Chapter 8 Securities Markets and Transactions Types of Securities Markets 1 Securities Markets classified by maturity a Money Markets the market where short term debt securities are bought and sold i Are less than one year ii Used for short term borrowing and lending b Capital Markets the market to buy and sell long term securities i Maturities of more then one year ii Ex stocks and bonds iii More risky iv More likely to produce higher returns in the long run 2 Primary Secondary Third and Fourth Markets classified by what and who does a Primary Markets the market in which new issues of securities are sold to the trading investors i Types of offerings 1 Seasoned Equity Offerings the sale of additional stock by 2 already public companies Initial Public Offering IPO the first public sale of a company s stock and results in the company s taking on a public status ii Ways to market new firms 1 Public offering 2 Private placement 3 Rights offering iii Purpose to raise capital iv Trades between issuing firms and investors b Secondary Markets the market in which securities are traded after they have been issued i Aka the aftermarket ii Transactions are between investors 1 Unlike the primary market transactions do not involve the corporation that issued the securities iii Role of secondary Markets 1 Provides continuous pricing of securities that helps to ensure that securities reflect their true value on the basis of the bet information available a Allows for frequency and volume 2 Provides liquidity a Transactions are made quickly and at a fair price iv Security exchanges forums where security buyers and sellers are brought together to execute trades 1 Physical locations 2 May be virtual telecommunications networks v Includes Nasdaq market and Over the Counter OTC market c Third Markets consists of OTC transactions made in securities listed on the NYSE NYSE Amex etc securities exchange i Typically handled by market makers that are not members of a ii Listed securities large trades institutional investors 1 Minimize price impact and lower commissions d Fourth Markets Consists of transactions made through a computer network rather than on an exchange directly between large institutional buyers and sellers of securities i Bypass the market maker ii Electronic communication networks help to do this 1 Effective for high volume actively traded securities key in after hours trading 2 Exact matches required 3 Only small transaction fees no bid ask spreads 3 Broker vs Dealer Markets classified by how trades are executed a Broker Markets buyer and sellers come together That is the seller sells their securities directly to the buyer i Direct trade broker assists 1 Auction process goal is to fill buy orders at lowest price and sell orders at highest price ii Occurs in stock exchanges such as NYSE NYSE Amex regional stock exchanges option exchanges and futures exchanges b Dealer Markets buyers orders and sellers orders are never brought together directly Rather they are executed by market makers who are securities dealers that make markets sell a certain amount of securities at stated prices i Is made up of 1 Nasdaq 2 OTC Market a All stocks must have at least two market makers b Dealers electronically post all their bid ask prices so that when investors place market orders they are immediately filled at the best available price a Non Nasdaq issues include mostly small companies that either cannot or not wish to comply with Nasdaq s listing requirements b Unregulated segment of the market companies are not even required to file with the SEC 3 Includes IPO s ii Virtual linked telecommunication networks iii Dealers market makers their offers to buy and sell keep trading going they make the market iv Three party trades 1 Two separate trades can be with the same or different v Dealer profit bid ask spread 1 Bid price the highest price offered to purchase a given a An investor receives the bid price when buying 2 Ask price the lowest price offered to purchase a given a An investor pays the ask price when buying dealers security security securities securities Initial Public Offering Initial Public Offering IPO the first public sale of a company s stock and results in the company s taking on a public status A The most significant transaction in the primary market B Most companies that go public are small fast growing companies that require additional capital to continue expanding Issuing firm needs existing shareholder s approval C D The IPO Process 1 When a company first decides to go public it must first obtain the approval of its current shareholders investors who own its privately issued stock 2 Then auditors and lawyers must certify that all financial disclosure documents for the company are legitimate 3 The company then finds an investment bank willing to underwrite the offering 4 This bank is the lead underwriter and is responsible for promoting the stock and facilitating the sale of the IPO share s 5 The lead underwriter often brings in other investment banking firms to help underwrite and market the company s stock E Filing a registration statement with the SEC 1 Prospectus describes the key aspects of the securities to be issued the issuer s management and the issuer s financial position 2 Red Herring a preliminary prospectus that may be given to prospective investors 3 Quiet period after the company files there is a period which there are restrictions on what can be said about the company The purpose is to make sure all potential investors have access to the same information about the company 4 Road Show a series of presentations to potential investors prior to the issuing the IPO Done to gauge interest and set an expected price range F Investing in IPO s is risky offering price a Esp for individual investors who can t easily acquire shares at the b Most of the shares go to institutional investors and brokerage firms c First day gains do not mean they are necessarily good long term best clients investments The Investment Banker s Role A Main activity is underwriting which is the tendency to underprice the share price to issuing firm This process involves purchasing the securities from the issuing firm at an agreed on price and bearing the risk of reselling them to the public a Higher profits less risk easier to sell b Gross spread the amount the issuing firm leaves on the table c IPO s are risky investments for retail investors i Generally over perform on the first day and underperform in the
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