FBE 555 - 3. Trading Part 2

Primary Markets

Markets where firms issue new securities with help from underwriters.

Secondary Markets

Markets where investors trade previously issued securities.

Stock Market Structure

Stocks typically trade on auction markets like NYSE and NASDAQ.

Bond Market Structure

Bonds usually trade in dealer markets (OTC) with market makers.

Market Order

An order to buy or sell immediately at the best available price.

Limit Order

An order to buy or sell at a specific price or better.

Limit Order Book

A collection of all outstanding limit orders.

Bid-Ask Spread

The difference between the highest price a buyer will pay and the lowest price a seller will accept.

Trading Costs

Includes bid/ask spread

Stop Order

A price-triggered market order

Stop-Loss Order

A stop order that becomes a market sell order if price drops below a set value.

Limit Sell Order

An order to sell at a specified price or higher.

Risk of Stop Orders

No guaranteed execution price

Flash Crash (May 6

2010)

Liquidity Measures

Bid/ask spread

Algorithmic Trading

High-frequency traders responsible for 40-60% of US trades.

HFT Behavior

Provide liquidity but not required to post limit orders.

Margin

Collateral (cash/securities) held by brokers to secure trades.

Buying on Margin

Borrowing funds from a broker to buy securities.

Initial Margin

The percentage (typically 50%) you must provide upfront.

Maintenance Margin

The minimum equity required in your account (25-50%).

Margin Call

A demand to deposit more funds or reduce position if equity falls below the maintenance margin.

Short Selling

Selling borrowed shares with the intent to buy back at a lower price.

Short Selling Risk

Potential for unlimited losses if the stock price rises.

Short Squeeze

When rising prices force short sellers to cover

GameStop & Melvin Capital

Melvin Capital lost ~53% during the GME short squeeze.

Market Efficiency and Shorts

Shorting allows negative information to be reflected in prices.

Short Borrowing Costs

Typically low but can spike; stock may be unavailable to borrow.

BBBY Example

An instance where shares were unavailable for shorting.

Shorting Bitcoin

A topic of debate; depends on market availability of BTC shorts.

Summary of Stop Orders

Useful tools with market-order risk

Summary of Margin

Enhances buying power but increases risk and chance of margin calls.

Summary of Shorting

Important for price discovery and market efficiency but carries high risk.