Stock Markets

What is a stock market?

A stock market or equity market is a market for the trading of company stock (shares) and derivatives at an agreed price.

The size of the world stock market was estimated at about $36.6 trillion USD at the beginning of October 2008.

What is a share/stock/equity?

Shares represent a fraction of ownership in a business. The common feature of all these is equity participation. Different classes of shares have different voting rights.

Ownership of shares is documented by a legal document that specifies the amount of shares owned by the shareholder, and other specifics of the shares, such as the par value or the class of the shares (if any).

These days these stock certificates have been dematerialized.(No physical document!)

Who is a shareholder?

A shareholder (or stockholder) is an individual or company (including a corporation) that legally owns one or more shares of a company.

Shareholders are granted privileges depending on the class of stock, including the right to vote on matters such as elections to the board of directors, the right to share in distributions of the company's income, the right to purchase new shares issued by the company, and the right to a company's assets during a liquidation of the company.

Shareholders vary from individual stock investors to large hedge fund traders.

Why does a company issue shares to the public?

A company may want additional capital to invest in new projects.

The promoters may simply wish to reduce their holding, freeing up capital for their own private use.

Once a company is listed, it will be able to issue further shares via a rights issue, thereby again providing itself with capital for expansion without incurring any debt.

Financing a company through the sale of stock in a company is known as equity financing.

Trading

The shares of a company are in general be transferrable from one shareholder to another . This leads to buying and selling of shares termed as trading.

Investors usually buy and sell shares on the exchanges through a stock brokers registered with the exchange.

A company may list its shares on an exchange by meeting and maintaining the listing requirements of a particular stock exchange.

Share price determination

At any given moment, the price is strictly a result of supply and demand. The supply is the number of shares offered for sale at any one moment. The demand is the number of shares investors wish to buy at exactly that same time.

Actual trades are based on an auction market model where a potential buyer bids a specific price for a stock and a potential seller asks a specific price for the stock. (Buying or selling at market means you will accept anyask price or bid price for the stock, respectively.) When the bid and ask prices match, a sale takes place.

Listing requirements

The set of conditions imposed by a given stock exchange upon companies that want to be listed on that exchange.

Examples include minimum number of shares outstanding, minimum market capitalization, and minimum annual income.

These requirements vary from exchange to exchange. Example: Bombay Stock Exchange(BSE) has requirements for a minimum market capitalization of Rs.25 Cr and minimum public float equivalent to Rs.10 Cr whereas the London Stock Exchange has requirements for a minimum market capitalization (£700,000) .

Ways of buying and selling shares

Through a stock broker: They arrange the transfer of stock from a seller to a buyer. Both the buyer and the seller of the share pay commission known as brokerageto the broker.

Directly from the company:

1. If at least one share is owned, most companies will allow the purchase of shares directly from the company through their investor relations departments.

2. A direct public offering is an initial public offering(IPO) in which the stock is purchased directly from the company, usually without the aid of brokers.

Leveraged Strategies

Margin BuyingBuying stock on margin means buying stock with money borrowed against the stocks in the same account. These stocks, or collateral, guarantee that the buyer can repay the loan; otherwise, the stockbroker has the right to sell the stock to repay the borrowed money. The broker usually charges 8-10% interest on margin borrowing.

Short sellingIn short selling, the trader borrows stock (usually from his brokerage) then sells it on the market, hoping for the price to fall. The trader eventually buys back the stock, making money if the price fell in the meantime and losing money if it rose.

When to invest in a particular stock?

Fundamental analysis refers to analyzing companies by their financial statements found in SEC Filings, business trends, general economic conditions and the growth prospects of company's market segment. A few parameters which are looked upon include Price to Earnings (PE) Ratio, Price to Book Value ratio, Equity to Debt ratio.

Technical analysis studies price actions in markets through the use of charts and quantitative techniques to attempt to forecast price trends regardless of the company's financial prospects. A few examples include Trend lines, Bollinger Bands, Oscillators etc.

Fundamental Analysis

shareper Earnings Annual

shareper Price Ratio / EP

sliabilitie - assets Tangible

tionCapitalizaMarket Ratio / BP

Technical Analysis

Up Trend-Line

Technical Analysis

Bollinger Bands

Stock Market Index

The movements of the prices in a market or section of a market are captured in price indices called stock market indices. Such indices are usually market capitalization weighted, with the weights reflecting the contribution of the stock to the index. Examples of index include Sensex, Nifty, DJIA, S&P500, Nikkei etc.

The constituents of the index are reviewed frequently to include/exclude stocks in order to reflect the changing business environment.

Importance and role of the stock markets

Raising capital for businesses

Government capital-raising for development projects

Mobilizing savings for investment

Facilitating company growth through acquisitions

Creating investment opportunities for small investors

Barometer of the economy

Stock markets and the financial risk

Sometimes the market seems to react irrationally to economic or financial news. This may 'temporarily' move financial prices away from their long term aggregate price 'trends'. (Positive or up trends are referred to as bull markets; negative or down trends are referred to as bear markets). Over-reactions may occur—so that excessive optimism (euphoria) may drive prices unduly high or excessive pessimism may drive prices unduly low.

Stock Market Crashes

A stock market crash is often defined as a sharp dip in share prices of equities listed on the stock exchanges. In parallel with various economic factors, a reason for stock market crashes is also due to panic and investing public's loss of confidence. Often, stock market crashes burst speculative economic bubbles.

Famous stock market crashes have lead to the loss of billions of dollars and wealth destruction on a massive scale.