Power Point to accompany Stock Market Market Indices

Power. Point to accompany Stock Market & Market Indices

Types of Markets § Stock Exchanges Trading of stocks listed in an exchange § OTC Trading ‘over the counter’ or outside a stock exchange, in dealer networks § ECNs Electronic Communication Network is an electronic system that allows order execution between exchanges and dealer networks Copyright © 2011 Pearson Australia (a division of Pearson Australia Group Ltd) – 9781442502000 / Berk/De. Marzo/Harford / Fundamentals of Corporate Finance / 1 st edition

Trading Mechanics § Types of orders § Short selling § Buying on the margin Copyright © 2011 Pearson Australia (a division of Pearson Australia Group Ltd) – 9781442502000 / Berk/De. Marzo/Harford / Fundamentals of Corporate Finance / 1 st edition

Types of orders § Instructions from investors to brokers § Market order § buy/sell order to be executed at best price -- get lowest price for buy order -- get highest price for sell order § market orders given priority in trading § no guarantee of execution price Copyright © 2011 Pearson Australia (a division of Pearson Australia Group Ltd) – 9781442502000 / Berk/De. Marzo/Harford / Fundamentals of Corporate Finance / 1 st edition

Types of orders § Limit order § buy/sell order where investor specifies price range § “buy at $50 or less” § “sell at $52 or more” § investor sets reservation price but no guarantee that limit order will be executed Copyright © 2011 Pearson Australia (a division of Pearson Australia Group Ltd) – 9781442502000 / Berk/De. Marzo/Harford / Fundamentals of Corporate Finance / 1 st edition

Types of orders § Stop order § order lies dormant § turns into market order when certain price (“the stop”) is reached § § “buy if price rises to $60” § “sell if price falls to $58” investor does not have to watch market but in a volatile market stop could be triggered prematurely Copyright © 2011 Pearson Australia (a division of Pearson Australia Group Ltd) – 9781442502000 / Berk/De. Marzo/Harford / Fundamentals of Corporate Finance / 1 st edition

Types of orders § Stop limit order § Turns into limit order when stop is reached § “buy if price rises to $60, but only is executed at $65 or less” § “sell if price falls to $58, but only is executed at $55 or more” Copyright © 2011 Pearson Australia (a division of Pearson Australia Group Ltd) – 9781442502000 / Berk/De. Marzo/Harford / Fundamentals of Corporate Finance / 1 st edition

How long is an order good? § IOC (Immediate or Kill) § FOK (Fill or Kill) § Day (Only on current day) § GTD (Good till Date) § GTT (Good till Time) § GTC (Good till Cancelled) § OPG (participate in Opening Auction only) Copyright © 2011 Pearson Australia (a division of Pearson Australia Group Ltd) – 9781442502000 / Berk/De. Marzo/Harford / Fundamentals of Corporate Finance / 1 st edition

Order Size § Round lots § § § lots of 100 shares Odd lots § less than 100 shares § more difficult to trade Block trades § 10, 000 shares or $200, 000 value Copyright © 2011 Pearson Australia (a division of Pearson Australia Group Ltd) – 9781442502000 / Berk/De. Marzo/Harford / Fundamentals of Corporate Finance / 1 st edition

Short Selling § Sale of borrowed stock § Profit from belief that stock price is too high and will fall soon § § borrow stock through broker § sell stock § buy and return later Short selling could further destabilize falling prices Copyright © 2011 Pearson Australia (a division of Pearson Australia Group Ltd) – 9781442502000 / Berk/De. Marzo/Harford / Fundamentals of Corporate Finance / 1 st edition

Short Selling § Short sales allowed if § uptick or zero uptick in price for previous trades: § $20, $21 (uptick) § $20, $21 (zero uptick) § $21, $20 (downtick) Copyright © 2011 Pearson Australia (a division of Pearson Australia Group Ltd) – 9781442502000 / Berk/De. Marzo/Harford / Fundamentals of Corporate Finance / 1 st edition

Buying on the margin § Buyer borrows part of purchase price of stock, using stock as collateral § § borrow at call money rate/PLR SEC sets initial margin requirement § Currently 50% of stock holding Copyright © 2011 Pearson Australia (a division of Pearson Australia Group Ltd) – 9781442502000 / Berk/De. Marzo/Harford / Fundamentals of Corporate Finance / 1 st edition

Buying on the margin § If stock price falls § collateral worth less § if collateral worth only 125% of loan (maintenance margin) -- margin call -- owner must put up more cash or sell stock § margin calls can worsen stock crash Copyright © 2011 Pearson Australia (a division of Pearson Australia Group Ltd) – 9781442502000 / Berk/De. Marzo/Harford / Fundamentals of Corporate Finance / 1 st edition

Buying on the margin Problem: § 1000 shares, $20 per share out of which 50% is bought on margin § Leverage § § gains/losses on $20, 000 capital § but tied up only $10, 000 capital If prices falls to $12 the value of stock is $12, 000. This is below 125% of $10, 000 loan. Therefore we will get a margin call Copyright © 2011 Pearson Australia (a division of Pearson Australia Group Ltd) – 9781442502000 / Berk/De. Marzo/Harford / Fundamentals of Corporate Finance / 1 st edition

Stock market indicators § Measure average performance of a group of stocks § The group of stocks can include the entire market or an entire sector or a selection of stocks based on some criteria Copyright © 2011 Pearson Australia (a division of Pearson Australia Group Ltd) – 9781442502000 / Berk/De. Marzo/Harford / Fundamentals of Corporate Finance / 1 st edition

Stock Exchange index Includes all stocks listed on exchange § NYSE Composite All stocks listed in the New York Stock Exchange § Nasdaq Composite All stocks listed in the Nasdaq Stock Exchange § ASPI All stocks listed in the Colombo Stock Exchange Copyright © 2011 Pearson Australia (a division of Pearson Australia Group Ltd) – 9781442502000 / Berk/De. Marzo/Harford / Fundamentals of Corporate Finance / 1 st edition

Subjectively selected index Organization picks group of stocks according to various criteria § Dow Jones Industrial average 30 largest industrial stocks in U. S. that are generally the leaders in their industry. § S&P 500 largest stocks based on market capitalization in the U. S. stock market § S&P SL 20 20 largest stocks based on market capitalization in the Colombo Stock Exchange Copyright © 2011 Pearson Australia (a division of Pearson Australia Group Ltd) – 9781442502000 / Berk/De. Marzo/Harford / Fundamentals of Corporate Finance / 1 st edition