Download - FINA 4310 Survey of Investments
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FINA 4310Survey of Investments
Dr. MayhewSpring 2002
Chapter 3: How Securities Are Traded
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Primary MarketInitial Public Offerings (IPOs) Example
Seasoned Offerings Example
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Secondary MarketsOver-The-Counter (OTC) Markets
Bond MarketForeign Exchange MarketDerivatives MarketOTC Stock Market
ExchangesStock ExchangesFutures ExchangesOption Exchanges
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ExchangesCentralized public trading venueDoes not have to be a physical locationProvides regulated trading environmentTrades and Prices become public info.Various different structures possible
Dealer MarketSpecialist MarketOrder-Driven Market
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Dealer Markets Simultaneous quotes from multiple dealersOTC Markets have dealership structureFutures ExchangesNASDAQ Stock Market
NASDAQ National MarketNASDAQ SmallCap MarketOTC Bulletin Board
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Dealer Market
Market Maker
Market Maker
Broker
Market Maker
Order Order
Order
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Specialist MarketsA Specialist...
Disseminates one set of quotes (bid and ask)Oversees matching of buyers and sellersRepresents public limit ordersHelps maintain orderly marketTrades on own account
New York Stock Exchange (NYSE)American Stock Exchange (AMEX)Regional Exchanges
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Order-Driven MarketsElectronic Communication Networks(ECN)
IslandInstinetArchipelago
London SETSEuronext Paris
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Order-Driven Market
BrokerOrderBook Broker-
Dealer
OrderOrder
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Bid Ask SpreadBid price:
Somebody else has offered to buy at this priceTherefore, you can sell at the bid
Ask price:Somebody else has offered to sell at this priceTherefore, you can buy at the ask
Bid price is less than the Ask priceDifference is the bid ask spread
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Bid Ask SpreadMeasures the round-trip transaction costTends to be narrower for actively traded stocks
For the most active stocks, often one pennyTen or fifteen cents for less active stocksSometimes wider
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Order Types: Market OrderOrder to buy or sell immediatelyExecution price is uncertainShould execute at or near the quote
Buy order: at the ask priceSell order: at the bid priceQuotes can movePrice improvement is possible
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Order Types: Limit OrderPrice-contingent order
May not execute immediatelyMay never executeIf it does, it will be at the specified price or better.
Limit buy: at or below specified limit priceLimit sell: at or above specified limit price“Marketable” limit order: can be executed immediately
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Order Types: Limit OrderLimit orders can be:
Day orders (cancelled if unfilled at close)Good until cancelled
In a specialist market or order-driven market, limit orders go into an “order book”
Price priorityTime priority
Market makers in a dealer market can accept limit orders, but there may not be a consolidated book.
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Order Types: Stop ordersBecomes market order when price hits target “stop” priceExample: Stop loss order
Price is currently at 55Put in stop loss order at 50If stock hits 50, sell immediately
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Order Types: Stop Limit OrderBecomes limit order when stock hits target stop priceExample:
Stock is currently at 35Submit limit order to buy at 39, with stop at 40If stock hits 40, then it converts into a limit order to buy at 39
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Order Types: All or NothingWhen submitting a limit order, it is possible that only part of your order may be filled.For example, you may want to buy 1,000 shares, but only get 800 shares.To avoid this, specify “All or nothing”
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Order Types: Fill or KillA limit order that will be cancelled if it does not execute immediatelyExample:
The current ask is $20If you use a market buy, price could move up while you are submitting the order, and you could pay moreSubmit a fill or kill at 20 if you don’t want to pay more.If the price does increase, order will not execute
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StocksBuying on Margin
Borrowing money to buy a stock Margin: the percentage of the stock
position that belongs to you
MV = Market Value of AssetsMargin = ( MV – Loan ) / MV
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StocksBuying on Margin
Initial Margin Requirement: Minimum margin required at entry.
Broker cannot set it below 50%
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StocksBuying on Margin
ExampleAmazing.com is at 20You have $150,000 in cashBorrow $50,000You buy 10,000 shares for $200,000
Initial Margin = 150K / 200K = 75%
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StocksBuying on Margin
Your margin level changes whenever the stock price changes.
Example: Amazing.com goes to 25
Margin = (250K-50K)/250K = 80%Amazing.com goes to 10
Margin = (100K-50K)/100K = 50%
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StocksBuying on Margin
Maintenance Margin: The minimum margin required
to keep a position open Broker cannot set below 25% If your margin falls below this
level, you receive a margin call
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StocksBuying on Margin
Example:Maintenance Requirement = 35%When would you get a margin call?(10,000 X – 50,000) / 10,000 X = .35
50,000 / 10,000 X = .65 X = 50,000 / 10,000 (.65) = 7.69
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StocksBuying on Margin
When you buy on margin, you pay interest on the margin loan.Margin Rates for Deep Discount Brokers
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StocksBuying on Margin
LinksNASD RegulationMotley Fooljustquotes.comEquity AnalyticsTradeStar
American ExpressWachoviaFidelityFirstradeDatek
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StocksShort Selling
Borrowing a stock and selling itEventually, you must buy it backMake money when stock goes downLose when the stock goes up
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StocksShort Selling
Example:Short 1,000 shares of Dog at 60.Receive $60,000.Dog goes down to 50.Buy back for $50,000You made $10,000.
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StocksShort Selling
Example, continuedDog goes up to 75Buy back for $75,000You lost $15,000.
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StocksShort Selling
A lender must be foundThe lender can demand the security
back at any timeIf no new lender can be found, you can
be squeezed out of the shortThe short party is responsible for
dividends
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StocksShort Selling
Margin Requirement for ShortingAs a collateral against default, you must
keep 100% of the proceeds of the short plus an additional margin.
Initial requirement: at least 50%Maintenance requirement: at least 30%
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StocksShort Selling
Margin for a Short Position: CM = Cash in Margin AccountMV = Market Value of Stock
Margin = ( CM – MV ) / MV= (CM/MV) - 1
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StocksShort Selling
Example, continuedShort 1,000 shares of Dog at 60.Initial margin requirement = 50%Must keep the $60,000 proceeds plus
an additional $30,000(90,000 – 60,000) / 60,000 = .5
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StocksShort Selling
Example, continuedMaintenance requirement = 30%When will you get a margin call?
(90,000 / 1,000 X) - 1 = .3090,000 = 1.30 (1000 X)
X = 69.23
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StocksShort Selling
LinksLaughing StockMotley FoolEquity AnalyticsTradeStarViswanath
York SecuritiesVanguard