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CHAPTER 2: INVESTING IN STOCKS

SHARE OF STOCK
A financial security issued by an incorporated company to raise long-term capital for
business growth and expansion activities
The smallest unit of ownership in a company.
Shares may be of different classes, carrying with them different rights as to dividends, that
is, as to participation in the profits of the company, return on capital on winding up, voting,
etc.
REASONS TO INVEST IN SHARES
Income from dividends - Dividends are a distribution of profits. Companies pay dividend
either every six months (interim) or on a yearly basis.
Capital gain from the appreciation of share value Strategy of buy low and sell high. The
difference between the purchase price and the selling price represents the capital gain or
the profits reaped by the investor
CLASSES OF SHARES
Ordinary Shares/Common Stock
Ordinary shares are issued to investors who are interested to be the owners of a
company.
A shareholder can be an individual or a company that legally owns one or more
shares of stock in a company.
Ordinary shares are also known as equity capital or equities for short.
Privileges and legal rights of Ordinary Shares
Voting privileges.
Right to information.
Pre-emptive rights.
Rights to dividends.
Limited liability.
Residual claim.
Preference Shares/Preferred Stock
Do not carry voting rights but are legally entitled to receive a fixed level of dividend
payments.
Not tax deductible in computing the tax liability of the issuing company
Rights of Preference Shareholders
Higher priority than ordinary shareholders to receive dividend
Cumulative dividend such that if dividend is not paid, it accumulates from
year to year.
Preference shares may or may not have a fixed liquidation value, or par
value associated with them.
A claim on liquidation proceeds in the event of a company failure.
Have a negotiated fixed dividend amount
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CATEGORY OF PREFERENCE SHARES


1. Cumulative
Receive a stated yearly dividend if profits are available
If no available profit, arrears are carried forward
preference shares.
2. Non-cumulative
preferences
shares.
3. Participating
preference shares.
4. Redeemable
preference shares.
5. Convertible
preference shares.

TYPE OF STOCKS
1. Blue Chip

2. Penny
3. Income
4. Value

5. Defensive

6. Cyclical

7. Treasury

If dividend is not paid in any year, shareholder will lose their


right to receive any dividend for that year
Receive a stated preferential dividend yearly
Possess the right to participate to the extent indicated in any
is further profits after ordinary shareholders have been paid
To be redeemed by the company at a later date out of profits
or out of proceeds of fresh issue of shares
Allowed to convert to pre-determined no. of ordinary shares
Can occur at any time regardless of current market price of
ordinary shares (depending on agreement)

High price due to high demand


Low volatility and deliver a steady stream of dividends
Safe investment thus attract conservative investors
Low price and speculative stocks that are very risky
Popular among small speculators
Pay higher-than-average dividend over a sustained period
Example: utilities and telephone company stocks
Selling at a low price
Companies with good earnings and growth potential but do
not reflect its stock prices
Stock prices stay stable when market declines
Issued by industries that naturally do well during recession
Example: food and utilities company stocks
Move up or down in sync with business cycle
Company serves the needs of growing economies
Example: housing industry and industrial equipment company
Has been bought back by company issuing it when the stocks
are underpriced in the market
Companies then set aside the stock for future use (debt
payment or awarding of stock options)

A. PRIMARY MARKET
Also called the new issue market, and is the market for issuing new securities.
Many companies which include large privately owned, small and medium-sized companies
enter the primary market to raise money from the public to expand their businesses.
This phenomena is known as "public issue" or "going public"
INITIAL PUBLIC OFFERING (IPO)
A privately owned company issues shares of stock to be sold to the general public for the
first time thus highly risky.
The money investors pay for the ordinary shares in to become the stockholders of the
company, flows direct to the company that makes the offering.
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REASONS FOR COMPANIES GOING PUBLIC


To obtain more capital to finance growth.
To source long-term capital.
To allow owners to realize their assets.
To make the shares more marketable.
To enable payment of managers by stock options.
To facilitate growth by acquisition.
To enhance the companys image.
To act as a catalyst for the participation of foreign partners.
To establish good corporate governance practices.
To boost employee pride.
LISTING METHODS
There are two methods by which an unquoted company can obtain a quotation on a stock exchange.
1. Public Offer for Sale
When companies go public for the first time, a large issue will probably take the
form of an offer for sale.
Shares can be offered to the public either at a fixed price or by tender.
A prospectus will be drawn up and is intended to provide investors with the
information they need to decide whether to invest in the company or otherwise.
2. Private Placement
Shares are offered to clients or other contacts of the investment bank leading the
issue, rather than to the general public.
Costs of advertising the shares and producing documentation are reduced. This is
attractive to smaller companies.
Disadvantages include shares end up being held by a smaller number of more
powerful investors and that often the discount on the issue is greater than with
public offers.
COST OF AN IPO
IPOs can vary greatly from one company to another, and they require a long, expensive and
complicated process.
A company needs to consider the costs of engaging underwriters, attorneys, accountants as
well as printing costs of prospectuses and the listing fees imposed by the stock exchange.
RIGHT ISSUE
A company already listed on the stock exchange wishing to issue additional new shares can
do so by offering a rights issue
A rights issue provides a way of raising new share capital for the company by means of an
offer to existing shareholders, inviting them to subscribe cash for new shares in proportion
to their existing holdings.
A rights issue must be low enough to secure the acceptance of shareholders who are asked
to provide extra funds, but not too low, so as to avoid excessive dilution of the earnings per
share.

OPTIONS OF RIGHT ISSUES


Take up his rights by buying the specified proportion at the price offered.
Renounce his rights and sell them in the market.
Renounce part of his rights and take up the remainder.
Do nothing.

B. SECONDARY MARKET

A market for existing financial securities that are currently traded among investors.
The secondary market is much larger and much more active than the primary market.
Price discovery occurs and that liquidity is created for investors.
Transactions in the secondary market do not provide additional funds to the company.
Can be in the form of organized stock exchanges or over-the-counter market.

STOCK EXCHANGES
A corporation which provides a place and facilities for the trading of shares issued by
companies, unit trusts, other pooled investment products and debt securities like debenture
and bond.
A stock exchange can be considered as a marketplace where traders and member brokers
who represent investors meet to buy and sell stocks and other securities on behalf of their
clients.
TYPE OF STOCK EXCHANGES
1. Physical
physically located and transactions are executed on a trading floor using a method
known as open outcry
2. Virtual
equipped with a network of computers where trades are conducted electronically
through the actions of traders.
LISTING REQUIREMENTS
Listing requirements are the set of conditions imposed by a stock exchange upon companies
that want to be quoted on that exchange.
Such conditions may include minimum number of shares outstanding, minimum market
capitalization and minimum annual income.
Listing requirements vary by stock exchange.
BURSA MALAYSIA
The only stock exchange approved by the Minister of Finance under the provisions of the
Securities Industry Act 1983.
A self-regulatory organization with its own memorandum and articles of association.
It is responsible for the surveillance of the marketplace and for the enforcement of its listing
requirements, which spell out several criteria for listing, disclosure requirements and
standards to be maintained by listed companies.

LISTING REQUIREMENTS OF BURSA MALAYSIA


Profit Test
Uninterrupted profit after tax (PAT) of three to five full financial
years (FY), with aggregate of at least RM20 million; and
PAT of at least RM6 million for the most recent full financial year.
Market
Capitalization Test

A total market capitalization of at least RM500 million upon listing; and


Incorporated and generated operating revenue for at least one full FY
prior to submission.

Infrastructure
Project
Corporation Test

Must have the right to build and operate an infrastructure project in or


outside Malaysia with project costs of not less than RM500 million;
and for which a concession or license has been awarded by a
government or a state agency, in or outside Malaysia, with remaining
concession of license period of at least 15 years.

IPO price

Minimum RM0.50 each

Public Spread

At least 25% of the company's share capital; and


Minimum of 1,000 public shareholders holding not less than 100
shares each.

Core Business

An identifiable core business in which it has majority ownership and


management control.
Core business should not be holding of investment in other listed
companies.

Financial Position
& Liquidity

Sufficient level of working capital for at least 12 months;


Positive cash flow from the operating activities; and
No accumulated losses based on its latest audited balance sheet as at
the date of submission.

OVER-THE-COUNTER MARKET
The over-the-counter (OTC) market is a network of dealers who buy and sell the stocks of
companies that are not listed on a stock exchange.
Over-the-counter trading unlike stock exchanges is done directly between two parties with
a market maker (dealer) as the middleman.
An over-the-counter dealer who sit at a computer terminal will match all the buy and sell
orders for that particular share of stock.
TYPE OF ORDERS
1. Market order
a request to buy or sell shares of a stock at the best price available when the order
reaches the marketplace.
2. Limit order
a request to buy or sell shares at a specified price (the limit) or better.
3. Stop loss order
an order to sell a particular stock at the next available opportunity after the price of
the stock reaches a specified amount.
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BUYING STOCK ON MARGIN


Investors borrow some of the money needed to buy stocks by setting up a margin account
with a broker.
The margin requirement is set by the authorities regulating the stock exchange and is
designed to protect the broker against a fall in the value of securities to the point they no
longer cover the loan
Investors who buy on margin will need to pay interest on the borrowings made from the
broker.
Investors buy on margin because the financial leverage provided by borrowing money can
increase the return on investment.
SELLING SHORT
A way for investors to make money in a declining stock market by borrowing rather than
buying stocks
The biggest risk about short selling is how well you can forecast the market direction.
STOCK MARKET INDEXES
Stock market indexes track the movements of securities prices in a market or a section of a
market.
Each of the indexes tracks the performance of a specific basket of stocks considered to
represent a particular market or sector of the economy.
TYPE OF STOCK MARKET INDEXES
1. Broad-base index
represents the performance of a whole stock market and by proxy reflects investor
sentiment on the state of the economy.
2. Price-weighted index
an index in which each stock influences the index in proportion to its price per share.
3. Market-value weighted or capitalization-weighted index
an index whose individual components are weighted according to their market
capitalization, so that larger components carry a larger percentage weighting.
4. Market-share weighted index
price is weighted relative to the number of shares, rather than their total value.