SIE Chapter 1

ADRs

ADRs represent ownership in the shares of non-US companies that trade in US financial markets. ADRs are made available to US markets by major commercial banks that provide depositary services. These banks purchase a bulk lot of shares from foreign companies, bundle the shares into groups, and re-issue them on either a US exchange or over-the-counter. These shares are denominated in US dollars and dividends are paid to the domestic investors in US dollars. It is possible for an ADR holder to receive a lower dividend than was actually declared by the foreign company because the foreign government might have withheld a percentage of the dividend for taxes.

Risk of ADRs

American depositary receipts (ADRs) help to facilitate the trading of a foreign corporation's stock in the US. Investors in ADRs face political risk, which is the risk that political instability and uncertainty in that foreign country might negatively impact their investment. Importantly, because ADRs are common stock and not debt securities, they do not have call risk or interest rate risk.

callable preferred stock

Callable preferred stock can be repurchased by the issuing company at its discretion. If the shares are called, the investor is required to sell them back to the issuer. The company may choose to do this when it can acquire investment capital at a lower rate.

Cash settlement

Cash settlement entails same-day payment, same-day settlement. If an investor buys stock Securities in a cash-settled transaction on the record date, because the trade settles that same day, the investor will receive the dividend. On the other hand, if an investor buys in a cash-settled transaction on the business day after the record date, the trade will still settle that same day, which is now after the record date, and too late to receive the dividend. Therefore, the ex-dividend date for cash settlement is the business day after the record date.

Common vs. preferred stock

Common stock—Equity security that represents ownership, giving investors a claim on the company's assets and earnings, and offering the potential for growth (capital gains) and/or income (dividends) Preferred stock—Equity security that represents ownership that is senior in priority to common stock. It pays a regular, fixed dividend payment.

Define Penny Stock

Penny stocks are defined as OTC equity securities (i.e. unlisted) worth less than $5.00 per share.

Pre-Emptive Rights

Pre-emptive rights allow a current shareholder to maintain their proportionate ownership interest and avoid dilution when a company issues additional shares.

Preferred stock

Preferred stock is another type of equity security that is issued by corporations. Although it is categorized as an equity security, it features characteristics of both stocks and bonds. Once issued, shares of preferred can be listed and trade on stock exchanges, or over-the-counter. - Unlike common stockholders, holders of preferred stock typically do not have voting rights - Preferred shareholders have priority over common stockholders in the event of a corporate liquidation. - The biggest difference between preferred stock and common stock is that preferred stock almost always pays a quarterly dividend. As with common, there are no guarantees of dividend payment, but companies are reluctant to skip a preferred stock dividend, and investors can generally count on a preferred stock dividend being paid

Proxy statements

Proxy statements are SEC-required disclosures that are sent to solicit shareholder votes for the election of corporate directors at annual meetings and for material corporate events, such as mergers. The information contained in proxy materials must be filed with the SEC in advance of the shareholder solicitation, and the proxy must disclose all important facts upon which shareholders are to vote.

Registrar vs. transfer agent

Registrar maintains records of ownership of securities by matching each share of stock against an ownership record and ensuring there is no unauthorized issuance. For example, a company cannot issue more shares than allowed by its corporate charter. The transfer agent records changes of ownership in securities and may maintain records of ownership. When securities are transferred or sold, the record of ownership is changed on the books of the issuer, as maintained by the transfer agent.

Dates

The declaration date is the date on which the board of directors declares that a dividend will be paid. At this time, the board specifies two other important dates: the record date and the payable date. The record date is the date upon which a stockholder must be a registered owner of the stock—a holder of record—to receive the dividend. The payable date is the date payment is actually made, generally about three weeks after the record date Another important date in the dividend payment process is the ex-dividend date. The ex-dividend date governs who, upon the execution of a trade, will receive a dividend. The ex-dividend date is established by the exchange, not the company's board of directors. This date is determined by the practice of settlement, which is when legal title passes from seller to buyer and the stock trade is complete. Most equity trades settle regular way T + 2, meaning two business days after the trade date.

Ex-Dividend Date

The ex-date is the first day purchasers of the stock will not receive a dividend. This is because the trade will not settle on or before the record date. For a regular way trade, which settles T + 2 (two business days after the trade date), the ex-date is the business day before the record date.

Statutory Versus Cumulative Voting

Voting by common stockholders can be carried out by one of two methods. Statutory voting allows a shareholder to vote one time per share for each seat on the board of directors. For example, if an investor owns 100 shares of common stock and there are three board seats to be filled, they can cast up to 100 votes for each of the three seats. Cumulative voting allows the shareholder to pool their votes together and allocate them as desired. For example, the shareholder above can aggregate all of their votes - 300 total (100 votes x 3 seats) and allocate them however they choose (e.g. they could cast all 300 votes for one candidate or cast 200 for one candidate and the remaining 100 votes for another).

Warrants As Equity Securities

Warrants are considered equity securities (not debt securities) because if the warrant is exercised, the investor will receive shares in the underlying company. Importantly, warrants do not make interest payments to investors. Warrants are long-term instruments that also allow shareholders to purchase additional shares of stock at a discounted price, but they are typically issued with an exercise price above the current market price.

Issuance Price of Warrants

Warrants are generally not issued with intrinsic value, meaning they are issued with an exercise price above the current market value of the stock. For example, if the current stock price is $50, the exercise price given to the warrants might be $80. For the warrants to be exercised by an investor, the price would have to increase above the exercise price.

Warrants

Warrants are typically issued by a company in conjunction with another security to make that other security more attractive to investors. For exampie, a company might use a warrant as a sweetener for investors as part of a debt deal. Unlike pre-emptive rights, warrants do not prevent dilution. Warrants are long-term instruments that also allow shareholders to purchase additional shares of stock at a discounted price, but they are typically issued with an exercise price above the current market price.

Two ways to earn money from stock

◆Capital gains, which is the buying of stock at one price and selling it at a higher price. Take note, investors only pay taxes on realized capital gains, which is generated when an investor sells a security for a profit. Unrealized capital gains, which is the increase in value of the security, is not taxed until the investor actually sells it. These are sometimes referred to as paper gains and have no immediate tax impact. ◆Dividends

Voting Rights

Holders of common stock have voting rights, which allow them to exercise control by electing the board of directors and voting on corporate policy. This contrasts with holders of preferred stock, who typically do not have voting rights.

Who votes for new board of directors?

If a company decides to increase the size of its board of directors, the new board members are elected by shareholders, not chosen by company executives

Forward Stock Split

In a forward stock split, the number of outstanding shares increases, and the share price is reduced proportionally. For example, after a 2-for-1 split an investor owning 100 shares of stock at $30 per share will now own 200 shares at $15 per share. Both before and after the split, the value of the investor's position remains $3,000.

Order of Dividend Process

Make sure to know the order of dates in the dividend payment process. 1) Declaration Date, 2) Ex-Dividend Date, 3) Record Date, 4) Payment Date.

Street name

Most securities positions are held in street name, where the broker-dealer with the cus-tomer's account is the nominal owner and the customer is the beneficial owner. Being the beneficial owner means the customer retains all rights of ownership, including the right to vote. Street name registration allows for ease of transfer when securities are bought and sold. In the case of street name ownership, the broker-dealer must promptly forward all proxy materials to the beneficial owner

Rights vs Warrants

Rights—Allow shareholders to buy shares to maintain their proportionate ownership in the company if the company issues additional shares Warrants—Give an investor the ability to purchase a company's stock at a fixed price for a set period of time; generally, they are provided by the company in conjunction with another security (e.g., a bond or preferred stock) to make the security more attractive.

Withholding Taxes

When a foreign corporation pays a dividend, a bank will take the foreign dividend payment (e.g. Euro or Japanese Yen) and convert it into US dollars for the ADR holder. It is possible that the ADR holder might receive a lower dividend than was actually declared because the foreign government might withhold a percentage of the dividend for taxes.

Participating preferred stock

allows the holder to receive an extra dividend distribution. This is generally conditional; for example, it may be triggered if the dividend payable to stock exceeds a certain amount. Or, it could pay a higher dividend based on company earnings

Rights vs. warrants

• Rights and warrants may trade as independent securities in the secondary market. • Warrants typically remain outstanding longer than rights. • Warrants are generally not issued with intrinsic value, meaning they are issued with an exercise price above the current market value of the stock. They are not valuable until the stock's price increases. • The market value of a warrant is connected to the value of the underlying stock. • Warrants are typically issued by a company in conjunction with another security to make that other security more attractive to investors. Unlike pre-emptive rights, warrants do not prevent dilution. • Exercise price for rights is below the current market value, and above for warrants

Form 10-K

Public companies must file annual financial reports (which includes financial statements) called 10-ks with the SEC within 90 days of year-end.

Company Repurchases

A company that believes its stock is undervalued may repurchase shares in the open market (creating treasury stock).

Cash Dividend Taxation

Cash dividends on stock received by an investor are taxable as ordinary income and do not increase the investor's cost basis.

Penny stocks

Penny stocks are OTC equity securities worth less than $5 per share. Because they are unlisted and low priced, penny stocks are riskier, more volatile, and less liquid than blue chip stocks

Treasury Stock

Treasury stock is authorized stock that was previously sold to the public but was repurchased by the issuer. Because it is no longer outstanding, the company's share count will fall, and the shares no longer receive dividends or have voting rights. Treasury shares may be held by the company, reissued to the public, or cancelled.

Stock Splits

A stock split is an artificial adjustment in the issuer's outstanding share count and stock price. Importantly, because the number of shares and price change in proportion with one another, the overall value of the company as well as the investor's ownership position in the company remain unchanged. For example, if an investor owned $1,000 of stock before a stock split, they will still own $1,000 of stock after.

Transfer Agent Versus Custodian

A transfer agent of an issuer is responsible for issuing and cancelling certificates and processing investor mailings (e.g. proxies). A custodian, on the other hand, is responsible for holding investor assets or securities for protections. A custodian may also maintain certain investor records.

Value of Warrants

A warrant provides an investor the ability to purchase a company's stock at a specified exercise price for a set time period. For example, the investor is given the right to purchase the stock at $100 per share. The investor would want to exercise this right if the price increases above the exercise price (e.g. an investor wants to pay $100 for stock worth $150 not for stock only worth $50) and therefore the market value of a warrant is tied to the value of the underlying stock.

Convertible preferred stock

Convertible preferred stock gives the holder the option to exchange the preferred shares for shares of the issuer's common stock according to a defined ratio that is based on par value.

Cumulative Preferred Stock

Cumulative preferred stock allows investors to receive dividends in arrears. This means that if a dividend is skipped for cumulative preferred shareholders, they must receive both current and skipped dividend payments before any dividend payment can be made to common shareholders. This is a benefit for the investor as it entitles them to receive missed dividend payments.

Dividends

Dividends—Distributions of a company's profits to shareholders; they are generally paid in cash or in additional shares of stock and must be declared by the company's board of directors Ex-dividend date—The first date that when an investor buys common stock, the investor will not receive the dividend because they will not be on the books and records of the company in time

Reverse Stock Split

In a reverse stock split, the number of outstanding shares is reduced, and the share price is increased proportionally. Generally, a reverse split is used by a company to inflate their stock price and avoid falling below the minimum price required for exchange listing. For exampie, after a 1-for-10 split an investor owning 100 shares of stock at $1 per share will now own 10 shares at $10 per share. Both before and after the split, the value of the investor's position remains $100.

Income stock

Income stocks produce income—typically in the form of dividends—for their investors. These are generally companies that operate in mature industries and have low investments in research and development. Utility stocks are an example of stock that pays steady income. REITs, discussed later, also pay regular dividends

Business Risk

Non-systematic risk is business risk, which is the risk that a specific company may not be profitable.

Rights offering

One way a company can raise additional capital is by offering new shares to existing share-holders. A rights offering gives shareholders the right to acquire additional shares, proportionate to their current holdings, at a stated price. In this scenario, common shareholders are given pre-emptive rights, also known as subscription rights. Investors are given a short timeframe—typically between 30 and 45 days—to decide whether or not they want to exercise these rights.

Short Sale

Selling short is when an investor, believing the price of the security will decline, sells borrowed shares in the market, hoping to repurchase and replace the shares at a lower price than what they were initially sold for. Theoretically, because the price of the shares can rise indefinitely (rather than fall as the investor wants), short sellers have unlimited risk potential.

Stock Dividend Taxation

Stock dividends are not taxed when received by a shareholder. However, the basis of the investor's position is adjusted downward to reflect the new number of shares. Example: Assume an investor holds 100 shares of stock valued at $50 per share and receives a 10% stock dividend. The $5,000 value ($50 x 100 shares) of the total position does not change, so the investor now has 110 shares with an adjusted basis of $45.45 (calculated as $5,000 total value/110 shares).

Blue Chip Versus Penny Stocks

Stocks of well-established, stable companies with a long history of steady earnings and dividends are known as blue chip stocks. Blue chip stocks typically trade on the major exchanges such as the NYSE or Nasdaq. Penny stocks are riskier, more volatile, and less liquid than blue chip stocks.

Wilshire 5000

The Wilshire 5000 is an index which measures the value of U.S. companies with actively traded stock.