Outline. Securities Markets. Markets. Money and Capital Markets. Markets Orders Positions Information

Transcription

1 Outline Securities Markets Economics 71a Spring 2007 Mayo, Chapter 3 Lecture notes 2.3 Markets Orders Positions Information Primary markets Markets New issues (IPO s, corporate and public debt) Secondary markets Trading old stuff In many cases most activity in secondary Money and Capital Markets Money markets Short term securities (1 year or less) Capital markets Longer term 1

2 Money Market Securities Treasury bills U.S. government debt Short term (less than 1 year) Commercial paper Short term corporate borrowing Discount pricing Buy for $10, get paid $11 in future No interest payments Capital Market Securities Bonds (longer term borrowing) U.S. Treasury Municipal (tax free) Corporate More later Capital Market Securities Stocks Common stock Preferred stock International More later Trading and Secondary Markets Stock markets Bond markets Derivatives Foreign Exchange 2

3 U.S. Stock Markets New York Stock Exchange (NYSE) National Association of Securities Dealers Automated Quotation (Nasdaq) American Stock Exchange (AMEX) Market types Continuous Trading Specialist Electronic dealer Open outcry Over the counter NASDAQ Upstairs (negotiated) ECN (electronic crossing network) ECN s: Electronic Crossing Networks Internet based trade networks Customers can meet directly (no broker) Used mostly by professional money managers Advantage: fewer intermediaries Disadvantage: less liquidity (Fewer people to trade with) Fastest growing markets Futures/Options Foreign Exchange Other Markets Spot versus forward Bond 3

4 International Markets Many major international stock markets London Tokyo China many more US accounts for only 36% of the companies listed on stock markets around the world International Investments Purchase stocks or bonds in foreign countries Purchase shares in foreign firms in U.S. (American Depository Receipts) ($/English) Bonds can be issued in different currencies Eurobond: Intel issues $ denominated bond in Japan Trading Hours Most U.S. stock markets 9:30-4:00 Extended hours on electronic trading networks After hours trading International markets (local times) Foreign exchange markets (24 hours) Hours increasing : toward a 24 hour market Markets Orders Positions Information Outline 4

5 Market order Limit order Types of Orders Market Order Buy or sell at the current market price No restrictions Buy 50 shares at market Limit Orders Buy when price drops below a limit Sell when price moves above a limit Example Limit buy at 50 (price at 60) Stock moves to 55 (nothing happens) Stock moves to 49 (order executed) Advantage Might end up with a better price Disadvantage Order might end up unfilled Brokers Enable trading of financial services Dealer function Access Mail Phone Internet 5

6 Types of Brokers Transaction Costs Full service Extensive research Merrill Lynch Premium discount Limited research Charles Schwab Basic discount No research E*trade Classification is difficult Commissions Bid/ask spreads Costs of Trading Commissions Fixed Negotiated Varying structures (fixed + varying) $20 + shares * C Bid/ask spread Buy at the ask Sell at the bid Bid/ask Spread Example: Ask = 88.5 (buy) Bid = 88 (sell) Spreads may change Over time Over stocks Reveal the ease of trading a stock Liquidity again 6

7 Order Books Order book List of current limit buy and sell orders If you want to buy Can hit limit sell orders Walk up the book Higher price for more stock If you want to sell Can hit limit buy orders Walk down the book ECN s and visible order books Settlement and Delivery Settlement dates Usually trade date + 3 days Take delivery or leave shares with broker (street name) Markets Orders Positions Information Outline Long Purchase Straight purchase of a security Speculate that price will increase Buy at 100 Sell at % return 7

8 Margin Purchase Buying on margin Borrow money to buy stock Buy at 75% margin 75% of money in investment is yours 25% is borrowed from broker or bank Purchase $100 of stock at 75% margin You put in $75, and you borrow $25 Basic Margin Formula Margin = Total value! Borrowed funds Total value Margins and Magnification Example stock: Price = $100 Up: Price = $150 Down: Price = $75 If you purchased with your own money $100 total investment Up: + $50 Down: - $25 Margins and Magnification Buy on 50% margin (zero interest charges) $100 own, and $100 borrowed (needs to be paid back) Purchase $200/$100 shares = 2 shares $100 total investment Up: 2* = $100 (50) Down: 2* = $-50 (-25) 8

9 Margin Buying Borrowing money to buy stocks Magnifies gains and losses Can lose more than you put in Buy $200 of stock $100 your own $100 borrowed Stock goes to zero Lose $100 of own investment, and Owe $100 of borrowed money too Maintenance Margins Margin required for investor to maintain If margin falls below this level investors must add more of their own money Margin call Common margin call Prices fall Margin rises Investor needs to come up with more funds Margin Requirements Common stock: 50% Bonds: 50% Options: 20% stock value Futures: 2-10% of the contract value Short Sales Holding negative stock Sell stock you don t have (borrow) Buy it back later Pay dividends yourself in between Key issue Make money on a price fall Lose money on a rise Betting against a stock 9

10 The Mechanics of a Short The Mechanics of a Short Tell broker you want to sell 100 shares of IBM short (price = $50) Broker borrows shares of 100 shares of IBM owned by another client Sells it to someone for 50*100=5000, and pays this to you You must keep this amount on account with broker When dividends are to be paid, you pay broker, and broker pays the other client IBM goes down to $40 per share You buy your 100 shares to take you back to zero, pay broker 40*100=4000. Broker buys at market, and puts the shares back in the other person s account You make = 1000 (less dividends) Make money when price falls Lose money when price rises The Mechanics of a Short Margins and Shorts IBM goes up to $60 per share You buy your 100 shares to take you back to zero, pay broker 60*100=6000. Broker buys at market, and puts the shares back in the other person s account You lose = (less dividends) Broker requires additional funds to cover possible losses Fraction of additional sale amount Example Sell $5000 worth of stock at 50% margin Need to keep 1.5*5000 = 7500 on account with the broker When the price goes up, need to increase this Margin call 10

11 Oddities About Shorts Short Interest Can lose unbounded amounts of money Normally only lose what you put in With short price can go up forever, and your losses keep increasing Also, broker can get in trouble if you default Other customer could lose original shares Often insured for this Fraction of shares sold short Measure of market pessimism in a stock Common market indicator Measures market pessimism Squeeze Play Assume Microsoft has a large number of short sellers Price starts to rise Short sellers losing money Get nervous Buy stock to close out their short positions Prices rise more, more buying.. (etc. etc) Markets Orders Positions Information Outline 11

12 Information Sources Private Quicken and Yahoo finance Wall St. Journal (fee) Value line and Standard and Poors (fee) Brokerage firms Corporations Government Federal Reserve SEC Information Sources Key publications Economic information Federal reserve bulletins (economic info) Firm/investment data Value Line Survey Standard and Poor s Handbook Security firm reports Firm annual reports The Internet and Investing Cheap and accessible information Investor tools Charts Screening Calculators Online trading Investment Information on the Web News articles NY times CBS Market watch CNN financial 12

13 More Investment Information Stock information Yahoo Google Quicken Historical information Yahoo Datastream (fee) Bloomberg (fee) Warnings on Internet Information Don t use information to trade to frequently Don t believe everything you see on the web More (biased) Information Firm annual reports and accounting info Analyst information Analysts recommend (buy, sell, hold) Problems: Firms often are biased in what they tell analysts Analysts are biased since stocks they analyze can be their own clients Internet Tools Education Calculators 13

14 Stock screening Quicken Yahoo Google Plotting/graphics bigcharts.com smartmoney.com Internet Tools Market Indices Summarize market movements Examples Dow Jones Industrial (30 stocks) NYSE Composite S&P 500 Composite (500 stocks) NASDAQ Composite Nikkei (Japan) Wilshire 5000 Sector indices Index Construction N Weighted sum P t,i =! w j P t,j j =1 N 1 =! w j j =1 Weighting options Equal w = (1/N) Relative value of the firm (S&P, NASDAQ) Value weighting Odd (Dow Jones) Index Uses Summary of the market Investor benchmark (performance check) Compare own result to index Investment target Index mutual fund 14

15 Index Problems Index is not constant Additions and removals Changing weights As stock increases in value, share in index increases Index can drift towards growing sectors in the market 15