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Chapter Twenty-One. Understanding Securities Markets and Investments. Traditional Investment Vehicles. Securities – certificates of part ownership of a firm Bought and sold through an account executive or stockbroker The primary market
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Chapter Twenty-One Understanding Securities Markets and Investments
Traditional Investment Vehicles Securities – certificates of part ownership of a firm • Bought and sold through an account executive or stockbroker • The primary market • investor purchases financial securities directly from the issuer of those securities • IPO
How Securities Are Bought and Sold • The secondary market • Investor purchases securities from other investors • Securities exchange • financial securities traded between investors • New York Stock Exchange (NYSE), American Stock Exchange • Over-the-counter (OTC) market • buy and sell stock not listed on a securities exchange • Nasdaq—system through which most OTC stocks are traded
Criteria for Being Listed on the NYSE • Annual earnings = 2.5 M last tax year • Publicly held stock = 1.1 M shares • Value of Publicly held stock=100M • # of stockholders with 100 shares=2000
The mechanics of a transaction • Market order • a security purchased or sold at the current market price • Limit order • a security bought or sold at a price that is equal to or better than some specified price • Discretionary order • broker decides when to execute the transaction and at what price So what keeps an honest broker honest?
Regulation of Securities Trading • State regulation • States require registration of stock issues and licensing of brokers and securities dealers • Federal regulation • Securities Act of 1933 (Truth in Securities Act) • Requires registration statement & prospectus describing a new security be fully disclosed • Sarbanes-Oxley Act - 2002 • Protects the validity of financial info in the registration statement-also, can’t alter or destroy company files • Securities and Exchange Commission (SEC) • enforces federal securities regulations
How Do Securities Earn You Income? Securities (common and preferred stock) offer dividend income, but firm is not required to pay this If they do … • Dividend—cash payments to stockholders • Stock dividend—payment as additional stock
Other investment Buzz words • Capital gain/loss— the difference between a security’s purchase price and its selling price • Stock Splits- same value cut into smaller pieces, but stock becomes more desired to buyers because the price is more affordable. • Market value—the price of one share of a stock at a particular time
Other Traditional Investment Vehicles 1) Government bonds - Risk free and very liquid, but pay low interest • Treasury bills —$10,000 minimum; less than 1year maturity 3% int • Treasury notes — $1000-5000 minimum;1-10 yr maturity • Treasury bonds—$1,000 min;10-30 yr maturity (long bond) • Savings bonds — sold in $25 units: (EE bonds) purchased for ½ maturity value
Other Traditional Investment Vehicles 3) Real estate • Advantage • hedge against inflation-value often goes up • Disadvantages • Risk of losing value due to deteriorating location • buyers may be difficult to locate • declining real estate market at time of sale • heavy burden of taxes, mortgage interest, and installment payments
Other Traditional Investment Alternatives 2) Mutual funds - combines the funds of many individual investors and invests them in multiple securities a) Managed funds Professional fund manager chooses securities in the fund b) Index funds Managers only buy stocks or bonds contained in an index (such as Standard & Poor’s 500) investors Investment company fund
Security averages An average of the current market prices of selected securities • Dow Jones Industrial Average • 30 leading industrial corporations • Standard & Poor’s 500 Stock Index • New York Stock Exchange Composite Index • Russell 3000 Index • Nasdaq Composite Index
Other Traditional Investment Vehicles 4) Bank accounts • Advantages—low risk & definite rates of return • Disadvantage—low investment returns • Types • CD’s • Passbook savings accounts • Interest bearing checking accounts
Non-Traditional Investment Vehicles • Commodities Futures • Precious metals • Gemstones • Coins • Antiques • Collectibles VERY RISKY but can be VERY PROFITABLE