Question

1) You should understand the primary market issue methods and how investment bankers assist in security issuance.

2) should be able to identify the various security markets and should understand the differences between exchange and over the counter trading.

3) understand the mechanics, risk, and calculations involved in both margin and short trading and should begin to understand some of the implications, ambiguities, and complexities of insider trading and the regulations concerning these issues.

Answer 1

1) The primary market issue methods are as follows:

a) Initial Public Offer : An initial Public offer is when a private company or corporation raises its investment capital by offering its stock to the public for the first time.

b) Rights Issue : A rights issue is an issue of rights to existing shareholders that entitles them to buy additional shares directly from th company in proportion to their holdings within a fixed period

c) Preferential Issue : A Preferential issue is issue of shares or of convertible securities by listed company which is neither rights issue nor a public issue

d) Follow on Public Offer (FPO) : An FPO is the issuance of stock to the investors by a public company which is currently listed on the stock exchange.

The investment bankers play an important role in issue of securities. It helps companies especially new companies in understanding the regulations and procedural requirements when creating new issues. The bankers help companies to register new stocks and bonds with the securities exchange and draft the necessary documents such as the prospectus. The most impact role of investment bankers is in terms of underwriting the issues. It means that the investment bank agrees to purchase all of the remaining issues that go unsubscribed after the issue.

2) There are mainly two types of security markets where securities are available:

a) Primary Market : Primary market refers to the market where new issues are sold.

b) Secondary Market : A secondary market is the market in which assets are traded after they have been sold through the primary market.

Difference between Exchange and over the counter trading

Exchange : In Exchange market the trading is done through a registeres security exchange. The transactions are regulated by the security exchange.

Over the counter market : OTC market deals with securities like equities, shares and derivatives which are not traded through formal exchange market. Securities that are traded via a dealer network as opposed to an centralized exchange.

3) Margin Trading : Margin Trading refers to concept where investor borrows money from his broker to buy stocks, the process is called margin trading. Buying on margin means that you take a loan from your broker to increase the funds you have at your disposal to invest. The loan comes with its own costs in the form of interest and there are limitations on how you use the loaned funds. If one needs to trade in margin then you need to have a margin account. The most important thing to understand about margin trading is that it not only amplifies the gains but also the losses. If stock prices had fallen one would lose much more in margin trading. Hence, margin trading is considered quite risky. The 3 important concepts in margin trading are

a) Initial Margin: The proportion of total purchase price an investor is supposed to deposit for opening a margin account.

b) Maintenance Margin: In order to keep the margin account open for doing margin trading, it is necessary to maintain minimum cash or marginable securities which is called maintenance margin.

c) Margin Call: If your account falls below the maintenance margin, your broker will make a margin call to ask you to deposit more cash or securities into your account. If one fails to meet the margin call, the broker will sell your securities so to make up for the stipulated requirement.

Short Trading : Short trading is the act of selling an asset that you do not currently own, in the hope that it will decrease in value and you can close the trade for a profit. Short-sellers tend to use this strategy for either speculation in the hope that downward price movements return a profit or as a method of hegding. Short trading can be a risky strategy as assets can theoretically increase in value indefinitely.

Insider Trading is the buying and selling of a security by someone who has acess to material non public information about the security. It can be illegal or legal depending on when insider makes the trade, it is illegal when the material information is still nonpublic. The exchange has rules to protect investments from the effects of insider trading. Legal insider trading happens when directors of the company purchase or sell shares but they disclose their transactions legally.