Financial Markets and Institutions 6th Edition

1. PowerPoint Slides for: Financial Markets and Institutions6th Edition By Jeff Madura Prepared by David R. Durst The University of Akron

2. Stock Offerings and Investor Monitoring 10

3. Chapter Objectives • Describe the stock exchanges where stocks are traded • Analyze the process of the initial public offering of stock by a company • Be able to interpret a stock quote • Explain the institutional use of stock markets • Describe the globalization of stock markets

4. Background on Common Stock • Common stock = certificate representing equity or partial ownership in a corporation Issued in primary market by corporations that need long-term funds Stock is then traded in the secondary market, creating liquidity for investors and company evaluation for managers

5. Background on Common Stock • Owners of common stock vote on: • Election of board of directors • Authorization to issue new shares • Amendments to corporate charter • Other major events • Many investor assign their vote to management via a proxy • Households own about half of all common stock, the rest is owned by institutional investors Ownership and Voting Rights

6. Background on Preferred Stock • Represents equity or ownership interest, but usually no voting rights • Trade voting rights for stated fixed annual dividend • Dividend paid before common if dividends are declared by board of directors • Dividend may be omitted • Cumulative provision • If common dividend paid, preferred dividend fixed

7. Public Placement of Stock • Initial public offerings (IPOs) • First-time offering of shares to the public • Firm must provide information to public • Registration statement to SEC • Prospectus • Firm is assisted by an investment banker • Performance of IPOs • Price generally rises on first day • Longer-term performance of IPOs is poor

8. Public Placement of Stock • Secondary stock offerings • New stock issued by firm that already has shares outstanding • Shelf Registration • 1982 SEC rule • Allows firms to place securities without the time lag associated with registering with SEC

9. Stock Secondary Markets • Execute secondary market transactions • Examples: NYSE, AMEX, Midwest, Pacific • NYSE is largest, controlling 80 percent of value of all organized exchanges • Must own a seat on exchange in order to trade • Trading resembles an auction Organized Exchanges

10. Stock Secondary Markets Over-the-Counter Market • No trading floor or specific location • Telecommunications network • Nasdaq • National Association of Securities Dealers Automatic Quotations • Thousands of small firms, plus high-tech giants • Pink sheets • Tiny firms that do not meet requirements for NASDAQ

11. Stock Secondary Markets • Trend: Consolidation of stock exchanges • Market microstructure • Specialists, floor brokers, and market-makers • Role of specialists • Types of orders • Market order • Limit order • Stop order

12. Stock Secondary Markets • Changes in technology • Online trading • Real-time quotes • Company information • Electronic Communications Networks (ECNs) • Margin requirements • Specify amount of borrowed versus amount in cash

13. Stock Secondary Markets • Purchasing stock on margin • Borrow a portion of the funds from broker • Margin is the amount of equity an investor provide • Magnifies returns (both good and bad) • Short sales • Borrow stock and sell • Repay stock loan, hopefully at a lower price • Investor able to have potential profit from decline in stock price

14. Regulation of Trading on Stock Exchanges • Securities Act Of 1933 and 1934 • Securities And Exchange Commission • National Association Of Securities Dealers (NASD) • Regulate minimum information for investor and broker/dealer business practices • Circuit breakers

15. Stock Quotation • Stock Quotation • 52-week price range (high/low and YTD% change) • Stock symbol • Dividend annualized and dividend yield • Price-earnings ratio • Volume in round lots • Previous day’s price close and net daily change • Remainders in cents, not eighths

16. YTD % change Hi Lo Stock Sym DIV Yld% PE V ol 100s Last Net Chg 1 10.3 121.88 80.06 IBM IBM .56 .6 20 71979 93.77 1 1.06 Y ear-to-date Highest Lowest Name Stock Annual Dividend Price- T rading Closing Change in the percentage price price of stock Symbol dividend yield, which earnings volume stock stock price change in of the of the paid per represents ratio based during the price on the previ- stock price stock stock year the annual on the previous ous trading in this in this dividend as prevailing trading day day from the year year a percentage stock price close on the of the pre- day before vailing stock price Exhibit 10.6 a

17. Stock Indexes • Dow Jones Industrial Average • Price-weighted average • 30 large U.S. firms • Standard and Poor’s (S&P) 500 • Value-weighted • 500 large U.S. firms • New York Stock Exchange Indexes • Other Stock Indexes • Amex, NASDAQ

18. Stock Indexes • Investing in stock indexes • Indexing • Has become very popular • Lower transactions costs • Studies find that actively-managed funds do not outperform stock indexes • Examples of publicly traded stock indexes • SPDRs • Diamonds

19. Stock Market Performance • Comparing stock performance to bond performance

20. Investor Trading Decisions • Stock value = proportional value of total company • Investor return = dividend yield + capital gain/loss • New information translated into trading decisions impacting supply/demand for shares • New equilibrium price established until new information appears

21. Increased Demand for New Increased Increase in Security Favorable V aluation Equilibrium Information of (Market) Disclosed Security Price of to Investors by Investors Reduced Security Supply of Security for Sale Reduced Demand for New Reduced Decrease in Security Unfavorable V aluation Equilibrium Information of (Market) Disclosed Security Price of to Investors by Investors Increased Security Supply of Security for Sale Exhibit 10.8 a

22. Institutional Participation in Stock Markets • Program trading by institutions • Simultaneously buying and selling of a portfolio of at least 15 different stocks valued at more than $1 million • Most commonly used by securities firms • Program refers to the use of computers • Impact on stock volatility • Often blamed for rise or fall in stock market • Studies show that program trading does not increase volatility

23. Investor Monitoring of Firms in the Stock Market • Shareholder activism • An investor who is dissatisfied with the way managers are running a firm has three choices: Sell Do Nothing Flush! Shareholder Activism

24. Investor Monitoring of Firms in the Stock Market • Communication with the firm • Effort to place pressure on management • Institutional investors • CALPERS • TIAA • Proxy contest • Shareholder lawsuits

25. Corporate Monitoring of Firms in the Stock Market • Market for corporate control • Stock price declines due to poor management • subject to possible takeover • Barriers to market for corporate control • Antitakeover amendments • Poison pills • Golden parachutes

26. Corporate Monitoring of Their Own Stock in the Stock Market • Stock repurchases • Dividend alternative or undervalued stock • Excessive cash relative to +NPV investments • Leveraged buyouts (LBO) • If managers believe the stock price undervalued, they may buy the outstanding shares with borrowed funds • Stock offerings • Signals overvalued shares

27. Globalization of Stock Markets • Barriers to international stock trading have decreased • Reduction in information costs • Reduction in exchange rate risk • Foreign stock offerings in the United States • International placement process • Global stock exchange characteristics • Emerging stock markets

28. Globalization of Stock Markets • Methods used to invest in foreign shares • Direct purchases • American Depository Receipts (ADRs) • International mutual funds • World equity benchmark shares

29. Globalization of Stock Markets • Global diversification and integration among stock markets • Integration of markets during the 1987 crash • All major stock markets declined, indicating the underlying cause systematically affected all markets • Integration of markets during mini-crashes • Example: August 27, 1998 “Bloody Thursday” • Russian financial crisis • Increased integration associated with increased financial technology, competition, and lessened government regulation