depositary bank's charge. Charging
these fees is not recorded on investor's
securities account, but the return of the fund
is simply decreased by these amounts on the
current basis.
Some funds have additionally established a
success bonus accounted in case the fund
return exceeds the previously determined
growth target.
All fees charged by a fund are described in
the fund prospectus.
In addition to the fees charged by the
management company, the investor shall
also take into account the securities account
fees – in case of transactions, Swedbank
charges the transaction fee and monthly
securities account maintenance fee. All fees
are described in the price list of Swedbank:
https://www.swedbank.ee/private/home/more
/pricesrates?language=ENG,
subsection
"Transactions in securities”.
Derivative
instruments
in general
Please pay attention that in certain cases a fund
unit is considered complicated investment
instrument. The so-called hedge funds are legally
less regulated and may often use leverage and/or
invest into different financial instruments of high
risk (read below for more detail). Often presuming
a large initial investment and setting restrictions
on withdrawing your money from the fund, such
investment solutions primarily suit professional
investors.
Derivative instruments i.e. derivatives are
securities, which market value is connected with
the price of certain underlying assets e.g. listed
share, shares index, raw material (oil, precious
metals, etc.) or currency exchange rate. The
most widely known derivative instruments are
options, futures, forwards and swaps. Derivative
instruments are used in order to lower risks
associated with the change in the value of
underlying assets or to earn from such changes.
The trader in derivative instruments hopes that
the price of these underlying assets will change in
a certain way in a certain period of time.
Although the financial theory describes opportunities for using derivative
instruments for lowering risks, it should be known that in case of derivative
instruments a small change in the price of underlying assets may cause
notably greater movement in the price of derivative instruments. For example,
price changes are often greatest in case there is little time left until the maturity
of a derivative instrument (contract). This is described as leverage, which
denotes that the investment into derivative instruments may produce greater
revenue and bear greater loss than an investment into underlying assets.
Therefore, derivative instruments are considered high-risk investment
solutions, which are not recommended for investors with little experience. The
effect of leverage depends on the conditions and type of particular derivative
instrument. The investor should also take into account that the calculations
necessary for assessing the fair value of derivative instruments may be
extremely complicated.
-
In case of certain derivative instruments, it is possible to lose more than the
initial investment. For example, in case the option seller undertakes to sell the
shares for a certain price, upon the realisation of the option s/he shall be
obliged to procure these shares at a market price, which may be significantly
higher than the current price at the time of the entry into the option contract.
Derivative
instruments:
option
Option is the right, but not obligation to sell (put
option) or buy (call option) certain underlying
assets, usually securities, at the determined price
(exercise price) at certain moment of time
(exercise time). Options are mostly traded on
non-regulated markets and these are therefore
valid as agreement between two parties – the
option issuer undertakes to sell or buy the
securities at the determined price, and the
buyer/acquirer
of
the
option
has
the
corresponding right.
In trading derivative instruments, the customer shall be often obliged to
provide a security of performing his/her obligation (e.g. security deposit).
Depending on the change in the value of the underlying assets, the customer
may also be obliged to increase the value of the security with a short period of
notice (margin call).
Options may be used for lowering the risk of decline of the value of some
investment and also for speculation that the security price will move in one or
another direction. The investor's risk may significantly differ proceeding from
the way of using the option. The options of non-regulated markets (OTC) may
additionally contain the issuer's credit risk. Due to small market liquidity,
investor may not succeed at selling an OTC option at profitable price before
the maturity date.
Purchase of options
When purchasing options, the investor assumes the risk that the security
constituting the underlying assets would move in the contrary direction than
desired. For earning profit with option transactions, the difference between the
market price of the security constituting the underlying assets and the
transaction value shall exceed the premium paid when purchasing the option.
The investor shall lose 100% of the investment made when purchasing the
option in case of call option the market price of the security constituting the
underlying assets does not exceed at the maturity date the strike price of
The fee paid when purchasing an option is
called option premium. The formulas and
prerequisites used in calculating option
premiums may differ in the cross-section of
intermediaries;
therefore,
different
intermediaries may ask for different fees. In
addition, the price of option depends on the
exercise time, exercise price, current interest
rate and volatility of security constituting the
underlying assets. The intermediary of option
agreements
may
request
additional
transaction fees and establish different prices
for option buyers and sellers. Before
purchasing any options, investors should
examine
the
terms
and
conditions
established by the seller.
option agreement. In case of put option, the same rule applies if the exercise
price is below the market price.
Derivative
instruments:
future
and
forward
Derivative
instruments:
Swap
Short selling
Future and forward oblige the contracting parties
to sell/buy securities, raw materials or other
financial assets at the agreed time in future and
at the agreed price. Differently from option, the
holder of future or forward also has the obligation
to buy/sell the corresponding underlying assets.
Futures are standardised agreements traded on a
regulated market (e.g. Chicago Board of Trade).
Forwards are similar to futures, but these are
usually traded on non-regulated markets (OTC).
Forwards may be settled (assignment of
underlying assets or monetary settlement of
profit/loss) only on maturity date, and futures may
be settled at any moment before the maturity
date.
Swap is the agreement of contracting parties to
change cash flows at certain time, e.g. payments
with fixed interest rate for payments with floating
interest rate (interest rate swap); underlying
assets with fixed price for underlying assets with
floating price (commodity swap) or one currency
for another (foreign exchange swap).
Short selling of securities denotes the borrowing
and re-selling of securities with the objective to
earn from the decline of securities price. In case
the securities price declines on the market, it is
possible to acquire these on the market at a
lower price than the initial selling price and return
the borrowed number of shares to the lender.
Issue (sale) of options
Issue of options potentially creates an even greater risk to investors than the
purchase of options. Potential losses may exceed all possible revenues, and
additional security assets are usually required. By writing an option, a person
assumes the obligation to purchase or sell certain security constituting the
underlying assets at the determined price irrespective of how the market price
has moved. Owning the underlying assets can lower this risk; if no underlying
assets are owned, the risk is theoretically unlimited.
Futures and forwards involve high risk. The leverage received from futures and
forwards denotes that already a small change in the price of the underlying
assets may cause large profit or loss to the investor. Theoretically, the amount
of loss is unlimited. To cover potential loss, the investor may be required
additional securities on the daily basis, and if the investor is unable to provide
these due to disadvantageous movement of the price of the underlying assets,
the other contracting party may demand to cancel the contract. Since it is
possible to settle forwards only on the maturity date, these involve greater risk
that the other party will fail to fulfil its obligations.
Swaps involve high risk, and the leverage received from these denotes that
already a small change in the price of the underlying assets may cause large
profit or loss to the investor. Theoretically, the amount of loss is unlimited. To
cover potential loss, the investor may be required additional securities on the
daily basis, and if the investor is unable to provide these due to
disadvantageous movement of the price of the underlying assets, the other
contracting party may demand to cancel the contract.
Short selling is extremely risky. In case the price of short-sold securities
changes in the disadvantageous direction, the loss inflicted by the transaction
may be extremely large. Therefore, short selling practically denotes the use of
leverage, and usually there is also demanded the provision of security for
securing the liabilities created in this respect in the form of security deposit (qv.
above for Derivative instruments in general)
When purchasing futures (forwards), the
bank may request contract fee, the amount of
which depends on particular instrument and
character of transaction. Contract fees may
differ in the cross-section of intermediaries;
therefore, different intermediaries may ask for
different fees. In addition, the price of future
or forward depends on the exercise time,
exercise price, interest rates, etc. Before
purchasing any futures (forwards), investors
should examine the terms and conditions
established by the seller.
Swap price depends on the exercise time,
exercise price, interest rates, market liquidity,
etc. Before purchasing any swaps, investors
should examine the terms and conditions
established by the seller.
Service fees accompanying short selling
depend on particular transaction and used
instruments.
Before
concluding
any
transactions, investors should examine the
terms and conditions established by the
seller.