topic 7 - other direct investments

Question 1

What are equities?

Answer 1

• Known as ordinary shares, are the most important type of security issued by UK companies.
• Bought by private investors, but most by institutions and by life and pension funds
• shareholders receive a share of the distributed profits of the company an income in the form of dividends

Question 2

Factors affecting share prices

Answer 2

• Company profitability
• Supply of and demand for shares
• Strength of the market sector
• Strength of the UK and global economy

Question 3

The main market

Answer 3

• Companies must conform to the stringent requirements of the Listing Rules laid down by the FCA, acting in its capacity UK listing Authority (UKLA)
• The applicant company must have been trading for at least 3 years and at least 25% of its issued share capital must be in the hands of the public.

Question 4

Primary market

Answer 4

companies and financial organisations can raise finance by selling securities to investors

Question 5

Secondary market

Answer 5

where investors buy and sell existing securities. Much bigger than the primary market in terms of the no. of securities traded each day

Question 6

The alternative investment market (AIM)

Answer 6

• Mainly intended for new, small companies with the potential for growth.
• Enable suitable companies to raise capital by issuing shares and allows these shares to be traded.
• Companies enjoy the wider public audience and enhance their profiles by joining AIM
• Less rigorous rules and designed with small companies in mind

Question 7

Over the counter (OTC) trading

Answer 7

not very common between private investors, but common between institutions. Trading large locks of securities with little publicity about price paid or the company those shares are being trade. Sometimes called ‘dark pools’

Question 8

Market capitalisation

Answer 8

market value of a company, calculated by multiplying the no. of shares in issue by the share price

Question 9

Securities

Answer 9

financial assets that can be traded. Divided into 2 broad classes – those that represent ownership (equities) and those that represent debt (gilts and corporate bonds)

Question 10

Dividend cover

Answer 10

• Indicates how much of a company’s profits are paid out as dividends in a particular distribution

Question 11

Price/earning ratio

Answer 11

• Calculated as the share price divided by the earnings per share
• Useful guide to a share’s growth prospect

Question 12

Rights issues

Answer 12

• Stock exchange rules require that, when an existing company that already has shareholders wishes to raise further capital by issuing more shares, those shares must first be offered to existing shareholders
• Generally, at discount to the price at which they are expected to commence trading

Question 13

Scrip issues

Answer 13

• Is an issue of additional shares, free of charge to existing shareholders
• No additional capital is raised – is achieved by transferring reserves into the company’s share account.
• Increases the no. of shares and reduces the share price proportionately.

Question 14

Preference shares

Answer 14

• Entitled to dividends payable from the company’s profits
• Differ from ordinary shares: Generally paid at a fixed rate
  and eligible for any dividend payout ahead of ordinary shares
• Do not carry voting rights

Question 15

Warrants

Answer 15

• Give the holder the right to buy shares at a fixed price at an agreed future date
• Gives the holder the rights at a fraction of the cost of the shares themselves.
• Only used on the date of the warrant if the share price is above the price they can be bought at with the warrant.

Question 16

Treasury bills

Answer 16

• Short-term redeemable securities issued by the Debt Management Office (DMO) of the Treasury
• Like gilts, they are fundraising instruments used by the UK government
• normally issued for a period of 91 days
• they do not pay interest

Question 17

Certificates of deposit

Answer 17

• Issued by banks and building societies
• Significant penalties for withdrawals before the end of the term. However, CDs are bearer securities and can be sold to a third party if depositor needs the funds before end of term.
• Typically, 3 or 6 months, however, can be rolled over
• Amount deposited are typically £50,000+

Question 18

Bearer securities

Answer 18

deemed to be owned by whoever physically possesses the document that confers ownership

Question 19

Commercial paper

Answer 19

An unsecured promissory note – ie a promise to repay funds that have been received in exchange for the paper

• When they wish to borrow for working capital purposes, they can issue commercial paper
• Transactions are for very large amounts, with most purchasers being institutions such as pension funds and insurance companies
• Can be placed directly with investors or through intermediaries
• Issued for periods of between 5-45 days

Question 20

Name three factors that can affect share prices

Answer 20

• company profitability
• strength of global/UK economy
• strength of market sector and supply & demand of shares

Question 21

If a company distributes 25% of its profits in the form of dividends to its shareholders, what would the dividend cover be?

Answer 21

profit is 4 times the dividend paid out

Question 22

Treasury bills are zero coupon securities. What does this mean?

Answer 22

don’t pay interest - instead they are issued at a discount to their par value