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16 Cards in this Set
- Front
- Back
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Why have stock markets
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Mechanism that brings together orgs wishing to raise capital & investors with capital to invest.
Shares issued to raise funds for investment, SE flotation, to another co in takeover bid process. Broker - agents/intermediaries. Primary market ('new issues market') & secondary market (existing securities). For corporate shares, loans stock, and also gilts. |
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The main market & Listing Rules
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The 'Official List' regulated by UKLA (acted by FSA).
LR: SESAMES Size of applications for listing of at least min size Enough shares of a tradeable value must be made available - for a free market Successful track record of 3 yrs Able to act independently of any one controlling s/h (30%) Market capitalisation must be £700k + 25% of shares held by persons unconnected Experienced directors/snr mngt Sufficient WC for 12 months |
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Advantages & disadvantages of listing on SE
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Advs: CEASE
Credit rating enhanced so easier to borrow funds Expansion of capital base facilitated by shares being traded easily Additional LT funding can be raised by new issue of securities Share option schemes can attract highest calibre e/es & raise bus/mngt team profile Easier future acquisitions bc can issue securities as consideration for trans Disadvs: THUMP Threat of being exposed to hostile takeover High costs of equity UKLA LR reqs onerous & compliance mandatory Measure of control lost Publicity not always advantageous - can't conceal activities |
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AIM
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Smaller growth cos, fast-growing businesses w turnover levels between £4m & £20m. Give higher profile & better access to funds. Must issue a prospectus & comply w Prospectus Rules (exemptions - offers to raise <£100k; subsequent offers (P already issued); restricted offers to small no of K investors; min subscription of £50k). Also comply with AIM rules.
Publish details of ds dealings, interim reports & release price-sensitive info. Must have a nominated adviser (nomad) - warrants that co suitable for inclusion on AIM. Must have a nominated broker from member of SE, supports trading when no market-maker & deals with investors. No reqs re sizes profitability, track record, no of s/hs, ratio of shares in public hands. Only req is must be fully transferable. Treated as unquoted by HMRC tf tax benefits. If 'thin trading' (shares traded infrequently) - 'less liquid' & diff to sell. Provide higher returns to compensate fore bearing added trading costs - increases costs of raising finance for mngt. |
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Over-the-counter markets (OTC)
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Not regulated or supervised by stock market so less protection for investor, but costs of dealing less than on main or secondary markets.
Some of largest trans of shares/bonds are OTC trans. |
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Market particpiants
'market makers' |
Firms can now act as agents of investors (prev broker) & also as principal in own right in buying/selling shares (prev jobber).
Dual capacity - 'market-makers'. Must: be member of SE register to deal in certain types of security agree to quote two-way prices (buying/selling) Firms that deal as market-makers have to set up 'Chinese walls' to separate the broker and the dealer functions. |
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Other market terms
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Bull markets - rising prices at times of strong investment demand
Bear markets - prices fall as investors sell shares Stag - someone who applies for shares in a new issue, intending to sell straightaway |
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Other sources of finance other than stock market (x12)
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- Commercial or clearing banks (LT - mortgages, clearing banks prefer to lend against security. Rate if interest charged to larger cos on medium-term loans set at LIBOR plus margin depending on credit rating & riskiness. Smaller cos - bank's base rate plus a margin).
- Investment banks (issuing/underwriting of share issues/reg; provide venture cap & large-scale MT loans; wholesale deposits in all currencies; fx dealing; takeover/merger advice; granting acceptance credits; mnging client investments/trustees; investment/deposit advice to corp clients). - Institutional investors (large funds to invest in stocks/shares). - Unit trusts (allow small investors to hold diversified portfolio of investments - mnged by unit trust co which deducts mngt expenses. Investor holds sub-unit in portfolio which are tradeable. - Investment trusts (invest in wide range of securities, generally quoted/larger unquoted cos. Interested in returns & securities - wish to maintain steady growth in income to pay their s/hs divs). - Hedge funds (high-risk, no restrictions on kinds of investments as is above - shares, sovereign debt, bonds, currencies, commodities, assets, financial derivatives, options, futures). - Venture capital organisations (invest in new/expanding bus or mngt buy-out - high-risk, high-return. Realise by floating. VCTs are investment trusts investing in new shares of approved unquoted smaller cos, <£8m non-financial or property related businesses. Spread risk by holding portfolios - no single holding more than 15%. Tax relief, no income tax on divs & CGT). - Enterprise Investment Scheme (tax relief if qualifying co w A's less than £7m, CGT & IHT relief). - Private equity (unquoted equity investment, usually in large, established cos using money of a small no of private investors. Inds (eg mngt buyout, poss 'leveraged buyout') or pension funds. Take greater risks esp in gearing). - Business angels (private inds - invest part of estate & personal managerial exp. Usually £25-250k. Recently BANs developed). - Pension funds (provide retirement benefits for members, usually spreads investment between gilts, equity & property. May provide substantial finance for major investment schemes, eg commercial prop devt). - Insurance companies (provide majority of funds for investment, similar policies as PFs - secure returns & steady growth). |
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Hedge funds - how they work
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Effects of factors mitigated by short selling/options/futures (sell A's not yet owned w intention of buying later at a lower price), so that overall effects of variations cancelled out. Do not necy hedge - reduce potential risk of changes in prices, may increase risk to generate more profits. Look to exploit undervalued A's & market imperfections. For sophisticated investors).
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Business Angel Networks (BANs) - services provided & advantages to entrepreneurs:
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Services: SPADES
Set up academies for angels Provide integrated financial packages from diff sources Angel syndication Devt programmes for entrepreneurs Easier exit routes for angels once bus up + running Set up dedicated funds to invest in collaboration w/ angels Advantages: SAPID Speedy decision-making on investment & usually on more subjective basis (personal chemistry) Angels geographically closer to entrepreneurs - ben from angel's personal advice/networks Positive track record not prerequisite to investment Investment below usual min level offered by formal VCs Doesn't necy require collateral |
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Efficient market hypothesis (EMH)
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Successive share price changes are independent over time & prices follow a 'random walk'. New info arises randomly, so prices more randomly. Relies on SMs being efficient & displaying perfect characteristics. Underlying principles:
Market price reps consensus valuation Public info (economy, market, co results/prospects) is widely available Market prices adjust quickly to new situations No investor large enough alone to influence market price Transaction costs low to zero Negligible restrictions on investment No individual dominates the market Costs of buying/selling not at level that discourages trading Share prices change quickly in response to new info |
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Interrelated measures of efficiency
(needed to understand EMH) |
Allocative efficiency - optimum allocation of funds w/in financial markets (maximise economic prosperity)
Operational efficiency - lowest level of transaction costs poss (present in open & free competition w/in the market) Information processing efficiency - quick & accurate pricing of securities, preventing speculation driving prices up to unrealistic levels - (weak/semi-strong/strong forms). Weak - historical (based on past share prices & results). Prices change when info becomes available. Semi-strong - access to all publicly available info. Prices react to released info & expectation of changes. Investors see beyond creative accounting. Strong - price reflects all available info, inc insider info (illegal). Empirical evidence suggests security markets are efficient in a semi-strong sense & tf also weak sense - prices follow random walk & reflect all publicly available info. |
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View of EMH
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Times it has not held:
Oct 1987 - value of shares on LSE fell 1/4 during 1 month but no new specific info - contrasts to steep fall in prices in 2008 attributed to accumulating evidence if economic problems. C2000 - irrational series of events occurred w dot.com boom & subsequent crash. Unfounded beliefs that high-tech cos re comps would displace conventional cos - drove up share prices. Then a market reappraisal based partly on insolvency of some high-flying internet cos & also re-evaluation of info that had long been publicly available. EMH holds best when market is stable, but during bull or bear phase, market is driven by speculation and uncertainties. This irrationality also happens when overreaction in ST to co/economic events, an overemphasis placed on large cos & when cause of price movements is related to time of day/yr etc. |
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Implication of the EMH on companies, investors & analysts
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Analysts
Current MP is best available indicator of share's intrinsic value (searching for undervalued shares using publicly available info waste of time), instead concentrate on efficient diversification. Investors Don't worry re investment analysis instead choose well-diversified portfolio consistent w risk pref. Companies - MULCT Market value of firm only as good an estimate of intrinsic value as quality of public info. Use NPV techniques to evaluate projects bc it's the method by which market evaluate co. Large premiums paid above MP on takeover on takeover diff to justify Creative accounting seen as sign of weakness. Timing of new issues deemed unimp & no merit in substantially discounting them as will be correctly priced by market. EMH doesn't imply perfect forecasting ability, rather that the market makes correct evaluation of uncertain future events. Experts do no better than general investor. Moves in share price is the working of EMH. So why carry out analysis? - distrust in EMH & some investors will be more successful than average. Some evidence that unit trust perform better in falling markets. |
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Speculative bubble theory
(alternative theory to EMH re market behaviour) |
The price of securities moves above their true value, creating a bull market, bc investors believe they will rise in future. Eventually the bubble bursts when investors consider all previously available economic & co info, and crash occurs.
So rise & falls in market do not reflect economic conditions. Supporting research - investors are risk-seeking in a bear market in attempt to minimise losses. |
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Catastrophe theory
(alternative theory to EMH re market behaviour) |
Developed from spec bubble theory - capital markets have following characteristics:
- they are dynamic - they use feedback mechanisms w 'critical' levels (when activity reaches certain levels the equilibrium prices of the market no longer apply) - MPs not based on economic forecasts, small changes in events effecting co can lead to disproportionately large changes in prices - results in large-scale chaos/instability. Making prediction of prices imp except in ST. Chaos is made worse by speculators amplifying price movements in attempt to maximise their own profit. Reason for phenomenon of short-termism. |
