Chief Function: Allocate Resources Optimally

Securities Market

Financial Markets:

Chief function: allocate resources optimally
Allocationally efficient
Channeling of funds to those who can make the best use of them
Operationally efficient
Lowest possible prices for transactions services

Primary market

Borrower issues new securities in exchange for cash
Seasoned new issues
sale of new common stock of a publicly traded co. that has outstanding shares
Initial Public Offering (IPOs)
issuer is selling securities for the first time publicly
Once the original purchaser sells the security they trade in the secondary market

Most new issues trade in the OTC

●Hot Issue---issue that opens for trading in the secondary market at a premium to the public offering price

Free Riding and Withholding Policy:
Certain individuals cannot purchase HOT issues at the Public Offering Price
Prohibited Individuals:

member firms for their own account
officers, directors, agents or employees of member firms
the immediate family of those listed above
any person who acted in a fiduciary capacity in the underwriting capacity
officers of banks, insurance cos., & other institutions & employees in a position to influence buying & selling of securities

Green Shoe Clause
Underwriters may request up to 10% additional shares to cover overselling

Sticky Issues---new shares open in the secondary market at or just below the Public Offering Price

Stabilizing bids entered by the syndicate manager at or just below the POP
Syndicate manager prohibited from entering a bid above the POP
Syndicate penalty bid clause

Investment Banker

Specialize in the design and sale of securities in the primary market while operating simultaneously in the secondary market
Helps in organizing mergers and acquisitions
Provides important advice to their clients during the planning stage proceeding the issuance of new securities
Advice is offered in 1 of 2 arrangements with the issuing company:

Negotiated bids--most corporate stock and bonds
Competitive bids--most public utilities

Advice includes:

Type of security

Features
Price
Timing
Designing prospectus
Underwrite
Income --spread
Reduce risk by forming syndicate
Syndicate

Managing underwriter
Decisions
Perform/ensures due diligence
Paid a management fee

Types

Western

Liability limited to agreed upon specified participation
Eastern
Liability rests on all issues not sold--even if you sold your total % assigned to you
Selling groups--help to sell the issue

Act as agent
No financial responsibility
Receive a selling commission
Selling group agreement
Fees

Manager fee
Underwriter concession
Selling concession
Reallowance
Small discount given to firms that are not in the syndicate nor the selling group that want to buy the security
SEC Rule 415 (shelf-rule)

Private Placement

New issues sold directly to purchaser
Advantage
Issuing firm does not have to register the issue with SEC
Investment fees are saved
Disadvantage
Higher interest cost
Lack of marketability
Possible restrictive provisions

Secondary Market

Types:
Auction market-bidding in a specific physical location
Negotiated—decentralized dealer network
Classifications:
First Market
Second Market
Third Market
Fourth Market

First Market

Auction market--bidding process in a specific location
Investors represented by brokers
NYSE
Founded in 1792
Largest secondary market
Oldest and most prominent secondary market
Not-for -profit organization
1366 seats plus individuals
Specialists
Own 33% of all seats
Assigned a trading post
Handle one or more stocks
Listing requirements
Reports on Program trading
American Stock Exchange
Specialist-based system
Smaller and fewer companies are listed here than on NYSE
Large business in options and derivatives
Lower spreads than on NASDAQ
Lower velocity than on NASDAQ
Regional Exchanges
Listing requirements much more lenient than either NYSE or AMEX
Limited geographical interest
Dual listing

Second Market

Negotiated Market

Dealers who stand ready to buy or sell securities at a specified price
Handles both unlisted and listed securities

OTC Market
Network of dealers who make a market by standing ready to buy and sell securities at a specified price
Handles securities not listed on a stock exchange
Pink Sheets

NASDAQ
Communications network for trading stocks
Wholly owned subsidiary of the NASD
Doesn't have a specific location
Electronic trading system
Orders executed either by
if broker's firm makes a market in the security, the order will be executed internally at a price equal to or better than the best price quoted by all competing market makers
if broker's firm is not a market maker in this security, the firm will buy from or sell to a market maker at another firm

Third Market

All off-exchange transactions in securities listed on the organized exchanges take place here
Firms that are only NASD members and not members of the NYSE can trade exchange listed stocks "off the floor"
Open 24 hours

Fourth Market

Transactions made directly between large institutions or wealthy individuals bypassing brokers and dealers
Communications network among investors
Privately owned Electronic Communications Networks (ECN)
Computerized trading network that matches buy and sell orders electronically entered by their customers
If no match post its best bid and ask price on Nasdaq under its name
Trading limited to members only

Instinet
Service for brokers, dealers, exchange specialists, fund managers, and plan sponsors
Allows large traders to bypass brokers

Island
Posit

In-House trading

Stock Market Indicators

Market Average
Index

DJIA

Arithmetic average
Composed of blue-chip stocks
Large, well-established, and well-known companies
Price-weighted series
Bias against growth stocks
Only have 30 stocks
Criticism:
Only 30 stocks
Price weighted (per share)
Equal weight to equal dollar changes
High-priced stocks carry more weight than low-priced stock
1% change in a $200 stock vs a 1% change in a $20 stock
High price stock splits loses importance
Bias against growth stocks
Divisor not adjusted for stock dividends of less than 10%

S& P Stock Price Index

Five market index
Market-value index (total market value of members)
Consist primarily of NYSE stocks
Dominated by the largest corporations

NASDAQ Index

Eight indexes

Value-Line

Composite Index
Equally weighted geometric average of stock prices
Composed of 1700 companies
Good estimate of the median price change of stocks covered
Arithmetic Index
Change in index = sum of price change of all stocks in the index divided by the number of stocks
Good estimate of the price performance of an equal dollar portfolio of stock

Wilshire Index

Broadest of all indicators
Composed of 7000 stocks
Representing the dollar market value of all NYSE & AMEX stocks

Foreign Market Index:

EAFE Index
NIKKEI 225 Avrg
Fin. Times Actuaries Share Index
Dow Jones World Stock

Bond Market

Traded on NYSE
Few hundred issues listed
Automated Bond System
85% of NYSE volume is in nonconvertible debt
Secondary market is primarily OTC

Treasury Bonds

Fed will sell to investors for Treasury
Large bank acts as dealers
Smaller banks & brokers will transact in theses for you

Agency Bonds

Basically the same as Treasuries

Municipal Bonds

Thin market
Most bonds held to maturity

Corporate Bonds

Typically trade is less than 15 bonds on NYSE
Most trade off the exchanges
Mostly institutions
Round lots of at least 250 bonds

Option Market

Exchange using a system of market makers
Bid/ask prices quoted by market makers
Floor brokers

Futures

Exchanges with "pits"
Open-outcry

Changes in Securities Market Caused by:

Dominance of Institutional investor
Trade in large blocks
Passage of Securities Act Amendment 1975
Called for a national market system
Central order routing system
Intermarket Trading System

11/5/18