Chapter 9 Study Guide Market Averages and Indexes Group of pre selected securities chosen for some shared characteristic Purpose They show us the general direction of the market in which they exist and are used to forecast future behavior of this market sector You must use the appropriate index to make an accurate assumption about a market sector Why do we have market averages or indexes They show us the general direction of the market in which they exist and are used to forecast future behavior of this market sector You must use the appropriate index to make an accurate assumption about a market sector How are market averages and indexes related to benchmarking We judge the individual performance of a security by comparing it to the performance of the index in which that security exists This is called benchmarking The benchmark is the reference point the level of performance that the stock should at least meet to be performing average on any given day Important things when comparing companies based off an index Comparison must be made at the same day and the same time in order to be accurate Comparisons must be made on a percentage basis not an overall dollar amount Companies and the index must all be in the same industry in order to draw a conclusion DJIA S P 500 o 30 companies Indexed based on total market value Broad public ownership high quality stocks 500 major firms across all sectors Only US companies but these companies have exposure to and are influenced by other countries Pursuant to 17 U S Code 506 section A and C the unlawful distribution sharing or availability made to anyone besides the original purchaser of this document is a felony and can also result in expulsion form Florida State University Highly concentrated in technical and growth firms Around 3000 US and international Nasdaq Composite stocks General Indexes are continually revised throughout the day When citing an index price the value at the market s close is usually used Daily percentage changes are relative to the previous day s close Price measure relative to what We must compare based on percentages which show the relationship between the numbers and the relative size of the average Refers to either the Dow Jones or the S P 500 Typically when one index is up the Refers to a situation when the S P 500 and Dow Jones perform differently One is up The market other is up as well Mixed market and one is down Stock movement Most asset types move in the same direction on a given day Stocks bonds etc Equally weighted vs value weighted The DJIA is equally weighted which means that only considers the price of a company not the size Terminology The S P 500 is value weighted which means that the current price of a firm is multiplied by its shares taking the size of the company into consideration Benchmark see above Divisor maintains comparative relationship over time Only used by DJIA Stockbrokers Should try to on his client s behalf purchase a security at the lowest possible price and sell it at the highest possible price Commissions Stockbrokers are paid on every transaction he makes on your behalf He makes money regardless of the stocks performance Churning excessive trades made on a clients behalf for the sole reason of earning more commissions this is illegal Licenses Licensed with the SEC and the exchanges on which they trade Order types Street name stocks bought by a stockbroker on your behalf are not held in your name they are bought in the brokerage house s name the street name Market a purchase or sell order that goes through regardless of what the stock is currently trading at will sell at current market price Default order Limit order you set the price at which you want the order to go through Stop order a k a stop loss orde Pursuant to 17 U S Code 506 section A and C the unlawful distribution sharing or availability made to anyone besides the original purchaser of this document is a felony and can also result in expulsion form Florida State University Trade off price vs execution certainty Approach to order types What does the order do and why would such an order type be placed o Market the fastest type of order the order will go through immediately o Limit order You can choose the exact price you want the order to be executed at If you are buying you might even get the stock at a lower price And if you are selling you may even sell at a higher more profitable price o Stop loss a market order that lies suspended until the stock price drops to a level so low that you want to cut your losses and sell What risks are associated with each order type o Market there is uncertainty you do not know exactly the price at which the order will go through There is a chance that the price can be significantly different from what you expected o Limit There is a chance that the order will not go through If the market price does not meet your set price the order will not be executed The order will only go through after orders with higher precedence go through market orders o Stop loss if prices are dropping very quickly you may end up selling the stock much lower than your stop loss price Terminology Precedence Orders with higher priority will be executed first Market stop loss limit Missing the market Time limits on orders Day order an order that gets cancelled if it does not go through during the say it is placed Good til Canceled GTC an order that is valid for 6 months Miscellaneous Transaction Costs Fixed commissions on small trades Usually 7 10 Transaction costs on very large orders can be negotiated Securities Investor Protection Corporation SIPC Terminology This company ensures that shares that are held in street name will be able to be received back in the person s own name Insurance company Churning bad advice given to a client for the sole purpose of racking up transaction fees This is illegal but very hard to prove Pursuant to 17 U S Code 506 section A and C the unlawful distribution sharing or availability made to anyone besides the original purchaser of this document is a felony and can also result in expulsion form Florida State University Class videos High frequency trading using highly advanced computer networks to purchase a security as fast as possible expecting a very small rise in stock price usually a 1 cent or less and selling it after a few minutes The key to this is trading hundreds of thousands of shares at a time and getting access to information faster than anyone else can This method is
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