Chap 3

Direct Search Markets

-is the least organized market. -Buyers and sellers must seek each other out directly. -An example of a transaction in such a market is the sale of a used refrigerator where the seller advertises for buyers in a local newspaper or on Craigslist. -Such markets are characterized by sporadic participation and low-priced and nonstandard goods. -Firms would find it difficult to profit by specializing in such an environment.

types of orders

-market orders and orders contingent on price.

privave firms

-owned by a relatively small number of shareholders -have fewer obligations to release financial statements and other information to the public -> save money and free from disclosing information, free of shareholders pressure -may have only up to 499 shareholders. -> limits ability to raise large amount of funds from wide base of investors. -When private firms wish to raise funds, they sell shares directly to a small number of institutional or wealthy investors in a private placement. -shares in privately held firms do not trade in secondary markets such as a stock exchange -> reduces liquidity -> reduce price per shares.

trading systems

-there are three trading systems employed in the United States: over- the-counter dealer markets, electronic communication networks, and specialist markets.

public firms

-trade on NYSE or NASDAQ stock market -The first issue of shares to the general public is called the firm's initial public offering, or IPO. -A seasoned equity offering is the sale of additional shares -Public offerings of both stocks and bonds typically are marketed by investment bankers who in this role are called underwriters. More than one investment banker usually markets the securities. A lead firm forms an underwriting syndicate of other investment bankers to share the responsibility for the stock issue. -prospectus is the final form and accepted of a preliminary registration statement that the firm has to file to describe the issue and the prospects of the company to the SEC. At this point the share price is announced -the investment bankers purchase the securities from the issuing company and then resell them to the public. -The firm sell securities to investment bankers with a price smaller than the public price. This spread serves as compensation to the underwriters. This procedure is called a firm commitment

Shelf Registration

-introduced in 1982 when the SEC approved Rule 415, which allows firms to register securities and gradually sell them to the public for 2 years following the initial registration. -Because the securities are already registered, they can be sold on short notice, with little additional paperwork. Moreover, they can be sold in small amounts without incurring substantial flotation costs.

over-the-counter or OTC market.

-As originally organized, NASDAQ was more of a price-quotation system than a trading system.

dealer markets

-Dealers specialize in various assets, purchase these assets for their own accounts, and later sell them for a profit from their inventory -The spreads between dealers' buy (or "bid") prices and sell (or "ask") prices are a source of profit. -Most bonds trade in over-the-counter dealer markets.

brokered markets

-In markets where trading in a good is active, brokers find it profitable to offer search services to buyers and sellers. -A good example is the real estate market, where economies of scale in searches for available homes and for prospective buyers make it worthwhile for participants to pay brokers to help them conduct the searches -primary market is an example of a brokered market

Specialist markets

-In these systems, exchanges such as the NYSE assign responsibility for managing the trading in each security to a specialist. -Brokers wishing to buy or sell shares for their clients direct the trade to the specialist's post on the floor of the exchange. -While each security is assigned to only one specialist, each specialist firm makes a market in many securities.

price-contingent orders

-Investors also may place orders specifying prices at which they are willing to buy or sell a security. -A limit buy order may instruct the broker to buy some number of shares if and when FedEx may be obtained at or below a stipulated price. -A limit sell instructs the broker to sell if and when the stock price rises above a specified limit -A collection of limit orders waiting to be executed is called a limit order book.

market orders

-Market orders are buy or sell orders that are to be executed immediately at current market prices.

Short sales

-Normally, an investor would first buy a stock and later sell it. With a short sale, the order is reversed. First, you sell and then you buy the shares. In both cases, you begin and end with no shares -A short sale allows investors to profit from a decline in a security's price -Short-sellers must not only replace the shares but also pay the lender of the security any dividends paid during the short sale. - exchange rules require that proceeds from a short sale must be kept on account with the broker. The short-seller cannot invest these funds to generate income -Short-sellers also are required to post margin (cash or collateral) with the broker to cover losses should the stock price rise during the short sale. -Like investors who purchase stock on margin, a short-seller must be concerned about margin calls. If the stock price rises, the margin in the account will fall; if margin falls to the maintenance level, the short-seller will receive a margin call.

IPO

-Once the SEC has commented on the registration statement and a preliminary prospectus has been distributed to interested investors, the investment bankers organize road shows in which they travel around the country to publicize the imminent offering. -These road shows serve two purposes. First, they generate interest among potential investors and provide information about the offering. Second, they provide information to the issuing firm and its underwriters about the price at which they will be able to market the securities. -IPOs commonly are underpriced compared to the price at which they could be marketed.

buying on margins

-Purchasing stocks on margin means the investor borrows part of the purchase price of the stock from a broker. -The margin in the account is the portion of the purchase price contributed by the investor ; the remainder is borrowed from the broker. -The brokers in turn borrow money from banks at the call money rate to finance these purchases; they then charge their clients that rate, plus a service charge for the loan. -The current initial margin requirement is 50%, meaning that at least 50% of the purchase price must be paid for in cash, with the rest borrowed.

Stop orders

-Stop orders are similar to limit orders in that the trade is not to be executed unless the stock hits a price limit. -For stop-loss orders, the stock is to be sold if its price falls below a stipulated level. -stop-buy orders specify that a stock should be bought when its price rises above a limit. -These trades often accompany short sales

Auction markets

-The most integrated market is an auction market, in which all traders converge at one place (either physically or "electronically") to buy or sell an asset. -The New York Stock Exchange (NYSE) is an example of an auction market -An advantage of auction markets over dealer markets is that one need not search across dealers to find the best price for a good. If all participants converge, they can arrive at mutually agreeable prices and save the bid-ask spread. -both over-the-counter dealer markets and stock exchanges are secondary markets.

Electronic Communication Networks (ECNs)

-allow participants to post market and limit orders over computer networks. -ECNs are true trading systems, not merely price-quotation systems. -ECNs offer several attractions: +Direct crossing of trades without using a broker-dealer system eliminates the bid-ask spread that otherwise would be incurred + the speed with which a trade can be executed + these systems offer investors considerable anonymity in their trades.

primary market

Place of newly issued securities

secondary market

place of trading existing securities

Liquidity

refers to the ability to buy or sell an asset at a fair price on short notice.