Chapter 16
Securities and Investments
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L E A R N I N G O U T C O M E S
After reading this chapter, you should be able to:
Describe the role of securities markets and explain the difference between primary securities markets and secondary securities markets.
Discuss the value to shareholders of common and preferred stock and identify the major stock exchanges and stock markets.
Distinguish among the various types of bonds in terms of their issuers and safety.
Describe the investment opportunities offered by mutual funds.
Describe the risk-return relationship, and discuss the use of diversification and asset allocation for investments.
Explain the process by which securities are bought and sold.
Explain how securities markets are regulated.
© 2007 Prentice Hall, Inc. All rights reserved.
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What’s in It for Me?
By using this chapter’s presentation on securities and investments, you will benefit in two ways:
1.
2.
You’ll be better prepared to evaluate investment opportunities for your personal finances
You’ll be better prepared for where and how to buy and sell securities
© 2007 Prentice Hall, Inc. All rights reserved.
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Securities Markets
Securities
 Represent secured, or financially valuable, claims on the part of investors
Securities Markets
 Markets in which stocks and bonds are sold
Stock
 Represents an ownership claim on the assets of a corporation
Bond
 Represents a financial claim of money owed by a company to the bondholder
© 2007 Prentice Hall, Inc. All rights reserved.
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Primary and Secondary
Securities Markets
Primary Securities Markets
 The market in which new stocks and bonds (but not mutual funds) are bought and sold by firms and governments
Secondary Securities Markets
 Where existing stocks and bonds are traded
Securities and Exchange Commission (SEC)
 The government agency that regulates U.S. securities markets
 New securities must be approved by the SEC
© 2007 Prentice Hall, Inc. All rights reserved.
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Primary and Secondary
Securities Markets (cont’d)
Investment banks help bring new securities to the market by:
 Advising companies on the timing and financial terms of new issues
 Underwriting —or buying—new securities, bearing some of the risks of issuing them
 Distributing new securities through banks and brokers to individual investors
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Stocks
Stock
 A portion (share) of the ownership of a corporation
 Common stock
 Preferred stock
Dividend
 A payment to shareholders, on a per-share basis, out of the company’s earnings
Stock Values
 Par —declared face value at time of issue
 Market —current share price in a market
 Book —proportional worth of owners’ equity
© 2007 Prentice Hall, Inc. All rights reserved.
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Stocks (cont’d)
Investment Traits of Common Stock
 Price volatility
 Dividend payment uncertainty
 High growth potential
Preferred Stock
 Have preferential claim on dividends
Investor Preferences
 Capital gains
 Market appreciation (growth)
© 2007 Prentice Hall, Inc. All rights reserved.
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Blue Chip Stocks:
A Changing Perspective?
“Old” Economy
 Established firm
 Sound financial history
 Stable pattern of dividends
“New” Economy
 Rapid growth in market value
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Stock Exchanges
Stock Exchange
 An organization formed to provide an institutional setting in which stocks can be bought and sold
 The exchange enforces certain rules to govern its members’ trading activities
Trading Floor
 The physical location in an exchange where stocks are traded
Stock Brokers
 Earn commissions by executing buy-and-sell orders from nonexchange members
© 2007 Prentice Hall, Inc. All rights reserved.
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Stock Exchanges (cont’d)
Discount Brokers
 Offer lower fees to investors than do full-service stock brokers
Online Trading
 Conditions favoring online trading
 Convenient access to the Internet
 Fast no-nonsense transactions
 Opportunity for self-directed investors to manage their own investments while paying low fees for trading
© 2007 Prentice Hall, Inc. All rights reserved.
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Stock Exchanges (cont’d)
Full-Service Brokers
 A full-service brokerage can offer clients consulting advice in personal financial planning, estate planning, and tax strategies, along with a wider range of investment products
Initial Public Offerings (IPOs)
 The first sale of a company’s stock to the general public
 IPOs are generally not available to the public through online retail brokers
 Specialist is appointed by the exchange to control trading for a particular stock
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The Major Exchanges and Markets
New York Stock
Exchange
American
Stock
Exchange
Regional Stock
Exchanges
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Global Stock
Exchanges
Over-the-
Counter
Market
Nasdaq
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The Major Exchanges and Markets (cont’d)
The New York Stock Exchange
 For many people, “the stock market” means the New
York Stock Exchange (NYSE)
The American Stock Exchange (AMEX)
 The second-largest floor-based U.S. exchange is located in New York City
Regional Stock Exchanges
 Seven regional stock exchanges were organized to serve investors in places other than New York
Global Stock Exchanges
 The value of shares listed on foreign exchanges continues to grow
© 2007 Prentice Hall, Inc. All rights reserved.
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The Major Exchanges and Markets (cont’d)
Over-the-Counter (OTC) Market
 So called because its original traders kept supplies of shares on hand and, as opportunities arose, sold them over the office counter to interested buyers
National Association of Securities Dealers
Automated Quotation (Nasdaq) system
 The world’s oldest electronic stock market
 Orders are gathered and executed on a computer network
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Fantasy Stock Markets
Fantasy Stock Markets
 Are Internet-based games that provide an investment experience that is educational, challenging, and entertaining
 Teach you how securities markets work
 Enable you to enter stock-ticker symbols, search sources for information on companies, make buyand-sell decisions, and discover the financial results as real market prices change
© 2007 Prentice Hall, Inc. All rights reserved.
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Bonds
Bonds
 Represent a promise by the issuer to pay the buyer a certain amount of money by a specified future date
 U.S. government bonds
 Municipal bonds
 Corporate bonds
 Nearly all secondary trading in bonds occurs in the
OTC market
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Types of Corporate Bonds
Registered
Bonds
Secured
Bonds
Bearer
Bonds
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Debentures
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Mutual Funds
Mutual Fund
 A portfolio of stocks, bonds, and other securities purchased with pooled investments from individuals and organizations
 No-load funds do not charge buy or sell commissions
 Load funds charge commissions
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Mutual Funds (cont’d)
Types of Funds
 Money market mutual funds: funds stressing safety and stability
 Balanced funds: funds stressing conservative capital growth
 Aggressive growth funds: funds stressing maximum long-term capital growth
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Diversification and Asset Allocation
The Risk-Return Relationship
 Safer investments tend to offer lower returns; riskier investments tend to offer higher returns.
Diversification
 Buying several different kinds of investments rather than just one so that the risk of loss is reduced by spreading the total investment across more stocks
Asset Allocation
 The proportion —the relative amounts—of funds invested in (or allocated to) each of the investment alternatives
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Buying and Selling Securities
Financial Information Services
 Stock quotations
 Bond quotations
 Mutual funds quotations
Market Indexes
 Bull markets
 Bear markets
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Market Indexes
Dow Jones Industrial Average
The S&P
500
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The Nasdaq
Composite
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Market Indexes
The Dow Jones Industrial Average (DJIA)
 The most widely cited U.S. market index
 Measures the performance of financial markets by focusing on 30 blue-chip companies as reflectors of economic health
The S&P 500 Composite Index
 Consists of 500 stocks, including 400 industrial firms,
40 utilities, 40 financial institutions, and 20 transportation companies
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Market Indexes
Nasdaq Composite Index
 All Nasdaq-listed companies are included in the index, for a total of more than 3,300 firms (both domestic and foreign)
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Investing in the Securities Markets
Placing Orders
 Market Order
 Limit Order
 Stop Order
 Round Lot
 Odd Lot
Financing Purchases
 Margin Trading
 Short Sales
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Securities Market Regulation
The National Association of Securities Dealers
(NASD)
 The largest private-sector securities-regulation organization in the world
 Every broker/dealer is required by law to be a member of the NASD and to pass qualification exams and meet standards for financial soundness
© 2007 Prentice Hall, Inc. All rights reserved.
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Securities Market Regulation (cont’d)
NYSE Self-Regulation
 Circuit breakers
Securities and Exchange Commission
 Prospectuses
 Insider trading
State Government Regulation
 Blue-sky laws
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