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					     Equities I


 Begin with a Business
                       Section III - Equity Markets Chapter 6 – Primary Markets

Introduction to Stock Market Investment
 www.business.uiuc.edu/finance_dev/




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Begin With A Business
 Discovery Café
      Use the Surveying Building as a Cyber Café
             Dean’s permission
             I need $$
              or Partner with $$




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Partnership
 Two equal Partners
      Joe W. Partner ($10,000)
                                                                                          Par
      Elisabeth Entrepreneur ($10,000)                                                  Value

 Two equal shares




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Potential Buyer
Price?
      Par Value
      Book Value
       Assets – Liabilities = Shareholders Equity
      Earnings
      Earnings per Share (EPS)




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Price – Note 1
      I am using information from the past to make
       educated guesses about what will happen in
       the future. You can't just graph all the past
       data and draw a straight line though it. A lot
       will depend on how I evaluate the company's
       ability to grow and change over an uncertain
       future.




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Price – Note 2
      Price really is irrelevant unless someone
       wants to buy or sell.




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Share Prices
 Decreasing Prices
      Dean gets food poisoning
 Increasing Prices
      Dean schedules the Faculty meetings in the
       Discovery Café




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Expansion
 Opportunity to expand to three new sites
  on campus.
 We need $$$
  or another partner with $$$




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Private Equity
 Accredited Investors: investors
  sophisticated enough to analyze the risks
  of a new business and who control enough
  money to be able to take these risks.
 Angel: one venture capitalist as opposed
  to a group or consortium
             Finance 423:
              Financing Emerging Businesses




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Venture Capitalist
 Negotiates 40% partnership for the
  $50,000 we need to expand to three new
  sites.




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Pricing
 What is my share worth?
 What is the company worth?
  (Market Capitalization)




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Pricing

                                         $125,000




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Success at Last
 Opportunity to expand to other campuses
 We need $$$$$
  or more partners with $$$$$




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Public Equity Market
 Individual Investors: smaller investors who
  would normally not have the opportunity to
  invest in businesses
 IPO: Initial Public Offering




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Investment Banking
 Underwriter: financial advisers, lawyers,
  and marketers all rolled into one. The
  Underwriter takes us through the
  procedure of carving out a piece of the
  company to sell and making sure we do so
  legally and advantageously.




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Going Public
 We decide to issue 300,000 shares.
      The original investors retain 180,000 shares
       (60%).
      The other 120,000 shares will be offered to
       the public.




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

SEC
 Securities Exchange Commission
      to ensure that all investors have equal access
       to the information they need to make informed
       investment decisions,
     and
      to administer the federal securities laws and
       regulate firms that provide investor services




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

EDGAR
   Electronic
   Data
   Gathering
   And
   Retrieval                                      Annual and Quarterly Filings
                                                   made available to the investing
                                                   public.




 http://www.secFilings.com




Financial Markets … and the instruments that Trade in them                           2006
                       Section III - Equity Markets Chapter 6 – Primary Markets


                SEC
 Registration Statement
      Prospectus
      Red Herring




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

SEC
 Registration Statement
      Prospectus
      Red Herring
 Road Show
 Registration becomes “Effective”




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Setting the Price
 Too High (?%$^#*&)
      Investors may not buy all the shares we offer.
       Then the underwriter will be stuck with shares
       it can not sell,- or at least not at a profit.
 Too Low (?%$^#*&)
      We will not generate as much money as we
       might have done to finance our expansion.




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Setting the Price




 $50/share


Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

IPO: Hot
 By 9:30 all 120,000 shares are sold.
 Secondary market
 Prices rise.




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Hot IPO: Netscape (NSCP)

                                                              Netscape Communications
                                                               (NSCP) was the classic hot
                                                               issue. It went public August 9,
                                                               1995 at an offer price of $28.
                                                               On the same day it hit a high
                                                               of $74¾ and closed at $58¼.
                                                               Netscape hit an all time high of
                                                               $174 in December 1995 and
                                                               split 2:1 February 7, 1996.
                                                              A year later NSCP was trading
                                                               at $30
                                                              Merged with AOL in March
                                                               1999



Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Cold IPO:
                                                               Cyberian Outpost
                                                                (COOL) was the classic
                                                                cold issue. It went
                                                                public July 31, 1998 at
                                                                an offer price of $26. It
                                                                closed the same day at
                                                                $20 1/4. This
                                                                represents a drop of
                                                                20% in one day. In
                                                                September it hit a low
                                                                of $5 5/16 before
                                                                closing at $10 7/16 at
                                                                the end of the month.
                                                               Acquired by Fry’s
                                                                Electronics in
                                                                November 2001 for 25c
                                                                per share

Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Ice Cold IPO
 Underwriter cannot sell all the shares
  offered
 Underwriter can not sell enough shares to
  make the issue worth while and the
  offering may be pulled.




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Discovery Café
 Price hovers right around the offer price of
  $50




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Discovery Café
 How much of the company do I still own?




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Discovery Café

 What is my share worth?
 What is the Market Capitalization?
 How much money did we raise?




    40%                                                                              60%




Financial Markets … and the instruments that Trade in them                        2006
                       Section III - Equity Markets Chapter 6 – Primary Markets

Pricing

                                                     $15,000,000




Financial Markets … and the instruments that Trade in them                        2006
    Equities II


 Secondary Markets
                       Section III - Equity Markets Chapter 7 – Secondary Markets

Stock Exchanges
 Exists to bring buyer and seller together in
  a two sided auction.




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

Auction
                                                              Sellers ask
 Buyers bid                                                      60       @ $50.65
         .                                                       10       @ $50.60
         .                                                       95       @ $50.55
         .                                                       50       @ $50.50
              Bid Ask Spread =10¶
         .                                                       .
         10      @ $50.40                                        .
           1     @ $50.35                                        .
          10     @ $50.30                                        .
          90     @ $50.25                                         Tick =5¶
                                                                  .
         120     @ $50.20                                        .
Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

Discovery Café
 Over The Counter
 Nasdaq
 NYSE




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

OTC: Over The Counter
 Stocks not listed on an exchange trade
  over-the-counter.
 OTC stocks are generally smaller
  companies that trade infrequently




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets



 John Q. Investor goes to
 his broker to buy 1000
 shares of Discovery Café.




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

OTC: Pink Sheets




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

OTC
 The Pink Sheets brings buyers and sellers
  together by providing a contact of the
  dealers in the stock.




                http://www.pinksheets.com/




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

NASD
 National Association of Securities Dealers
      self regulating organization
      oversees the OTC market
      administers rules of fair practice and governs
       the rules of how securities are traded,
       delivered, and settled.




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

NASDAQ
 National Association of Securities Dealers
  Automated Quotation
 Began as a computerized network to link
  traders of OTC issues that traded more
  frequently.
 Filed for status as an exchange under the
  name Nasdaq




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

Nasdaq
 Has no trading floor
 network of computer and telephone lines
  that link the members of the NASD
 Works through a system of competing
  Market Makers




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

Brokers, Dealers, Market Makers


 Suppose that Bill Gates writes a
  book entitled "The Secrets of My
  Success - The Microsoft Story".
 Bill is a good friend* and I can get
  copies of this book autographed
  by the author.
             *Actually, Bill doesn’t know me from Eve


Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

Broker
 Agent
      When you want to buy a book I can buy it for
       you. I charge you what I paid for the book
       (plus commission).
      When you want to sell a book I can sell it for
       you. I give you what I get for the book (minus
       commission).




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

Dealer
 Manages an Inventory
      When you want to buy a book I sell it to you
       from my inventory of books. I charge you my
       quoted ask price plus a small markup for
       handling.
      When you want to sell a book I buy it from you
       for my inventory of books. I pay you my
       quoted bid price less a small markup for
       handling.




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

Market Maker
 Must always stand ready to buy/sell
      When you want to buy a book, whenever you
       want to buy a book, I must sell you one from
       my inventory of books.
      When you want to sell a book, whenever you
       want to sell a book, I must buy it from you.




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

Market Maker
 Bid $50                                                Ask $53

 If you want to sell a                                  If you want to buy a
  book, I will buy it from                                book, I will sell it to
  you for $50                                             you for $53




                                Books are piling up in my
                                office
Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

Market Maker
 Bid $40                                                Ask $42

 Discourage book                                        Encourage book
  sellers by lowering                                     buying by lowering
  the price to $40                                        the price at which I
                                                          sell to $42




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

Nasdaq: Example
 Discovery Café applies for listing in
  Nasdaq
 Assigned the ticker symbol CAFE (all
  NASDAQ stocks have 4 character
  symbols)




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets




  John Q. Investor goes to
  his broker to buy 1000
  shares of Discovery Café.




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

Nasdaq: Example




                                Highest price at which we
                                         can sell


                                              Lowest price at which we can
                                                          buy


Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

Nasdaq
 Nasdaq does not bring buyers and sellers
  together; it uses a system of wholesellers
  to ensure that you can always buy and sell




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

New York Stock Exchange




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

NYSE
 Has a trading floor
 Uses a specialist system
      Specialist: one and only market maker for a
       particular stock.
      The specialist is situated at one of the
       seventeen specialist posts on the floor of the
       exchange. There are 482 Specialists
       employed by 21 firms.




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

NYSE: Example
 Discovery Café decides to list its shares
  on the NYSE
 Our ticker symbol must change
      DVC




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets



      John Q. Investor goes to
      his broker to buy 1000
      shares of Discovery Café.




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

NYSE: Example


   Specialist Bid $50                                        Specialist Ask $52

         Broker Joe can sell              John’s broker can buy
          directly to the                    directly from the
          specialist at $50                  specialist at $52
                  John’s broker and Broker Joe can trade
                  with each other at $51

           Broker Joe gets $1                                    John pays $1 per
            per share more                                         share less

Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

NYSE:
 The specialist system brings buyers and
  sellers together by bringing everyone to
  the same place on the floor of the
  exchange
 If there is an insufficiency of buyers then
  there is a market maker at hand
 Specialist keeps the limit order book




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

Orders
 A trade order is an instruction conveyed to
  a broker who then executes or fills the
  order.
 A broker needs clear instructions on how
  and when to trade




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

Orders: Market


 Buy 100 DVC
              Buy 100 DVC at the lowest market price
 Sell 100 DVC
              Sell 100 DVC at the highest market price




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

Orders: Limit


 Buy 100 DVC limit $52
              Buy 100 DVC at the lowest market price but do not
               pay more than $52
 Sell 100 DVC limit $48
              Sell 100 DVC at the highest market price but do not
               take less than $48




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

Orders: Stop


 A stop order becomes a market order as
  soon as the market price of a board lot
  reaches a specified level.




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

Orders: Stop
 Sell 100 DVC stop $40
             I bought Discovery Café and now the price is going
              down. If it decreases to $40 sell me out before I
              lose even more money.
 Buy 100 DVC stop $60
             I short sold Discovery Cafe and now the price is
              going up. If it increases to $60, cover my short
              position before I lose even more money.




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

Orders: Stop Limit


 A stop order becomes a limit order as
  soon as the market price of a board lot
  reaches a specified level.




Financial Markets … and the instruments that Trade in them                          2006
                       Section III - Equity Markets Chapter 7 – Secondary Markets

Orders: Stop
 Sell 100 DVC stop $40 limit $35
             I bought Discovery Café and now the price is going
              down. If it decreases to $40 sell me out but don’t
              take less than $35.
 Buy 100 DVC stop $60 limit $65
             I short sold Discovery Cafe and now the price is
              going up. If it increases to $60, cover my short
              position but don’t pay more than $65




Financial Markets … and the instruments that Trade in them                          2006
Equity Markets

				
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