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Ch01 Web Extension 1B Show

This document provides an overview of stock indexes and the stock market. It discusses various types of stock indexes based on composition, weighting, sectors, and geographic regions. It also outlines regulations on insider trading and margin requirements. Additionally, it describes the roles of investment banks in public/private offerings and initial public offerings. The document concludes with explanations of trading costs, the specialist system, margin trading, short selling, and trading away from exchanges.

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Mahmoud Abdullah
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31 views20 pages

Ch01 Web Extension 1B Show

This document provides an overview of stock indexes and the stock market. It discusses various types of stock indexes based on composition, weighting, sectors, and geographic regions. It also outlines regulations on insider trading and margin requirements. Additionally, it describes the roles of investment banks in public/private offerings and initial public offerings. The document concludes with explanations of trading costs, the specialist system, margin trading, short selling, and trading away from exchanges.

Uploaded by

Mahmoud Abdullah
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PPTX, PDF, TXT or read online on Scribd
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Chapter 1

Web Extension 1B

A Closer Look at the Stock


Markets

1
Topics in Web Extension
 Stock indexes
 Regulation
 Overview of investment banking
 Stock trading

2
Stock Indexes
 Stock indexes try to measure some
aspect of the market
 The differ with respect to:
 Composition (types of stock in the index)
 Weighting (how the individual stocks are
aggregated into an index)

(More . .)

3
Index Composition
 Replicate a particular exchange
 Measure a country’s most important
stocks
 Measure a particular business sector
 Measure a particular investment “style”
 Measure an international region

(More . .)

4
Composition by Exchange
 NYSE Composite
 Nasdaq Composite

(More . .)

5
Composition by Business
Sector
 Many different index providers, such as:
 Dow Jones
 Amex
 Morgan Stanley
 Many different sectors, such as:
 Airlines
 Biotechnology
 Chemicals
 Consumer retailers
 Technology

6
Composition by “Style”
 Two important investment styles are by the
size of the firm and by its growth prospects.
Growth is measure by high-expected sales
growth and high price-book ratios (value
stocks have lower growth and lower price-
book ratios)
 Examples:
 Russell 1000 Growth
 Russell Midcap Value

7
Composition by International
Region
 Morgan Stanley Capital International
(MSCI)
 EAFE (Europe, Asia, Far East) Index
 Emerging Markets Index
 Pacific Index

8
Stock Weighting in Indexes
 Price weighted
 DJIA
 Market-value weighted
 S&P500
 Nasdaq Composite

 Equally weighted
 Value Line Index
9
Regulation of Securities
Markets
 Government Regulation– such as SEC.
 Insider trading oversight (SEC)
 Margin oversight (Federal Reserve)
 Self-regulation– such as NASD.
 Circuit Breakers– automatic halt in trading
if stock prices have exceptional changes.

10
Public vs. Private Offerings
 Public offerings: registered with the SEC and
sale is made to the investing public.
 Shelf registration (Rule 415, since 1982) allows firms to
register an offering and sell parts of the offering over time.
 Private offering: Sale to a limited number of
sophisticated investors not requiring the protection of
registration.
- Dominated by institutions.
- Very active market for debt securities.
- Not as active for stock offerings.

11
Investment Banking and
Security Offerings
 Underwritten vs. “Best Efforts”
 Underwritten: firm commitment on proceeds to
the issuing firm.
 Best Efforts: no firm commitment.
 Negotiated vs. Competitive Bid
 Negotiated: issuing firm negotiates terms with
investment banker. Usually a 7% spread.
 Competitive bid: issuer structures the offering
and secures bids (more common in bonds than
stocks).

12
Initial Public Offerings
 Initial Public Offerings (IPOs)
 Underpricing—Average increase is 14% on
first day.
 Performance– Underperforms similar stock
during three years after IPO.

13
Costs of Trading
 Commission: fee paid to broker for making
the transaction
 Spread: cost of trading with dealer
 Bid: price dealer will buy from you
 Ask: price dealer will sell to you
 Spread: ask - bid
 “Price Impact”– Large sales or purchase
might cause prices to change.
 “Payment for Order Flow”– Exchange will pay
brokers to direct orders to them.

14
The Specialist at the NYSE
 Handles around 10-20 stocks (one per
specialist)
 Stocks trade at the “specialist’s post”
 “Makes a market” by matching buyers/seller
and by buying/selling from own inventory
 Goal is to “maintain a fair and orderly
market” so that price changes are smooth
 Specialist loses money when smoothing the
market, but makes it back during normal
conditions

15
Trading Away from Exchanges
 Third Market– trading listed stocks but
not through exchange
 Institutional market: to facilitate trades of
larger blocks of securities.
 Involves services of dealers and brokers
 Fourth Market– institutions trading with
institutions
 No middleman involved in the transaction
16
Margin Trading
 Investor uses only a portion of own
capital for an investment.
 Borrows remaining component.
 Margin arrangements differ for stocks
and futures.

17
Stock Margin Trading
 Maximum initial margin
 Currently 50%
 Set by the Fed
 Maintenance margin
 Minimum level of equity margin if prices
change
 Margin call
 Call for more equity funds

18
Short Sales Mechanics
 Opening a short position:
 Borrow stock through a dealer.
 Sell it
 Deposit proceeds and margin in account.
 Closing out the position:
 Buy the stock
 Return to the party from which it was
borrowed.

19
Short Sales Purposes and
Features
 Purpose: to profit from a decline in the
price of a stock or security.
 Must pay the broker the equivalent of
any dividends paid by the stock
 “Uptick” restrictions– can only sell short
when the ask price of a stock is higher
than the last transaction
 Unlimited loss potential

20

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