Understanding Securities and Securities Markets

1. Understanding Securitiesand Securities Markets Chapter 22

2. Chapter 22 Learning Goals • What is the function of the securities markets? • How do common stock, preferred stock, and bonds differ as investments? • What other types of securities are available to investors? • Where can investors buy and sell securities, and how are these securities markets regulated?

3. Chapter 22 Learning Goals (cont’d.) • How do investors open a brokerage account and make securities transactions? • Which sources of investment information are the most helpful to investors? • What can investors learn from stock, bond, and mutual fund quotations? • What are the current trends in the securities markets?

4. Learning Goal 1 • What is the function of the securities markets? • Securities markets • Allow stocks, bonds, and other securities to be bought and sold quickly and at a fair price • New issues are sold in primary market • Securities are traded in secondary market • Investment bankers • Specialize in issuing and selling new security issues • Stockbrokers • Licensed professionals who buy and sell securities on behalf of their clients

5. Securities: Investment certificates issued by corporations or governments that represent wither equity or debt

6. Types of Securities Markets • Primary • new securities sold to the public • issuer gets proceeds • Secondary • already issued securities are traded • stock exchanges, commodities exchanges, over-the-counter market

7. Learning Goal 2 • How do common stock, preferred stock, and bonds differ • as investments?

8. Stock: Equity Financing • Common stock • represents ownership interest • returns: dividends, stock-price increases • Preferred stock • represents ownership interest • receive dividends before common stockholders • provides fixed income

9. Bonds: Long-term debt obligations (liabilities) of corporations & governments • issuers must pay back: • principal (par value) • plus interest (coupon rate)

10. Bonds: Debt Financing • Corporate bonds • secured vs. unsecured • convertible bonds • US government securities • treasury bills, notes, bonds • Municipal bonds • Bond ratings • letter grades represent the risk

11. Learning Goal 3 • What other types of securities are available to investors? • Mutual funds • Financial service companies that pool the funds of many investors to buy a diversified portfolio of securities • Offer a convenient way to diversify • Professionally managed • Futures contracts • Legally binding obligations to buy or sell specified quantities of commodities at an agreed-on price at a future date • Very risky investments because price may change drastically

12. Other Popular Securities • Mutual funds • pools investors’ funds • Futures contracts • Options

13. Learning Goal 4 • Where can investors buy and sell securities, and how are these securities markets regulated? • Securities are resold on: • Organized stock exchanges, such as the New York Stock Exchange • Regional stock exchanges • Over-the-counter market • Securities markets are regulated by • Securities Act of 1933 • Requires disclosure of important information on new securities issues • Securities Exchange Act of 1934 and 1964 amendment • Formally empowered the SEC to regulate organized securities exchanges and over-the-counter market • Investment Company Act of 1940 • Places investment companies such as mutual funds under SEC control • Self-regulatory groups such as the NASD • “Circuit breakers” to halt trading if the Dow Jones Industrial Average drops rapidly

14. Securities Exchanges • Organized stock exchanges • re-sell securities in an auction-type format • US stock exchanges • New York Stock Exchange • American Stock Exchange • Global trading & foreign exchanges • Over-the-Counter Market • electronic-based Nasdaq

15. Securities Exchanges: NYSE • To prevent a fast crash, the New York Stock Exchange has several “trading breakers” • a 1,100-point drop stops trading for1 hour if it occurs before 2:00 pm • a 2,250-pointdrop stops trading for2 hours if it occurs before 1:00 pm • a 3,350-pointdrop stops trading for the rest of the day Source: Associated Press in The Arizona Republic, Jan. 3, 2000, pg. D3.

16. Learning Goal 5 • How do investors open a brokerage account and make securities transactions? • Choose a brokerage firm and stockbroker • Open a cash account or a margin account • Cash account - all securities transactions are paid in full • Margin account - allows investors to put up 50% of price of securities and borrow the rest from broker • Give an order to broker to buy or sell securities • Broker sends the order to the stock exchange to be carried out • If stock is an over-the-counter stock, broker finds the dealer with the best price

17. How to Buy and Sell Securities • Securities transactions • place order with broker • broker makes the transaction • blocks of 100 are round lots • market orders, limit orders, stop-loss orders • Online investing • lower transaction costs • 15% of people in a Consumer Reports survey had purchased stock or other investments online (Source: Consumer Reports, Dec. 1999, p. 10)

18. Learning Goal 6 • Which sources of investment information are the most helpful to investors? • Popular investment information sources: • Economic and financial publications • The Wall Street Journal • Barron’s • Business Week • Fortune • Smart Money • Money • Numerous Internet sites • Subscription services • Investment newsletters • Security price quotations

19. Popular Sources ofInvestment Information • Economic & financial publications • Barron’s • Wall Street Journal • Business Week • Online information resources • Security price quotations • stocks, bonds, mutual funds • Market averages & indexes • Dow Jones Industrial Average

20. Learning Goal 7 • What can investors learn from stock, bond, and mutual fund quotations? • Stock quotations • Show highest and lowest prices paid for stock during previous 52 weeks • Annual dividend and dividend yield • Price/earnings ratio and the day’s trading volume • High, low, and closing price for the day • Change from the previous day’s closing price • Bond quotations • Show coupon interest rate • Maturity date • Current yield and trading volume • Closing price and change in closing price from previous day • Mutual fund quotations • Provide fund’s net asset value • Net change in NAV from previous day • Year-to-date percent return

21. Example Stock Quotation Yld Vol NetHi Lo Stock Sym Div % PE 100s Hi Lo Close Chg 40. 25) HormelFood HRL .66 1.7 21 1107 39. 38 : 38 * - ) High price for the day Net change price from previous day Symbol for the company Volume of shares traded Dividendyield Abbreviatedcompany name Annual dividendper share Closing price for the day Price/earnings ratio High price for previous 52 weeks

22. Stock Performance Some reasons why stock prices tend to increase every January: • small companies often record gains in late Dec., which carries through Jan. • investors who sell ‘bad’ stocks late in the year (to deduct the losses on taxes) buy them back in Jan. Source: The Arizona Republic, Jan. 2, 2000, pg. D2.

23. Example Bond Quotation Cur. Net Bonds Yld. Vol. Close Chg DukeEn 7!05 7.6 46 99 - ) Abbreviated company name Number of bonds traded Net change price from previous day Annual interest rate & maturity date Current interest yield Closing price for the day

24. Learning Goal 8 • What are the current trends in the securities markets? • Securities markets and the investment industry are changing considerably • New York Stock Exchange no longer dominates equity market activity • Nasdaq is challenging the Big Board • Emergence of electronic exchanges • Individual investors are becoming a market force • Improved technology • Relative ease of online investing • Move toward self-management of retirement funds

25. Trends in Securities • Market competition • Nasdaq, AMEX, NYSE • electronic communications networks (ECNs) • More individuals investing

26. Rise in Internet Investment Money Invested in the Internet is Estimated to Rise to $700 billion by 2003 estimated Source: Newsweek, Dec. 13, 1999, p. 63.