BMGT343 Chapter 3 Securities Markets How Firms Issue Securities How Securities are Traded Types of Markets primary market market for new issues of securities secondary market market for already existing securities IPO first sale of stock by a formerly private company Underwrites purchase securities from the issuing company and resell them Prospectus description of the firm and the security it is issuing The SEC allows firms to register securities and gradually sell them to the public for 2 years following initial registration The securities are on the shelf ready to be issued which has given rise to the term shelf registration Private placement primary offerings in which shares are sold directly to a small group directly to a small group of institutional or wealthy investors o The firm sells shares directly to a small group of institutional or wealthy investors direct search markets least organized market buyers and sellers must seek each other out directly brokered market brokers find it profitable to offer search services to buyers and sellers ex Real estate market o o primary market new issues of securities are offered to the public investment bankers who market a firm s securities to the public act as brokers dealer markets markets in which traders specializing in particular assets buy and sell for their own accounts ex OTC securities auction market all traders meet at one place to buy sell an asset NYSE Types of Orders market orders buy or sell orders that are to be executed immediately at current market prices o bid price price at which a dealer or other trader is willing to purchase a security o ask price price at which a dealer or other trader will sell a security o bid ask spread difference between a dealer s bid and asked price price contingent orders investors may place orders specifying prices which they are willing to buy sell a security o o limit buy sell order an order specifying a price at which an investor is willing to buy sell a security stop order trade is not to be executed unless stock hits a price limit OTC market an informal network of brokers and dealers who negotiate sales of securities ECNs computer network that allow direct trading without the need for market makers Specialist market trader who makes a market in the shares of one or more firms and who maintains a fair and orderly market by dealing personally in the market Trading Mechanisms US Securities Markets NASDAQ computed lined price quotation system for the OTC market o Lists about 3 200 firms o OTC trades do not require a centralized trading floor as do exchange listed stocks NYSE o The NYSE is by the far the largest stock exchange in the US o Shares of about 2 800 firms o Stock exchange secondary markets where already issued securities are bought sold by members o An investor who wished to trade shares on the NYSE places an order with a brokerage firm o Most exchanges have switched from a mutual form of organization in which seat holders are joint owner to publicly traded corporations owned by shareholders o Block transactions large transactions in which at least 10 000 shares of stock are bought and sold Block houses are firms that specialize in matching buyers and sellers Block house might purchase all or part of a block sale for its own account o Program trade coordinated sale or purchase of a portfolio of stocks o Orders executed on the exchange must be settled within three working days o The vast majority of bond trading occurs in the OTC market among bond dealers o Because these dealers do not carry extensive inventories of the wide range of bonds that have been issued to the public they cannot necessarily offer to sell bonds from their inventory to clients or even buy bonds for their own inventory Bond Trading Trading Costs your broker must be paid a commission brokers routinely provide information and advice relating to investment alternatives discretionary account brokers can buy sell prespecified securities whenever deemed fit explicit part of trading costs broker s commission implicit part dealer s big ask spread Buying on Margin Margin equity in account value of stock Short Sales price concession an investor may be forced to make for trading quantities greater than those associated with the posted bid asked prices investors have easy access to a source of debt financing called broker s call loans taking advantage of broker s call loans is called buying on margin purchasing stocks on margin means the investor borrows part of the purchase price of the stock from a broker Short sale sale of shares not owned by the investor but borrowed through a broker and later purchased to replace the loan The short seller anticipates the stock price will fall so that the share can be purchased later at a lower price than it initially sold for if so the short seller will reap a profit If the brokerage firm cannot locate new shares to replace the old ones the short seller will need to repay the loan immediately by purchasing shares in the market and turning them over to the brokerage house to close out the loan Insider information nonpublic knowledge about a corporation possessed by corporate officers major owners or other individuals with privileged access to information about the firm