ROLE OF FINANCIAL MARKETS: SIMILARITIES AND DIFFERENCES BETWEEN SECURITIES MARKETS

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ROLE OF FINANCIAL MARKETS SIMILARITIES AND
DIFFERENCES BETWEEN SECURITIES MARKETS

• Organization of and trading process on securities
  exchanges

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The Markets

• PRIMARY MARKET A security is initially sold to
  investors by investment banker(s) who underwrite
  the issue. Initial public offerings (IPO) and
  seasoned new issues are first traded here.
• SECONDARY MARKET Once issued, securities are
  traded in the secondary market. Organized
  exchanges, NYSE, AMEX, and over-the-counter
  markets are examples of these markets.
• THIRD MARKET Trading of listed securities in
  the OTC market.
• FOURTH MARKET Direct trading of securities
  among large institutional investors.

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The Players

• PUBLIC OWNERSHIP Shares of stock are owned by a
  significant number of investors with no other
  interest in the firm than their investment, and
  that the firm has satisfied regulatory
  requirements for disclosure of material corporate
  events.
• BROKER An agent who, for a commission, assists
  buyers and sellers in transacting publicly owned
  securities. The transactions may be between
  investors and users of funds or between
  investors.
• EXCHANGE and EXCHANGE MEMBER A system used by
  brokers and dealers for bringing potential buyers
  and sellers together. A member is a dealer or
  broker who has purchased a membership.

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• SPECIALIST Exchange member designated to keep
  track of orders and facilitate trading as a
  broker or dealer in a particular security.
  Orders to buy and sell a security are submitted
  to the specialist who pairs up completable
  trades. NYSE
• DEALER A principal who, in an attempt to
  generate a profit from a transaction, buys from a
  seller and sells to a buyer. Transactions are
  from or to the dealers own account. OTC
• MARKET MAKER A firm or individual who stands as
  a dealer for his own account or as a broker for
  others on a regular basis for a specific
  security. To a greater or lesser degree the MM
  organizes trading in that security. The MM is
  responsible for meeting the publics demand for
  the security. When there is a one-sided demand,
  the market maker will take the opposite position
  to complete the transaction. The market maker
  benefit from the difference in the bid and ask
  prices, i.e. the bid-ask spread.

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The Orders

• BID Price at which a buyer is willing to trade
  -- an offer to purchase.
• ASK Price at which a seller is willing to trade
  -- an offer to sell.
• MARKET ORDER An unconditional offer to sell or
  buy.
• LIMIT ORDER An offer to sell or buy that is
  conditional on a price.
• STOP ORDER An order to sell (buy) when price
  falls (rises) below (above) a set price.

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(Order executed at or above this price)
(Order executed at or above this price)
Stop Buy
Limit Sell
BUY ORDER
SELL ORDER
Limit Buy
Stop Loss
(Order executed at or below this price)
(Order executed at or below this price)
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Order Processing

• BATCH TRADING Orders submitted over time are
  accumulated for the "batch" processing. Batch
  trading can occur at the opening of a market
  (NYSE) or at set times throughout the day
  (Paris).
• CONTINUOUS TRADING Trading is available during
  trading hours, the continuity depending on
  investor interest. (NYSE, NASDAQ)
• BOARD A computer screen or a central board
  visible to all traders displays the best bid and
  ask prices offered by exchange members. Brokers
  pick off the best offers for their customers.
  NASDAQ
• ORDER BOOK Customer orders to buy and sell a
  security are entered into a book or computer for
  possible (sometimes automatic) execution. NYSE,
  NASDAQ proposed
• WRITTEN/CRY Bidding for securities is via
  written orders or through an auction process.
  Many less developed markets.
• CROWD Trading is continuous within the crowd
  of investors. A double auction, usually with
  only a central marketplace that includes no
  designated market maker. CBOE, all futures
  markets.
• THE DOT SYSTEM An electronic system which
  place orders directly to the specialist computer.
  This enables program traders to buy or sell
  entire portfolios of stock simultaneously.

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Margin Calculation

• BUYING ON MARGIN When an investor buys a stock
  on margin, a portion of the transaction amount is
  borrowed from the broker. The owners equity as a
  percentage of the stock value is called the
  margin. As stock price changes, the investor has
  to maintain a certain level of margin, called
  maintenance margin, on the account. If the margin
  on the account falls below this level, the
  investor will receive a margin call and a certain
  amount of money needs to be deposited on the
  account. The following is how to calculate the
  account margin

Where, N number of shares bought P stock
price
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Margin Calculation

• SHORT SALES An investor who expects a stock
  price to decline in the future may decide to sell
  the stock which he or she does not own. At some
  point in time thereafter, the investor will need
  to close the short position and returns the stock
  borrowed. The proceed from short sale plus some
  initial margin amount is deposited in the
  investor account with the broker. A maintenance
  margin is then required on the account. If the
  margin on the account falls below this level, the
  investor will receive a margin call and a certain
  amount of money needs to be deposited on the
  account. The following is how to calculate the
  account margin

Where, N number of shares sold short P
stock price
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Some securities added to exchanges around the
world in the last few years

• AMERICAN DEPOSITORY RECEIPTS (U.S.)
• sponsored created out of agreement between a
  major bank and the issuing firm to allow
  "listing" on an American exchange
• unsponsored created by the bank for the same
  purpose without the issuing firm's approval
• 1500 in number, most by Citibank. 300-400
  actively traded. Most of large ones on NYSE, rest
  OTC
• trades in dollar units with foreign exchange risk
  included in the total return
• INTERNATIONAL LISTINGS (European Exchanges)

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• COUNTRY FUNDS
• issued by investment banking firm to raise
  capital to invest in securities of the indicated
  country, and who hope to earn fees on the
  management of the fund (1.3 to 2.5)
• 70 or so in total that trade in the US., some
  trade in other markets as well
• purpose often indicated as diversification within
  a country
• usually managed for security selectivity, but
  some try to duplicate the market in that country
• different from international mutual funds that
  are usually open-ended, usually span more than
  one country, and usually shift funds between
  countries to bet on the performance of local
  economies

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• UNIT TRUSTS
• non-operating entities whose purpose is to pass
  through cash flows from the operation of an
  existing asset oil fields, timber reserves,
  apartments, commercial real estate
• non-taxable (at the corporate level) pass
  through, restrictions on retention of earnings
• outside manager takes fees for costs of
  extraction or management of the asset
• severe limitations on "improving the asset" --
  most are self liquidating or self depleting
  assets.