Chapter 4 The Role of Securities Markets

Security Markets Organized exchanges –NYSE and the AMEX –The listing of securities Over-the-counter markets (e.g., Nasdaq)

Market Makers - Security Dealers - Specialists Offer to buy and sell for their own accounts The spread - the difference between the bid and ask prices

Market Makers –Do not set the level of prices –Facilitate security transactions

Buying and Selling Securities The role of brokers –full service brokerage firms –discount brokers –electronic trading The difference between –a broker –a security dealer

Security Transactions 52 Wks High LowStockDivid end YieldP/ESales 100s HighLowCloseNet Chng 6432 EMEC The reporting of transactions

Types of Orders Market orders –Assured transaction Limit orders –Specified price –Transaction may not occur

Settlement Confirmation statements T + 3: Settlement date Delivery versus holding securities in street name

The Cost of Investing Commissions –Full service brokers –Discount brokers –On-line brokers The spread

Cash Versus Margin Accounts Leveraging the position Increased potential return Increased risk

Margin Requirements Initial margin requirement Margin call

Long and Short Positions The long (bullish) position –Anticipating prices rising The short (bearish) position –Anticipating prices falling

The Short Sale Sale of borrowed securities To close position: –Purchase the stock and return the borrowed securities

Measures of Security Prices Dow Jones Industrials S&P 500 Stock Index New York Stock Exchange Index

Construction of Indices Questions concerning: –What securities to include –How index is computed Can produce different measures of stock performance

Price Movements and Graphs How stock prices appear to have changed is affected by the presentation Impact of absolute and relative scales

Dow Jones Industrial Average Absolute ScaleRelative Scale

Price Movements and Graphs Absolute Scale Dow Jones Industrial Average

Additional Aggregate Measures of the Stock Market Russell 1000 Russell 2000 Russell 3000 S&P 400 MidCap S&P 600 SmallCap S&P 1500 Nasdaq Index Wilshire 5000 Index

Regulation - The Federal Security Laws Full disclosure laws: Importance of information –10-K report –The annual report Illegal use of inside information

The Securities and Exchange Commission (SEC) Enforces the federal security laws –New issues –Trading in securities Can suspend trading

The Securities Investor Protection Corporation Insures accounts against failure by brokerage firms Similar to FDIC Brokerage firms may carry additional insurance

Foreign Securities Foreign stocks traded in American markets American Depository Receipts (ADRs) –Avoids the problem of language –Expressed in dollars and not the local currency –Registered with the SEC

Efficient Markets Easy entry and exit Information disseminated rapidly Price change occur quickly

Efficient Markets

Efficient Market Hypothesis Current price properly values a stock Cannot expect to consistently out perform

Efficient Market Hypothesis Empirical results supports the hypothesis Exceptions “anomalies” to efficient market hypothesis