BUS 171A Test #3
A secondary market
is one where existing or outstanding assets are traded among investors.
sealed bid/ask auction
auction where the bid price/ask price and the quantities a participant is willing to transact are submitted
operationally (or internally) efficient market
market where investors can obtain transaction services as cheaply as possible, given the costs associated with furnishing those services; this is distinct from a
standby fee
fee the issuing corporation pays to the investment banking firm
completely segmented market
market where investors in one country are not permitted to invest in the securities issued by an entity in another country
OTC market
market where non-exchange-traded products are traded
continuous order-drive market
market where prices are determined continuously throughout the trading day as buyers and sellers submit orders, so prices may vary with the pattern of orders reaching the market and not because of any change in the basic situation of supply and demand
primary market
financial markets dealing with financial claims that are newly issued
secondary market
financial markets for exchanging financial claims previously issued, also called the market for seasoned securities
perfect market
for a financial asset: the ideal characteristics of secondary markets
order-driven market (or auction market)
market where all of the participants in the trade are natural buyers and natural sellers, thus no dealer is acting as an intermediary
completely integrated market
market with no restrictions preventing investors from investing in securities issued in any capital market throughout the world
Secondary markets
may be continuous or call markets or a combination of the two
information-motivated trades
occur when investors believe they possess pertinent information not currently reflected in the security's price
base rate
one factor of the cost of debt; the interest rate on a U.S. Treasure security with the same maturity or some other low-risk security
natural buyers
potential party to trade; take position for their own portfolio
natural sellers
potential party to trade; take position for their own portfolio
selling short
practice of selling securities that are not owned at the time of sale
In a call market
prices are determined by executions of batched or grouped orders to buy and sell at a specific time (or times) in the trading day
auctioneer
provides order and fairness in the operations market; in some market structures, the dealer acts as the auctioneer
The secondary market
provides the issuer with regular information about the value of its outstanding stocks or bonds, and it encourages investors to buy securities from issuers, because it offers them an ongoing opportunity for liquidating their investments in securities.
pricing efficiency
refers to a market where prices at all times fully reflect all available information that is relevant to the valuation of securities
Privatization
the process of offering securities of government-owned companies to private investors
subscription price:
the price at which new shares can be purchased
long position
carrying inventory of a security
Opportunity costs
arise when a desired trade fails to be executed
broker
third party in a trade that acts on behalf of a buyer or seller who wishes to execute an order
mildly segmented market (or mildly integrated market)
): real-world capital markets tend to be a mix of segmented and integrated markets, which implies that world capital markets offer opportunities to raise funds at a lower cost outside the local capital market
spread:
:second factor of the cost of debt; reflects the greater risks that investors perceive as being associated with the issue or issuer
in a theoretical sense, only if it meets many conditions regarding number of participants, flow of information, freedom from regulation, and freedom from costs that hinder trading.
A market can be perfect
reasonably priced services related to buying and selling.
A market is operationally efficient if it offers investors
prices fully reflect all available information that is relevant to the valuation of securities
A market is price efficient if at all times
selling that security short.
An investor who expects that the price of a security to decline can benefit by
collecting and transmitting orders to the market, bringing willing buyers and sellers together, negotiating prices, and executing orders; the fee for these services is the broker's commission
Brokers assist investors by
selling assets at higher prices than the prices at which they purchased them.
Dealers buy for their own account and maintain inventories of assets, and their profits come from
the execution price of a security and the price that would have existed in the absence of the trade; these costs arise out of the demand for immediate execution through both the demand for liquidity and the trading activity on the trade date.
Execution costs represent the difference between
A private placement is different from the public offering of securities in terms of the regulatory requirements that must be satisfied by the issuer
Certain provisions in federal securities law allow issuers to be exempt from registering a new issue with the SEC.
1) they provide the opportunity for investors to trade immediately rather than waiting for the arrival of sufficient orders on the other side of the trade (immediacy), and they do this while maintaining short-run price stability (continuity); (2) they offer price information to market participants; and (3) in certain market structures, dealers serve as auctioneers by bringing order and fairness to a market.
Dealers perform three functions in markets
full and fair disclosure of the character of securities sold in interstate and foreign commerce and through the mails.
Disclosure information is accomplished by the issuance of a prospectus that provides
to comply with that country's securities laws.
Entities seeking to raise funds in every developed country are required
active strategies pursued will not consistently produce superior returns after adjusting for risk and transactions costs
In a price-efficient market
(1) how a "security" is defined, (2) disclosure requirements when securities are issued, and (3) the solicitation of funds.
In all countries, securities laws dealing with the primary market cover three critical issues
¡the Securities Act of 1933 (Securities Act) and the Securities Exchange Act of 1934 (Exchange Act).
In the United States, there are two principal pieces of federal legislation regarding securities:
exchange markets and over-the-counter (OTC) markets
Markets are classified as
which include commissions, fees, and execution costs.
Some key frictions are transactions costs
on the relevant information set: weak form, semi-strong form, and strong form.
Three forms of pricing efficiency are based
1) the disclosure of information about the securities that an entity is planning to issue and (2) the prevention of the sale of securities as a result of deceit, misrepresentation, and other fraud.
There are typically two basic objectives of the securities laws in countries
¡10 report; 10-Q report; 8-K report; proxy statement; Forms 3, 4, and 5; and Schedule 13D and Schedule 13G reports.
Unless an exemption is allowed, an issuer of a new security must file certain documents with regulators. In the United States, the following documents must be filed with the SEC
¡the bought deal for the underwriting of bonds and seasoned equity offerings, the auction process, and preemptive rights offering for underwriting common stock.
Variations in the underwriting process include
principal
a dealer commits its own capital to accommodate a trade sought by other parties, and thus acts as a principal in a trade
coupon formula
a formula according to which a coupon rate for a floating-rate security resets periodically, and which consists of a reference rate and a quoted margin
coupon security
a government-issued security that is issued with a stated rate of interest, makes interest payments periodically, and has a terminal payment equal to its principal value
discount security
a government-issued security that pays a single cash flow at the end of its life
pre-emptive rights offering
allows a corporation to issue new common stock directly to existing shareholders and allows them the right to buy some proportion of the new shares at a price below market value
dealer
an entity that acts as an intermediary in a trade by buying and selling for its own account
individual accredited investor
an individual who meets certain annual income and/or net worth thresholds
periodic call auction
another type of order-drive market where orders are batched or grouped together for simultaneous execution at preannounced times
marketing timing cost
arises when an adverse price movement of the security during the time of the transaction can be attributed in part to other activity in the security and is not the result of a particular transaction
price scan auction:
auction where an auctioneer announces tentative prices and the participants physically present respond indicating how much they would be willing to buy and sell at each tentative price
Investors get services from the secondary market
because the market supplies them with liquidity and prices for the assets they are holding or want to buy, and the market brings interested investors together, thereby reducing the costs of searching for other parties and of making trades.
Even the most developed and smoothly functioning secondary market falls short of
being perfect in the economically theoretical meaning of the term
Electronic trading (or etrading)
brings buyers and sellers together electronically, replacing personal and telephone contact in most markets
In general, secondary market structures
can be classified as order driven or quote driven, with real-world financial markets using a combination of these market structures.
Order-driven markets
can be further classified as continuous order-driven and periodic call auction markets
dealer's position
can involve either a long position or a short position
opportunity cost
cost of not transacting; may arise when a desired trade fails to be executed and represents the difference in performance between an investor's desired investment and the same investor's actual investment after adjusting for execution costs, commissions, and fees
specialists
dealers of the organized markets; their privileged positions allows them to get special information about the flow of market orders
Quote-driven markets
do not require a dealer, and the prices are determined by the interaction of natural buyers and natural sellers rather than being set by a dealer.
standby underwriting arrangement:
ed in instances where the issuing corporation uses the services of an investment banker for the distribution of common stock that is not subscribed to; such an arrangement calls for the underwriter to buy the unsubscribed shares
strong efficiency
exists in a market where the price of a security reflects all information, regardless of whether it is publicly available
institutional accredited investor
includes such entities as banks, insurance companies, mutual funds, and venture capital funds
Because of imperfections in actual markets
investors need the services of two types of market participants: dealers and brokers.
The primary market
involves the distribution to investors of newly issued securities and seasoned offerings.
A mechanism to allow investors to sell short
is critical in financial markets, because in the absence of such a mechanism, security prices will tend to be biased toward the view of more optimistic investors.
The Securities and Exchange Commission (SEC)
is the U.S. federal agency responsible for administrating federal securities laws as set forth in the Securities Act and the Exchange Act.
quote-driven market (or dealer market or dealership market)
market determined by the dealer and is based on prevailing market information, where the dealer stands ready to buy and sell a financial asset at the prices it quotes
bought deal
refers to the offering of a security (stock or bond) whereby an underwriter agrees to purchase all of the security from the issuer at a fixed price without premarketing the deal before purchasing from the issuer
execution costs:
represent the difference between the execution price of a security and the price that would have existed in the absence of the trade; further decomposed into market (or price) impact and market timing costs
informationless trades
result from either a reallocation of wealth or the implementation of an investing strategy that depends only on existing public information
Rule 415 (or the shelf registration rule)
rule approved by the SEC that permits certain issuers to file a single registration document indicating that it intends to sell a certain amount of a certain class of securities at one or more times in the next two years
exchanges
secondary markets that legally established national securities exchanges
inflation-adjusted securities
securities that adjust the payments to investors for some measure of the country's rate of inflation
floating-rate securities
securities whose interest payments change periodically according to a predetermined coupon formula
short position
selling a security that is not an in inventory
A secondary market
serves several needs of the firm or governmental unit that issues securities in the primary market.
limit orders
special orders that can be executed only if the market price of the asset changes in a specified way
market maker
special type of dealer that has a special obligation to use its capital to make an orderly market for designated financial assets in the secondary market
indexing
strategy that seeks to match the performance of some financial index
Actual markets
tend to have numerous frictions that affect prices and investors' behavior.
sovereign debt
the debt issued by the highest level of government in a particular country
bid-ask spread
the difference between the price at which a dealer is willing to offer a financial asset to investors (the ask price) and the price at which a dealer is willing to buy a financial asset from investors (the bid price)
market impact cost (or simply impact cost
the result of the bid-ask spread and a price concession extracted by dealers to mitigate their risk that an investor's demand for liquidity is information motivated
In the United States, SEC Rule 415
the shelf registration rule, permits certain issuers to file a single registration document indicating that it intends to sell a certain amount of a certain class of securities at one or more times in the next two years
In a continuous market
trading and price determination go on throughout the day as orders to buy and sell reach the market
Dutch auction
type of auction where a single price will be paid by all bidders
frictions
various costs and impediments that occur in a market; perfect markets are free of them
prospectus
what is issued for disclosure of information about the securities an entity is planning to issue, which provides "full and fair disclosure of the character of securities sold in interstate and foreign commerce and through the mails"
immediacy
when buyers and sellers do not want to wait for the arrival of sufficient orders on the other side of the trade, which would bring the price closer to the level of recent transactions
semi-strong efficiency
when the price of the security fully reflects all public information, which includes but is not limited to historical price and trading patterns
weak efficiency
when the price of the security reflects the past price and trading history of the security