1. Forms of business ownership Sole proprietor – An individual owns & operates the business Partnership – A group of people own and operate Corporation – Stockholders own the corporation – Stockholders elect board of directors – Directors hire management – Stockholders have limited liability

2. Closely held corporation Stock ownership confined to a few qualified individuals Shares are not publicly traded Shareholders wishing to sell must first offer them back to the corporation

3. Initial Public Offering Corporation offers its shares for sale to the public for the first time Purposes – Raise capital to expand the business – Reward early investors who typically take big risks Notable recent examples – Google, 2004 – Facebook, 2012 (fumbled) – Twitter, 2013

4. Secondary trading Trading of shares of stock among people not necessarily related to the corporation Traditional U.S. trading venues – New York Stock Exchange (since 1792) – American Stock Exchange (ca. 1865) – NASDAQ (1971) Newer venues – Electronic trading platforms – Dark pools

5. Stock Brokerages Firms that buy and sell stocks on behalf of clients Most brokerages offer many other services Almost all trading now done online Commission rates have dropped precipitously since May 1, 1975. Market orders are executed almost instantly during market hours (6:30AM to 1:00 PM Pacific time)

6. Stock purchases: timing Good Till Cancelled (GTC)  Order remains open until executed or cancelled  Applies only to limit or stop orders Day order  If the market is open: canceled if not executed before the close of today’s trading  If the order is closed: cancelled if not execute before the close of the next business day’s trading

7. Types of “buy” orders Market order: buy at the current ask price Limit order: buy when and if the stock drops below the specified price  Usual intent: avoid over-paying Stop order: buy if and when the stock exceeds the specified price  Usual intent: avoid runaway losses on a short position

8. Example “buy” orders Assume HPQ bid $24.22, ask $24.25 Market order will be filled at $24.25 Order to buy at 24.50 limit will be filled at 24.25 Order to buy at 24.00 limit will not be filled Order to buy at 24.00 stop will be filled at 24.25 Order to buy at 25.00 stop will not be filled Note: orders may be filled slightly above or below 24.25

9. Types of “sell” orders Market order: sell at the current ask price Limit order: sell when and if the stock rises above the specified price  Usual intent: take profits when stock has reached target Stop order: sell if and when the stock drops below the specified price  Usual intent: avoid runaway losses on a long position

10. Example “sell” orders Assume IBM bid $187.44, ask $187.50 Market order will be filled at $187.44 Order to sell at 187.00 limit will be filled at 187.44 Order to sell at 190.50 limit will not be filled Order to sell at 187.00 stop will not be filled Order to sell at 190.50 stop will be filled at 187.44 Note: orders may be filled slightly above or below $187.44 bid price

11. Buying on margin Your broker will lend up to half the cost of shares of stock that you buy Example: buy 100 IBM at $185, cost $18,500. Put up $9,250 in cash, borrow $9,250 at 8% per annum  Wait one year, sell at $250, gross proceeds $25,000. Pay back loan ($9,250 principal + $750 interest). Gross profit = 15,000 or 81%.  Wait one year, sell at $125, gross proceeds $12,500. Pay back loan, net proceeds $3,200, a big loss

12. Short sales Short sale: sale of a stock you have borrowed and sold in hopes of a price drop. Youm ust eventually buy the stock in the market and return them to the lender Example: selling 100 IBM short means  Your broker borrows 100 shares which are sold for you at $180/share. Broker keeps the $18,000 proceeds.  If the stock drops to $150 and you decide to “cover” your short, you pay $15,000 to acquire 100 IBM and return them.  Gross profit: $3,000

13. Long and short If you buy shares of IBM, you are said to be “long” IBM. You believe the IBM share price will rise. If you sell shares of IBM short, you are said to be “short” IBM. You believe the IBM share price will fall.

14. Short sales are risky If you are long in a stock, the most you can lose is 100% of your investment (the stock becomes worthless). This assumes no margin borrowing has been used. If you are short a stock, your potential losses are unlimited. Example: short 100 IBM at $185, proceeds $18,500  If IBM falls to $105 and you cover for $10,500 your gross profit is $8,000  If IBM rises to $500 and you cover for $50,000 your gross loss is $31,500 Lesson: always enter a buy stop (e.g., buy $225 stop) to prevent runaway loss on a short position