12MarketMicrostructureandStrategiesChapterObjectivesDescribetypicalcommonstocktransactionsandtheirexecutionExplaintheroleofelectroniccommunicationsnetworks(ECNs)DescribetheregulationofstocktransactionsExplainhowbarrierstointernationalstocktransactionshavebeenreducedStockMarketTransactionsMarketordertobuy/sellatthebestpossiblepriceLimitorderisamarketorderwithaspecificprice

maximumorminimumDiscountvs.full-servicebrokerPlacinganorderviatheInternetPlacinganOrderMarginTradingBuyingstockonmargin=borrowingtobuystockFederalReservesetsmarginrequirements(%)orproportionoffundsbuyermustputdownUsedtodampenspeculationandmarketcrashesCurrently50%;halfdown,halfborrowedBrokermaysethighermarginrequirementsMarginTrading,cont.Customerestablishesaccountwithbroker(marginaccount)Initialmargin—broker’sminimummarginrequirementforstockpurchaseMaintenancemargin—minimumproportionofequity/totalvalueofstockborrowingperiodSortOutAllthe“Margins”MarginTrading,cont.MargintradingmagnifiesreturnstoinvestorInvestormustpayinterestonborrowedfundsInvestorreturnshigher/lowerwithlowerequitythana100%purchaseMarginCallStockpricefallsbelowmaintenancemarginrequirementsMargincallisarequestforcashtomaintainmaintenancemarginBroker/lendermaysellstocktoprotectloanShortSellingInashortsale,investorborrowsandsellsstockPromisestopaybackstocklaterShortsellerhopesstockpricedeclinestoprovidegainShortsellercoversdividendpaymentswhileborrowingstockLimitedgain;unlimitedlossesShortInterestRatioasmarketforecastInvestinginStockIndexesInvestormaybuystockorstockderivativesecuritiesThevalueofderivativesecuritiesfollowunderlyingstockpricesorpricesofspecificstockportfolios(index)LowertransactioncostsStockindexreturnshavematchedactivelymanagedportfoliosExchange-tradedfunds(ETFs)designedtomatchmajorstockindexesExchange-TradedFunds(ETFs)vs.IndexedMutualFundsBothETFsandindexedmutualfundsSharepriceadjustsinresponsetochangeinindexPaydividendsearnedinaddedsharesLowermanagementfeesthanactivelymanagedmutualfundsETFsaredifferentfrommutualfundsinthattheyMaybetradedonanexchangeanytimeduringthedayMaybepurchasedonmarginandsoldshortCapitalgainstaxonlyValueofETFshares=underlyingvalueofsharesInvestormustpaytransactioncostswhenbuying/sellingTypesofExchange-TradedFunds(ETFs)Cube(QQQ)TracksNasdaq100indexTradedonAmexInvestorsmayspeculateonfutureoftechnologystocksPurchaseonmarginSellshort Spider(S&PDepositoryReceipt)TracksS&P500indexTradeatone-tenthS&P500IndexlevelHowTradesAreExecutedFloorBrokersSpecialistsMarket-MakersHowTradesAreExecutedFloorbrokersfulfilltradeordersonexchangetradingfloorMayworkforthebrokeragehouseorserveastheiragentCompletesthephysicaltradewithotherfloorparticipantsFloorBrokerHowTradesAreExecutedSpecialistsserveasbrokers,matchingbuy/sellordersinafew,specificstocksontheexchangeServeasadealer,buying/sellingtocompletetransactionServetomaintainfairandorderlymarketSpecialistsHowTradesAreExecutedMarket-makershavedealerpositionsinspecificstocksandcompletetransactionsonNASDAQmarketNospecificlocationaswithspecialistsonexchanges—telecommunicationslinkSpecialistsandmarket-makersprovidecontinuousmarketliquidityMarket-MakersElectronicCommunicationsNetworks(ECNs)AutomatedsystemsfordisclosingandexecutingstocktradesFocusoninstitutionalmarkettradingwithlarge-sizetradesandlowerspreadsAprogrammedmarketvs.tradingbypeopleStartedonNASDAQ;spreadingtoexchange-tradedstocksECNsspecializebytypesorders:market,limit,etc.ProgramTradingTradingcompletedbycomputer“program”Initialusewithinstitutional,largeorder,highvolumetotakeadvantageoftechnologyNYSElistedstocksdominateprogramtradingTradingafunctionofparameterssetin“program,”suchas“over-valuedshares”UsedalsotomanageportfolioriskPortfolioinsurance—useofstockindexfuturesProtectgainorminimizelossinportfolioProgramTrading,cont.ProgramtradingassociatedwithincreasedvolatilityofstockmarketorincitingsignificantmarketdeclinesResearchhasrefutedclaimthatprogramtradinghasincreasedstockmarketvolatilityHasnotbeentheinitial“starter”ofsharpmarketdeclinesNYSEimplemented“collars”orcurbstoprogramtradinginvolatileperiodsCircuitbreakers—market“timeout”RegulationofStockTradingPurposeofstocktradingregulationTomakemarketmoreefficientPromoteandpreservecompetitionPreventunfairorunethicaltradingpracticesProvideadequatedisclosureofinformationTopreventmarketfailure—circuitbreakersSecuritiesActof1933andSECActof1934SECusessurveillancesystemtowatchtradingInsidertradingAttemptstocornermarketSecuritiesandExchangeCommissionCongressprovidedSECwithbroadpowerstoregulatestockmarketsMayprescribeaccountingstandardsandtheextentoffinancialdisclosureEstablishregulationsforstocktradinganddisclosurefrom“insiders”RegulatesstockmarketparticipantstomaintainafairandorderlymarketStructureoftheSECFiveCommissionersAppointedbypresidentConfirmedbySenateFive-yearstaggeredtermsPresidentappointsChairSECDivisionsDivisionofCorporateFinanceDivisionofMarketRegulationDivisionofEnforcementSECOversightofCorporateDisclosureRegulationFairDisclosure(FD),October,2000RequirescorporationstodiscloserelevantinformationbroadlytoinvestorsatthesametimeForbadeoldpracticeofprovidingselectedanalystsnewinformationduringteleconferencecallsMeansofdisclosingnewinformationCompanyWebsite—Webcast8-kformfilingNewsreleaseAbovesimultaneouslywithconferencecallSECOversightofAnalysts’RecommendationsSell-sideanalystsrewardedforsuccessofunderwriting(saleofsecurities)Analysts’informationusedbyinvestorsRecommend“buy”or“sell”Few“sell”recommendationsbeforecollapseofInternetcompaniesDoanalysts“tout”stocksaftertheyareawareof“negative”information?Shouldanalysts’highincomebesharedwithinvestorswholostmoneyinstock?ThreeTraditionalBarrierstoInternationalStockTradingClassicBarriersToCapitalFlowTransactionCostsInformationCostsExchangeRiskCostsThreeTraditionalBarrierstoInternationalStockTradingIncreasedconsolidationandincreasedefficiencyofinternationalstockexchanges