how securities are traded how firms issue securities how securities are traded trading basics...
TRANSCRIPT
How Securities are Traded• How firms issue securities• How securities are traded
Trading basicsTrading costOrder type
Buying on marginShort sales
Primary vs. Secondary Security Sales
PrimaryNew issueKey factor: issuer receives the proceeds
from the saleSecondary
Existing owner sells to another partyIssuing firm doesn’t receive proceeds and
is not directly involved
Public OfferingsPublic offerings: registered with the SEC and
sale is made to the investing publicInitial Public Offerings (IPOs)
Private PlacementsPrivate placement: sale to a limitednumber of sophisticated investors notrequiring the protection of registrationDominated by institutionsVery active market for debt securitiesNot active for stock offerings
Costs of TradingCommission: fee paid to broker for
making the transactionSpread: cost of trading with dealer (NOT
an explicit cost, it is not a fee, but will affect your return)Bid: price dealer will buy from youAsk: price dealer will sell to youSpread: ask - bid
Types of OrdersInstructions to the brokers on how tocomplete the orderMarket order: executed immediately at
current market pricesLimit order: An order specifying a price at
(or better than) which an investor is willing to buy or sellLimit buy: buy at price same or below the
stipulated limit priceLimit sell: Sell at price same or above the
stipulated limit price
Types of OrdersStop order: trade is not executed unless
stock hits a price limitStop-loss orders:
Def: A stock is to be sold if its price falls below a price limit
Idea: sell to stop further lossStop-buy orders:
Def: a stock should be bought when price rises above a limit
Idea: limit loss from short sales Idea 2:don’t want to lose opportunity to buy
before prices goes even higher
Margin TradingUsing only a portion of the proceeds for an
investmentBorrow remaining componentMargin:
The net worth (Equity) of the investor’s accountMargin =Asset-Liability ( borrowed funds or
stocks)% margin=Equity/Value of stockThe idea for margin requirement: The % of
decline of your stock value before equity value drops to zero. It serves as a cushion for the lender.
Stock Margin TradingMaintenance margin: minimum
percentage of margin in trading before additional funds must be put into the account
Initial margin: maintenance margin when first purchasing the stock
Margin call: notification from broker you must put up additional funds
Margin Trading - Initial ConditionsX Corp $7050% Initial Margin40% Maintenance Margin1000 Shares PurchasedInitial PositionStock $70,000 Borrowed $35,000 Equity 35,000
Margin Trading - Maintenance MarginStock price falls to $60 per shareNew PositionStock $60,000 Borrowed $35,000 Equity 25,000Margin% = $25,000/$60,000 = 41.67%If sock price falls 41.67%, equity will be wiped
out (equity value will be zero).
Margin Trading - Margin CallHow far can the stock price fall before amargin call?
(1000P - $35,000)* / 1000P = 40%
P = $58.33* 1000P - Amt Borrowed = Equity
Short SalesPurpose: to profit from a decline in the price of a stock or security
MechanicsBorrow stock through a dealerSell it and deposit proceeds and margin in
an accountClosing out the position: buy the stock
and return to the party from which is was borrowed
% Margin=Equity / Values of stocks owned
Short Sale - Initial ConditionsZ Corp 100 Shares50% Initial Margin30% Maintenance Margin$100 Initial Price
Sale Proceeds $10,000Margin & Equity 5,000Stock Owed 10,000
Short Sale - Maintenance MarginStock Price Rises to $110
Sale Proceeds $10,000Initial Margin 5,000Stock Owed 11,000Net Equity 4,000Margin % (4000/11000) 36%If stock price rises 36%, equity will be zero.
Short Sale - Margin CallHow much can the stock price rise before a margin call?
($15,000* - 100P) / (100P) = 30%P = $115.38
* Initial margin plus sale proceeds
WarningDon’t short!
Short has unlimited potential lossShort is against the long term trend (positive
return for investing)Stay away from:
Small cap, fast growing, high valuation (Netflix) Potential turning around company (Ford) Potential taken over target
Short candidatesStocks with a broken business model (BBI,
DTV, BKS)and struggling in competition (Dell,
MOT,NOK…)and with a high valuationand with a large Cap. (small cap stocks can
rise very fast and kill the shorts)