Kousovleva N

МЭ-413

Securities and shares

Security is a financial instrument that signifies an ownership position in a corporation (a share), a creditor relationship with a corporation or governmental body (a bond), or rights to ownership such as those represented by an option, subscription right and subscription warrant.

According to the form of raising the capital securities are classified into:

debt securities (bonds). Bond - a promise by the company or government to pay back a loan plus a certain amount of interest over a definite period of time;

equity securities (shares). A share - is a security representing a portion of the nominal capital of a company and giving its holder part of the ownership of a company.

According to the issuer there are industrial and commercial, government and municipal securities.

According to the form of issuing there are scrip and inscribed. A person who buys an inscribed security has his name entered in the inscription books of the registration authority, but he is not given any certificate.

According to the holder securities can be:

registered (the names and addresses of the holder are entered in a register which shows the amount of stock or the number of shares which they hold. Each holder is given a share certificate);

bearer (the title to bearer securities passed by delivery);

order (it is registered security passes to another person by inducement).

According to the term of circulation (maturity) there are long-term or long dated (more than 1 year) and short-term or short dated (up to 1 year).

According to the resource the security is based on primary (shares and bonds) and secondary (options and warrants).

According to the investment qualities there are accounting to liquidity, risk and yielding.

As I have mentioned above, a share (GB) or a stock (US) is a security representing a portion of the nominal capital of a company. Another name for shares is equities, because all the stocks or shares of a company have an equal nominal value.

People who own stocks are referred to as investor or shareholders (stockholders and bondholders). When you hold a stock in a corporation you are part owner of the corporation. As a proof of ownership you may ask for a certificate with your name and the number of shares you hold. By the law, no one under 21 can buy or sell stocks. But minors can own stocks if kept in trust for them by an adult. Shareholders have certain basic rights in proportion to the number of shares he or she owns. Buying a share gives its holder part of the ownership of a company. Shares generally entitle their owners to vote at a company's Annual General Meeting (GB) or Annual Meeting of Stockholders (US), and to receive a proportion of distributed profits in the form of a dividend - or to receive part of the company's residual value if it goes into liquidation. Shareholders can sell their shares on the secondary market at any time, but the market price of a share - the price quoted at any given time on the stock exchange, which reflects (more or less) how well or badly the company is doing - may differ radically from its nominal, face, or par value.

According to the right to get dividends stocks can be divided into preference, ordinary and deferred shares. Preference shares or preferred stock rank before ordinary shares in the payment of dividend and distribution of assets if a company goes bankrupt. They can be classified into cumulative and non-cumulative. If any particular year the company earns insufficient profits to enable the preference dividend to be paid the dividend in cumulative stocks will be paid when profits are available or in case of non-cumulative that year's dividend will never be paid. Ordinary shares rank for dividend and often for capital repayment after the preference shares and accordingly they carry most of the risk. They are often the only kind of shares with voting rights. Deferred shares do not receive a dividend until other categories of shares have had a dividend paid on them, but might earn a higher dividend if the company does well. They are rarely issued nowadays.

According to the issuer there are shares of private limited companies (their holders have the right not to sell shares outside the company) and shares of public limited companies.

According to the holder shares can be registred and bearer.

According to the form of issuing there are scrip and inscribed.

According to qualities and values investors want, it can be growth, cyclical and defensive shares. Growth stocks, in their turn, are classified into:

high growth stocks (shares of companies that are clearly growing much faster than average, sell at premium and very risky);

moderate growth stocks (shares of companies whose earnings grow at faster than average rate for its industry, they do not sell at premium and the risk not very great);

shares of companies that grow in line with the economy.

Cyclical shares are shares of companies that do not show any clear growth trend, but where shares flactuate in line with the business cycle. One can make money if he buys these near the bottom of price cycle and sell near the top.

Defensive or income stocks are shares that offer a good yield but only a limited chance of a rise or decline in price (in an industry that is not much affected by cyclical trends).

The act of issuing shares (GB) or stocks (US) for the first time (in the primary market) is known as floating a company (making a flotation). Companies generally use an investment bank to underwrite the issue, i.e. to guarantee to purchase all the securities at an agreed price on a certain day, if they cannot be sold to the public.

Companies wishing to raise more money for expansion can sometimes issue new shares, which are normally offered first to existing shareholders at less than their market price. This is known as a rights issue. Companies sometimes also choose to capitalize part of their profit, i.e. turn it into capital, by issuing new shares to shareholders instead of paying dividends. This is known as a bonus issue or scrip issue or capitalization issue in Britain. And a stock dividend or stock split in the USA.

Speaking about securities, it is necessary to mention about speculation. The buying of something cheap at one time for the purpose of selling the same thing dearer at another time is speculation. Whilst in a sense all deals are speculation, the term is generally limited to circumstances where profit is made because the same thing has different prices at different times. Anyone who does so is said to be a speculator. A speculator on the stock exchange is a person who backs the judgment he makes about likely developments by buying or selling shares. The chief varieties of speculators on the stock exchange are known as “bulls”, “bears” and “stags”.

People who buy securities expecting their price to rise so they can resell them before the next settlement day are known as “bulls”. “Bears” are pessimistic speculators who expect a fall in share prices. They sell any shares they have now, and even shares they do not have, because, if prices fall as expected, the shares will be available in a few hours or days at lower prices than at present.

In both cases the success of the speculation depends both on a correct forecast of the security price movement and on a sufficiently long time interval before payment or delivery must be made. It quite often happens that “bulls” or “bears” are wrong in their anticipations, or that they are convinced that by holding out even beyond settlement day they could still make a profit.

To meet this case a delaying procedure has been evolved which allows the speculators to let their bargains stand over until the following settlement day. This is known as “contango” or “continuation”.

“Stags” are speculators who operate in the “new issues” market rather than on the Stock Exchange, although they must use the Stock Exchange before they can realize any profit. He does not want to keep the shares, or invest in the company that is issuing them, but to make a profit out of the issue. The “stag” expect that the stock will quickly rise to a premium in the market, and he will then sell his stock at a profit. The activities of “stags” have been greatly reduced in recent years.

Stock Exchanges are the markets where shares are bought and sold under fixed rules, but at prices controlled by supply and demand. The main idea of Stock Exchanges is to enable public companies, the state and local authorities to attract capital by way of selling securities to investors.

According to territory Stock Markets can be classified into:

international

regional

national (domestic)

According to the number of transferring there are primary and secondary markets.

According to the company's status the are listed (quated) and unlisted (over-the-counter) markets.

According to the tendencies their are beare market (decrease) and bull market (increase).

Individuals, and groups of people doing business as a partnership, have unlimited liability for debts, unless they form a limited company. If the business does badly and cannot pay its debts, any creditor can have it declared bankrupt. The unsuccessful business people may have to sell nearly all their possessions in order to pay their debts. This is why most people doing business form limited companies. A limited company is a legal entity separate from its owners, and is only liable for the amount of capital that has been invested in it. If a limited company goes bankrupt, it is wound up and its assets are liquidated (i.e. sold) to pay the debts. If the assets don't cover the liabilities or the debts, they remain unpaid. The creditors simply do not get all their money back.

Most companies begin as private limited companies. Their owners have to put up the capital themselves, or borrow from friends or a bank, perhaps a bank specializing in venture capital. The founders have to write a Memorandum of Association (GB) or a Certificate of Incorporation (US), which states the company's name, its purpose, its registered office or premises, and the amount of authorized share capital. They also write Articles of Association (GB) or Bylaws (US), which set out the duties of directors and the rights of shareholders (GB) or stockholders (US). They send these documents to the registrar of companies.

A successful, growing company can apply to a stock exchange to become a public limited company (GB) or a listed company (US). Newer and smaller companies usually join 'over-the-counter' markets, such as the Unlisted Securities Market in London or Nasdaq in New York. Very successful businesses can apply to be quoted or listed (i.e. to have their shares traded) on major stock exchanges. Publicly quoted companies have to fulfill a large number of requirements, including sending their shareholders an independently-audited report every year, containing the year's trading results and a statement of their financial position.

Generally, financial markets are classified as money or capital markets and primary or secondary markets.

Money markets deal in short-term securities having maturities of one year or less. Capital markets deal in long-term securities having maturities greater than one year. An investor who purchases new securities is participating in a primary financial market. An investor who resells existing securities is participating in a secondary financial market.

So, when businesses, units of governments or individuals cannot satisfy their needs for funds by revenue from sales of goods and services, they can turn to either debt financing (any process by which the firm gets cash or some other assets in return for a promise to pay an agreed upon sum plus interest) or equity financing (any process by which a firm raises funds in return for a share in its ownership and management).

A significant part of debt financing is issuing bonds which will be analyzed in details in the essay “Securities and Bonds”.

Kousovleva N

МЭ-413

Bonds

I would like to start with describing securities, because bonds are related to it. Security is a financial instrument that signifies an ownership position in a corporation (a share), a creditor relationship with a corporation or governmental body (a bond), or rights to ownership such as those represented by an option, subscription right and subscription warrant.

According to the form of raising the capital securities are classified into:

debt securities (bonds). Bond - a promise by the company or government to pay back a loan plus a certain amount of interest over a definite period of time;

equity securities (shares). A share - is a security representing a portion of the nominal capital of a company and giving its holder part of the ownership of a company.

According to the issuer there are industrial and commercial, government and municipal securities.

According to the form of issuing there are scrip and inscribed. A person who buys an inscribed security has his name entered in the inscription books of the registration authority, but he is not given any certificate.

According to the holder securities can be:

registered (the names and addresses of the holder are entered in a register which shows the amount of stock or the number of shares which they hold. Each holder is given a share certificate);

bearer (the title to bearer securities passed by delivery);

order (it is registered security passes to another person by inducement).

According to the term of circulation (maturity) there are long-term or long dated (more than 1 year) and short-term or short dated (up to 1 year).

According to the resource the security is based on primary (shares and bonds) and secondary (options and warrants).

According to the investment qualities there are accounting to liquidity, risk

and yielding.

When businesses, government or individuals cannot satisfy their needs for funds by revenue from sales of goods and services, they can turn to either debt financing or equity financing.

Debt financing is any process by which the firm gets cash or some other assets in return for a promise to pay an agreed upon sum plus interest. Equity financing is any process by which a firm raises funds in return for a share in its ownership and management. A significant part of debt financing is issuing bonds.

Generally speaking bonds are securities issued by company, governments and financial institutions when they need to borrow money. A bond represents a promise by the company or government to pay back a loan plus a certain amount of interest over a definite period of time. Bonds differ from shares, though they are both belong to securities. Share (GB) or a stock (US) is a security representing a portion of the nominal capital of a company. Shareholders have certain basic rights in proportion to the number of shares he or she owns. Buying a share gives its holder part of the ownership of a company. Shares generally entitle their owners to vote at a company's Annual General Meeting (GB) or Annual Meeting of Stockholders (US), and to receive a proportion of distributed profits in the form of a dividend - or to receive part of the company's residual value if it goes into liquidation. Bonds are obligations that are issued by companies and governments that are in essence promises to pay individuals or other investors - providers of funds - and they generally provide for a fixed rate of interest, that is a fixed repayment schedule, and a date in the future at which the money will be returned. They are different from stocks, which have an uncertain future pay-off, depending on a company's performance, and no final maturity date, so long as the company remains active and solvent.

There are different types of bonds. According to the functioning there are long-term and short-term bonds. Long-term bonds are government bonds and gilt-edged securities (gilts - GB, treasury bonds - US). Short-term bonds are sold and bought by GB and US central banks as a way of regulating money supply (treasury bills).

In term of maturity there are long-term, short-term, middle(medium) term and super long term bonds.

In form of holders there are registered and bearer certificate.

Also bonds can be divided into convertible, junk and floating rate notes. Convertible bond has features of both a traditional bond, as well as a stock. Convertible means that the bond is exchangeable for equity or stock. It looks like an ordinary bond, it pays a fixed interest rate, it has a final maturity date, but it also has a feature that permits the holder to redeem it for shares in the borrower. Junk bonds (high yield securities) are bonds that are issued by companies that are seen to be a very high risk of default. The interest rate of the floating rate notes is variable. It is usually indexed to a particular reference rate, such as prime rate, which varies from time to time so that a holder of those notes would see the interest that they received vary over the time, depending on the level of interest rates in the market place.

According to the issuer there are government, finance and corporate securities. Government bonds issued by the governments like gilt-edged securities. Finance bonds issued by banks and non-financial institutions. Company bonds (corporate) issued by shareholding companies and can be divided into short term, medium term, long term and finally super long term.

There are three main groups of investor clients:

individuals;

pension funds (who make investments on behalf of their members for their retirement monies);

- mutual funds (which constitute a very large source of savings in the country).

Investors can obtain a return on their bonds investments by holding them to maturity.

These investors are usually characterized as long-term investors and buy-and-hold investors, and they would receive their return over time by receiving periodic interest payments, usually twice a year, and the upon the maturity of the bond, getting their principal back.

Bond-issuing company are rated by private ratings such as Moody's and Standard & Poor's, and given an 'investment grade' according to their financial situation and performance, AAA being the best, and С the worst, i.e. nearly bankrupt. Obviously, the higher the rating, the lower the interest rate at which a company can borrow.

Most bonds are bearer certificates, so after being issued (on the primary market), they can be traded on the secondary bond market until they mature. Bonds are therefore liquid, although of course their price on the secondary market fluctuates according to changes in interest rates. Consequently, the majority of bonds on the secondary market are traded either above or below par. A bond's yield at any particular time is thus its coupon (the amount of interest it pays) expressed as a percentage of its price on the secondary market.

For companies, the advantage of debt financing over equity financing is that bond interest is tax deductible. In other words, a company deducts its interest payments from its profits before paying tax, whereas dividends are paid out of already-taxed profits. Apart from this 'tax shield', it is generally considered to be a sign of good health and anticipated higher future profits if a company borrows. On the other hand, increasing debt increases financial risk: bond interest has to be paid, even in a year without any profits from which to deduct it, and the principal has to be repaid when the debt matures, whereas companies are not obliged to pay dividends or repay share capital. Thus companies have a debt-equity ratio that is determined by balancing tax savings against the risk of being declared bankrupt by creditors.

Governments, of course, unlike companies, do not have the option of issuing equities. Consequently they issue bonds when public spending exceeds receipts from income tax, VAT, and so on. Long-term government bonds are known as gilt-edged securities, or simply gilts, in Britain, end Treasury Bonds in the US. The British and American central banks also sell and buy snort-term (three month) Treasury Bills as a way of regulating the money supply. To reduce the money supply, they sell these bills to commercial banks, and withdraw the cash received from circulation; to increase the money supply they buy them back, paying with newly created money which is put into circulation in this way.

Advantage of bonds as opposed to other way of investing money is that bonds represent an investment that carries a moderate degree of risk. And investors like to hold a diversified portfolio of investments, some with very low risks, for example, government securities, where the risk of non-payment or default is very low, whereas other parts of their portfolios would be considered much higher risk, namely investments in stocks, so bond provide an asset that has a moderate level of risk.

Another advantage of trading bonds for an investor and how an investor would realize their gains is through the price appreciation that may accrue to a bond during the time which the investor would hold it. For example, the price of a bond is directly related to the level of interest rates in the economy. If interest rate were to increase the amount that you could invest a dollar today would yield a higher return than the value yesterday. On the other hand, if interest rates fall, the value of that bond that you purchased yesterday increases.

People and organizations wanting to borrow money are bought together with those having surplus funds in the financial markets. Generally, financial markets are classified as money or capital markets and primary or secondary markets.

Money markets deal in short-term securities having maturities of 1 year or less. Capital markets deal in long-term securities having maturities greater than 1 year.

An investor who purchases new securities is participating in a primary financial market. An investor who resells existing securities is participating in a secondary financial market.

Global bond market can be classified into an internal (national) and an external (international) bond markets.

The internal bond market in its turn can be divided into domestic and foreign bond markets. The domestic bond market is where issuers domiciled in the country issue bonds and where those bonds are subsequently traded. The foreign bond market of a country is where bonds of issuers not domiciled in the country are issued and traded. Bonds traded in different countries have different names - Yankee, Samurai, bulldog and matador bonds.

The external bond market includes bonds with several distinguishing features:

they are underwritten by an international syndicate;

at issue they are offered simultaneously to investors in a number of countries;

they are issued outside the jurisdiction of any single country and they are in unregistered form.

The external bond market is commonly referred to as the offshore bond market or Eurobond Market. The Eurobond Market is divided into different submarkets depending on the currency in which the issue is denominated.

Russia follows the common classification of the financial market as capital/money and primary/secondary. But structurally Russian financial markets are divided into a hard-currency market, a bank-credit, debt and equity, and the market of gold and precious metal. Russian investors prefer operations in the hard currency to investing in the real sector of the economy. Russian capital markets are weak and vulnerable, and it's pity, because the debt market is a powerful instrument of monetary policy. Many governments issue bonds to solve their financial problems and to cover budget deficits.