Equity Flashcards
Three main functions of the financial system:
- Allow entities to save/borrow money, raise equity capital, manage risks, trade assets currently or in the future, and trade based on estimates of asset values.
- Determine the returns (i.e., interest rates) that equate the total supply of savings with the total demand for borrowing.
- Allocate capital to its most efficient uses.
Preferred stock
an equity security with scheduled dividends that typically do not change over the security’s life and must be paid before any dividends on common stock may be paid (similar to a bond)
Warrants
the right to purchase a company’s stock at a specific price and at a specific date - issued directly by a company to an investor.
Block brokers
help with the placement of large trades.
An information trader
expects to earn a positive risk-adjusted return
An investor
expects to earn fair (equilibrium) returns over time
‘buy on margin’
using borrowed funds to purchase equity
‘margin loan’
the borrowed funds used to purchase equity
‘call money rate’
the interest rate paid on borrowed funds used to purchase equity
Initial margin requirement
minimum equity % at time of purchase
equity % = (stock value - loan) / stock value
Maintenance margin
minimum equity % after purchase
equity % = (stock value - loan) / stock value
Leverage ratio
1 / initial margin
e.g. if the leverage ratio is 2.5 (40% equity, 60% loan, 1/0.4 = 2.5) a return of 10% on the stock would result in a return of 25% return to the investor
Margin call
Occurs when equity < maintenance margin (i.e. when the value of an investment falls and the debt proportion of the deal represents too much in relation to equity).
In this scenario, the investor must add cash or marginable securities, or close the position.
Margin-call / trigger price
Initial purchase price * ( ( 1 - initial margin ) / ( 1 - maintenance margin ) )
market order
instructs the broker to execute the trade immediately at the best possible price
limit order
places a minimum execution price on sell orders and a maximum execution price on buy orders.
These can either ‘make the market’, be ‘behind the market’ or be ‘far from the market’
All-or-nothing orders
deals with the volume of trade - only executed if the whole order can be filled.
Hidden orders
deals with the visibility of the trade - hidden orders are those for which only the broker or exchange knows the trade size
display size/iceberg orders
where only some of the trade is visible to the market
Immediate-or-cancel / fill-or-kill orders
cancelled unless they can be filled immediately
Good-on-close orders
Executed at end of trading day
e.g. market-on close orders
Stop / stop-loss orders
executed unless the stop price has been met
indications of interest
Investors, identified by the investment bank, who agree to buy part of the issue of a public offering.
This is described as book building
private placement
securities are sold directly to qualified investors, typically with the assistance of an investment bank