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MGTA02H3 (136)

Chapter 9.doc

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University of Toronto Scarborough
Management (MGT)
Chris Bovaird

Chapter 9: Understanding Securities and Investments Securities Markets Primary and Secondary Markets for Securities:  Securities: stocks and bases (which represent a secured-asset-based claim on the part of investors) that can be bought and sold.  Primary securities market: the sale and purchase of newly issued stocks and bonds by firms or governments.  Investment bankers: any financial institution engaged in purchasing and reselling new stocks and bonds.  Secondary securities market: the sale and purchase of previously issued stocks and bonds.  Private placements: allows the business who uses them to keep their plans confidential. Investment Banking:  Most new stocks and some bonds are sold to the wider public market.  To bring a new security to market, the issuing corporation must obtain approval from a provincial securities commission.  It also needs the services of an investment banker.  Such well-known firms as RBC Dominion Securities and TD Securities provide three types of investment banking services:  They advise the company on the timing and financial terms for the new issue.  By underwriting (buying) the new securities, investment bankers bear some of the risk of issuing the new security.  They create the distribution network that moves the new securities through groups of other banks and brokers into the hands of individual investors. Stocks Market shares:  Market shares: the current price of one share of a stock in the secondary securities market; the real value of a share.  Market value reflects buyer’s willingness to invest in a company.  The market price of a share can be influenced by both objective factors (e.g. a company’s profits), and by subjective factors.  Subjective factors include:  rumours (unverified information such as a claim that a company has made a big gold strike)  investor relations (playing up the positive aspects of a company’s financial condition to financial analysts and financial institutions)  stockbroker recommendations (a recommendation to buy a stock may increase demand for the stock and cause its price to increase, while a recommendation to sell may decrease its demand and cause the price to fall) Book value:  Book values: value of a common stock expressed as total’s owner equity divided by the number of shares of stock.  Book value is used as a comparison indicator because for successful companies, the market value is usually greater that its book value.  Thus, when market price falls to near book value, some investors buy the stock on the principle that it is under- priced and will increase in the future. Investment Traits of Common Shares:  Common shares are among the riskiest of all securities.  Uncertainties about the stock market itself, for instance, can quickly change a given stock’s value.  Furthermore, when companies have unprofitable years, they often cannot pay dividends.  At the same time, however, common shares offer high growth potential.  Naturally, the prospects for growth in various industries change from time to time, but the blue-chip stocks of well-established, financially sound firms such as IBM and Imperial Oil have historically provided investors with steady income through consistent dividend payouts as well as long-term capital gains. Terms:  Blue-chip stocks: stocks of well-established, financially sound firms.  Market-capitalization: the dollar value (market value) of stocks listed on a stock exchange. Preferred Shares:  Preferred shares are usually issued with a stated value (example can be $100).  Dividends paid on preferred shares are usually expressed as a percentage of the stated value.  For example, if a preferred share with a $100 stated value pays a 6% dividend, shareholders would receive an annual dividend of $6 on each share.  Some preferred shares are callable.  The issuing firm can require the preferred shareholders to surrender their shares in exchange for a cash payment.  The amount of this cash payment, known as the call price, is specified in the agreement between the preferred shareholders and the firm. Investment Traits of Preferred Shares:  Cumulative Preferred Shares: preferred on which dividends not paid in the past must be paid up before the firm may pay dividends to common shareholders.  Because of its preference on dividends, preferred share’s income is less risky than the common shares of the same company.  Moreover most preferred shares are cumulative.  Typically the firm cannot pay any dividends to its common shareholders until it has made up all late payments to preferred shareholders.  Even the income from cumulative preferred shares is not as certain as the corporate bonds of the same company.  The company cannot pay dividends if it does not make a profit.  The purchase price of the preferred shares can also fluctuate, leading to a capital gain or loss for the shareholders.  The growth potential of preferred shares is limited due to its fixed dividend. Stock Exchanges:  Most of the secondary market for stocks is handled by organized stock exchanges.  In addition to stock markets, a so-called “dealer”, or the over-the-counter market handles the exchange of some stocks.  Stock exchange: a voluntary organization of individuals formed to provide an institutional setting where members can buy and sell stock for themselves and their clients in accordance with the exchange’s rules.  Trading floor: the floor is equipped with a vast array of electronic communications equipment for conveying buy and sell orders, or confirming completed orders. A variety of news services furnish important up-
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