Achievable SIE

What are the two types of stocks?

common stock and preferred stock

What is a common stock?

It's a representation of ownership in a company (issuer).

If you own stock in a company like Coca-Cola, you're an owner of Coca-Cola. Granted, you're a very small owner of the company unless you own a significant amount of shares.

For context, Coca-Cola has over 4 billion shares outstanding. It's common for companies to have millions or billions of shares of stock that represent the overall ownership of the company. Because of this, common stock is referred to as an equity position.

What is an Issuer?

An organization that distributes and sells securities to investors

Example: Coca-Cola is the issuer of Coca-Cola stock

What is a Security?

Legal term for an investment

Examples: common stocks, bonds, mutual funds, ETFs, options

What is an Equity?

Formal term for ownership

What dictates the stock prices?

The stock market is where stocks are traded between investors; stock prices are dictated by supply and demand. Simply put, prices rise if more investors wish to purchase stock, and prices fall if more investors wish to sell stock.

What are the two ways to make money on common stock?

1. Capital Appreciation (also known as growth or capital gains)

2. Cash dividends

What is Capital Appreciation?

is a rise in an investment's market price.

Capital appreciation is the difference between the purchase price and the selling price of an investment. If an investor buys a stock for $10 per share, for example, and the stock price rises to $12, the investor has earned $2 in capital appreciation.

What is Cash Dividends?

is the distribution of funds or money paid to stockholders generally as part of the corporation's current earnings or accumulated profits. It is paid directly in money, as opposed to being paid as a stock dividend or other form of value.

What is Retained Earnings?

Profits retained by a company, often used to expand and reinforce business operations. In other words,
earnings that are not paid to investors by dividend

What are growth companies?

aiming to increase the size of their business operations and profitability.

While Amazon is large and well-established, start-ups and small businesses often fall into this category as well. Investments in growth companies provide the opportunity for capital appreciation but generally do not pay income (dividends) to shareholders.

Typically have higher PE ratios. These are companies that have an evolving and expanding business and are expected to make larger profits in the future. Therefore, the investment may seem "overpriced" today, but it may be a good deal in the long term. Think about it this way: what's the only reason you would pay a significant amount of money for a business or investment that produces very little profit right now? The only sensible reason is a belief that profits will rise considerably in the future.

How can dividends be paid?

Can be paid in one of three forms:
1. Cash
2. Stock
3. Product
Cash dividends are usually paid quarterly

What are stock dividend consequences?

1. More shares outstanding
2. Lower price per share
3. Same overall value

Who votes in Board of directors?

shareholders

What is the role of the Board of directors?

- Hiring and/or firing senior-level employees
- Managing senior-level employee compensation
- Creating and implementing general company policies
- Approving dividend payouts to investors

What are the two voting structures for the BOD?

Statutory or Cumulative

How many votes does each stockholder get?

Each stockholder gains one vote for every share they own, but the way votes are cast is dependent on the company's voting structure.

How do stockholders vote?

at the annual stockholder meeting or through a proxy.

Every year, publicly traded companies arrange and hold a stockholder meeting. For example, here's a video of Tesla's 2021 annual meeting. At these gatherings, a number of issues are discussed, which include company performance, the outlook for the future, and items to be voted on. Most stockholders are unable to attend these meetings, but they can still vote through a proxy.

What is proxy voting?

are substitutes for voting at these stockholder meetings.

With the help of financial firms, the company sends these proxies (voting materials) to the shareholders that don't attend the annual meeting. That way, every stockholder has voting power, regardless of their ability to attend the meeting.

What is the Statutory voting structure?

Allows the stockholder to apply only the amount of votes they have to each BOD position being voted on.

Statutory voting structures are more beneficial for larger stockholders.

An investor owns 100 shares of stock with a statutory voting structure. There are 3 open board positions.

The investor has 300 votes
100 shares x 3 open positions
The investor can only apply up to 100 votes per open position

More beneficial for large stockholders

What is the Cumulative voting structure?

Allows the stockholder to apply the total amount of votes they have to any BOD position being voted on.

Cumulative voting structures are more beneficial for small stockholders.

An investor owns 100 shares of stock with a cumulative voting structure. There are 3 open board positions.

The investor has 300 votes
100 shares x 3 open positions
The investor can apply up to 300 votes in any manner

More beneficial for small stockholders

What is inspecting books and records?

sounds complicated, but it's fairly straightforward. A company's performance is something investors want to keep track of. Stockholders should be concerned with the success of their company as their performance influences profit.

What is financial reporting?

Publicly traded companies must file ongoing financial disclosures

What is the 10-K annual report?

Audited financial report

Example: Tesla 10K filing

What is the 10-Q quarterly report?

Unaudited financial report

Example: Microsoft 10Q filing

Who enforces reporting requirements?

The Securities and Exchange Commission (SEC) also enforces reporting requirements for publicly traded companies by requiring these documents to be created and distributed regularly:

- 10-K annual report
- 10-Q quarterly report

What is dilute ownership and what are the two ways to dilutive efforts?

Lessen your ownership of shares. For instance, lessen your ownership to a level lower than 10%.

Two dilutive efforts are the issuance of new shares and the issuance of convertible securities.

What are authorized shares?

is the number of shares a company can sell to investors.

If a company authorizes 1 million shares, it may sell up to 1 million shares of stock. Companies give up ownership (stock) in return for capital (money).

What are the types of shares?

Shares of stock can be placed into one of four different categories: authorized, issued, outstanding, and treasury.

What are issued shares?

The amount of shares a company actually sells during its initial public offering (IPO) is referred to as issued shares.

Once shares are issued, they trade in the secondary market among investors.

Let's say a company authorizes 1 million shares but decides to sell 500,000 shares. You, as an investor, purchase 50,000 shares, which is a 10% ownership position. Simply stated, you own 10% of the outstanding shares of this company.

What are outstanding shares?

issued shares that are owned by stockholders

What are treasury stocks?

Sometimes companies repurchase their own stock from the market and there are a number of reasons why this may occur.

For example, ABC company may buy shares and give them to their officers or directors as a bonus.

Regardless of the reason, shares repurchased from the market are considered __________.

What is a pre-emptive right?

Right of an existing shareholder to maintain her percentage of ownership by buying stock whenever there is a new issuance of stock FOR MONEY

- Right to purchase new shares at a fixed price
- Intrinsic value at issuance
- Little time value
- Short-term (typically 90 days or less)
- Possible outcomes for rights:
1. Exercise
2. Trade
3. Expire

What is a intrinsic value?

which means they have immediate value.

For each right that a stockholder has, they can purchase 1 new share from the company for $40, which is $10 cheaper than its current market value of $50.

The company automatically provides this value because they're saving money by avoiding the services of an underwriter.

What is an underwriter?

Underwriters generally receive underwriting fees from their issuing clients, but they also usually earn profits when selling the underwritten shares to investors.

However, underwriters assume the responsibility of distributing a securities issue to the public. If they can't sell all of the securities at the specified offering price, they may be forced to sell the securities for less than they paid for them, or retain the securities themselves.

When receiving rights, what are the investors options?

Investors can exercise them and purchase the new shares at the exercise price.

If an investor doesn't want to buy the new shares, they may sell the rights in the market. Remember, rights have intrinsic value and another investor would be happy to purchase them for the right price.

Last, investors can let the rights expire. Rights don't last forever and typically expire within 90 days of issuance. Although it wouldn't be smart, an investor could let them expire and not gain anything from them.

What are Warrants?

are very similar to rights as they provide the right to purchase shares from a publicly traded company at a fixed price. We'll first discuss the characteristics of warrants, then compare and contrast them with rights.

Assume a company's stock is trading at $50. If a warrant is issued, it will have a fixed exercise price, but at a premium to the market price. For example, let's say a warrant is issued with an exercise price of $60. Up front, it makes no financial sense to exercise the warrant. Why would you purchase stock at $60 through a warrant, when you can just go to the market and purchase shares at $50?

Warrants have time value, meaning the length of time they exist gives them value. Sure, buying a stock at $60 when the market price is $50 isn't smart. However, warrants typically don't expire for five or more years. The $60 exercise price remains fixed over that time, but the market price won't. If the market price rises to $80 after a few years. Now, that exercise price of $60 sounds much better. This is why warrants can be valuable over time.

Warrants are usually issued as a "sweetener" during the sale of another security. If a company is having difficulty selling a bond, it can make the offering more attractive by attaching a warrant to the bond. Remember those infomercials that offer a bunch of extra items? Buy this TV and we'll give you a toaster for free! It's kind of like that - buy this bond and we'll give you a warrant for free

The issuance of warrants is a dilutive action. If a publicly traded company issues warrants, they're giving out new shares, but not to everyone. Therefore, the issuance of warrants requires stockholder approval.

What are characteristics of rights?

- Right to purchase new shares at a fixed price
- Intrinsic value exists at issuance
- Low time value at issuance
- Short-term (typically 90 days or less)
- Can be exercised, traded, or expire
- Stockholders receive one right for every share owned

What are characteristics of warrants?

- Right to purchase new shares at a fixed price
- No intrinsic value at issuance
- High time value at issuance
- Long-term (typically 5 years or longer)
- Can be exercised, traded, or expire

What are dilutive actions?

Any action reducing percent ownership

Examples: Issuing new shares and Issuing convertible securities

What is a stock split?

if a company feels its stock price is too expensive or cheap, it can consider doing a _______

What are the two types of stock splits?

Forward and Reverse

Forward stock splits

increase the number of outstanding shares

- is pursued when a company feels its stock price is too expensive for the average investor. Let's say ABC company's stock price rises to $150 per share, which is fairly expensive (most stocks trade between $30 - $100). ABC company could consider decreasing its stock price through a stock split.

- For example, a stockholder owns 100 shares of ABC company at a current market price of $150 per share. How will a 2:1 forward stock split impact shareholders?

1. Each stockholder receives 2 shares for every 1 share owned.

2. To find the stock split factor, divide the first number by the second number

3. SS factor = first SS number/second SS number
= 2/1
= 2

4. To find the new number of shares, multiply the original number of shares by the stock split factor

5. New shares = old shares X SS factor
= 100 X 2
= 200

6. To find the price per share adjustment, divide the original price per share by the stock split factor

7. New price = old price/SS factor
= $150/2
= $75

8. Put it all together and compare before and after to confirm
= Before the split: 100 shares @ $150 = $15,000
= After the split: 200 shares @ $75 = $15,000

Reverse stock splits

are persued when a company feels its stock price is too low.

Instead of waiting for market demand to increase their stock price, a company could do a reverse stock split and see an immediate increase in their stock price.

For example, an investor owns 100 shares of stock at a current market price of $10. How will a 1:5 reverse stock split impact the position?

1. Each stockholder receives 1 share for every 5 shares owned. To find the stock split factor, divide the first number by the second number

SS factor = first SS number/second SS number
SS factor = 1/5
SS factor = 0.2

2. To find the number of shares adjustment, multiply the original number of shares by the stock split factor

New shares = old shares X SS factor
New shares = 100 X 0.2
New Shares = 20

3. To find the price per share adjustment, divide the original price per share by the stock split factoor

New price = old price/SS factor
New price = $10/0.2
New price = $50

4. Put it all together and compare before and after to confirm

Before the split: 100 shares @ $10 = $1,000
After the split: 20 shares @ $50 = $1,000

What is liquidation?

is the sale of company assets, which could include buildings, factories, inventory, equipment, and vehicles.

The company will attempt to sell everything it can in order to satisfy its creditors (entities to who the company owes money).

Additionally, the liquidation is meant to serve the stockholders. However, you'll see why stockholders typically won't receive compensation when their company goes bankrupt.

Liquidation priority

1. Unpaid wages
2. Unpaid taxes
3. Secured creditors
4. Unsecured creditors
5. Junior unsecured creditors
6. Preferred stockholders
7. Common stockholders

Secured creditors

have loaned money to the company and their loans are backed by a specific form of collateral.

Secured creditors of corporations typically have a lien on a building, equipment, or some other corporate assets of value.

What is collateral?

property put down as security for a loan

If you have a mortgage, your home is the collateral for the loan. The bank will take your house if you can't pay off their loan.

What is a lien?

The right to property if a loan cannot be repaid

What are unsecured creditors?

if there is extra money left over from the liquidation. These are parties that lent the company money but don't have a lien on any specific asset. Essentially, these are "full faith and credit" loans, which are promises to pay back money without collateral.

What are Junior unsecured creditors?

if there is extra money left over from the liquidation. The only difference between unsecured creditors and junior unsecured creditors is their priority in liquidation. Both lent money to the company with no specific lien on any company assets (collateral). Junior unsecured loans are the riskiest type of loan for any creditor to make.

What does it mean to liquidate?

To turn an asset into cash; to cash in an investment

Who is a transfer agent?

is responsible for facilitating the trade. The _______ is a company that is hired to do several things:

1. Transfer ownership from sellers to buyers after the trade occurs
2. Maintain book of stockholders
3. Make dividend payments to stockholders
4. Distribute proxies (voting materials) to stockholders
5. Keep an accurate count of shares outstanding

What does a security being negotiable mean?

it can be bought and sold among investors who are "negotiating" prices. When an investor purchases common stock, they are owners of the company for as long as they hold those shares. Stockholders may choose to sell their shares at any time. Once shares are sold, the investor locks in their gain or loss and no longer participates in the successes and/or failures of the company.

Negotiable securities must be purchased in the market from another investor. If you wanted to purchase shares of Home Depot stock, you would purchase them in the secondary market from another investor, not directly from Home Depot.

What is the Secondary market?

Where stocks trade after their initial public offering (IPO). Commonly referred to as the "stock market."

What does a security being redeemable mean?

is purchased directly from the issuer, not from another investor in the market. Also, redeemable securities are sold back to the issuer when the investor wishes to "cash out".

What is an issuer?

The organization responsible for creating, registering, and selling a security.

For example:
- Tesla is the issuer of Tesla common stock
- The US Government is the issuer of US Government bonds
- Ford is the issuer of Ford preferred stock

What is a primary market?

- Sale of securities where issuer keeps proceeds
- Where initial public offerings (IPOs) occur

What is a secondary market?

- Sale of securities where a party other than the issuer keeps proceeds
- Where securities trade after their initial sale
- which is often referred to as the stock market. The secondary market is divided into four subsections:
1. First market
2. Second market
3. Third market
4. Fourth market

What is considered a primary distribution?

If a sale of securities occurs and the proceeds go to the issuer

- In an IPO (a type of primary distribution), the issuer sells its stock to the public for the first time and collects the proceeds from the sale.

What is considered a secondary distribution?

occurs when stock is being sold to the public, but the shares have been previously owned by a party other than the issuer. This commonly occurs when officers and directors of an issuer sell shares they've acquired through their employment. When this happens, the shares are sold to a new public owner and the proceeds are collected by the officer or director (not the issuer).

What is a first market?

is where listed stocks trade on stock exchanges

What does listed mean?

when a stock is capable of being traded on a stock exchange

What is a stock exchange?

A system for buying and selling stock

What is an Over-the-counter (OTC)

When a trade of a security takes place between two parties, but not on an exchange

What is the third market?

A market where exchange listed securities are traded OTC
-includes any combination of member and/or non-member

What is the second market?

is where unlisted stocks (stocks not listed on an exchange) trade solely OTC.

Not every stock meets the listing requirements to trade on exchanges, but exchanges aren't the only place where stocks trade. Unlisted stocks only trade in the OTC markets because they don't trade on exchanges. In a future section, we'll dive further into the OTC markets, but you'll only need to assume an OTC trade is a non-exchange trade for now.

What is the fourth market?

is where large institutions trade without brokers. If a large institution wants to trade stock, it's probably best that they avoid the stock markets which are full of retail (smaller) investors.

For example, if Charles Schwab wants to buy 1 million shares of Netflix, it's easier to buy these shares from just one or just a few other institutions versus dealing with hundreds or thousands of smaller retail investors.

Where does the fourth market operate on?

operates through Electronic Communications Networks (ECNs). Think of these as electronic bulletin boards where large institutions can offer to buy or sell significant amounts of stock. ECNs are open 24 hours a day and act on an agency basis (meaning it matches buyers and sellers while collecting a commission;

What are broker-dealers?

are financial companies that primarily help their customers buy and sell securities. If you've ever placed a trade to buy or sell a security, a broker-dealer most likely handled your trade.

Here's a list of the 5 largest broker-dealers in 2021:
Fidelity Investments
Charles Schwab
Wells Fargo
Edward Jones
TD Ameritrade

What are Introducing Brokers?

are often smaller broker-dealers that primarily maintain relationships with customers and facilitate their trades.

They don't maintain custody of customer assets, meaning they don't maintain possession of their securities. Maintaining custody requires sophisticated technological infrastructures and comes with strict recordkeeping requirements.

Additionally, they do not actually process their customers' trades. This type of broker-dealer outsources these responsibilities to clearing brokers (discussed below).

Example of a Introducing Broker

Let's assume ABC Brokerage is an introducing broker with dozens of customers in their local area. When a customer wants to place a trade, they call up their representative at ABC Brokerage.

ABC Brokerage provides the customer service and facilitates the trade, but the order is actually sent through XYZ Brokerage. Introducing brokers (ABC Brokerage) hire clearing brokers (XYZ Brokerage) to maintain custody, process trades, and provide clearing services.

What are Clearing Brokers?

which are broker-dealers that maintain custody, process orders, and provide clearing services in addition to facilitating trades for their customers (and the customers of introducing brokers).

Custody refers to maintaining possession of securities for customers while keeping track of their positions and market values (known as recordkeeping). This is more difficult than it sounds; it takes a large technological infrastructure and sophisticated systems.

must be properly connected to the financial markets. Broker-dealers offering these services are responsible for ensuring "best execution" standards for their customers. In most cases, this primarily means obtaining the best possible price.

What are clearinghouses?

is an organization that's responsible for ensuring a trade is properly finalized. Investors never need to worry about trades falling apart due to one side not fulfilling their end of the transaction.

is ultimately responsible for ensuring the buyer receives their security and the seller receives their cash. When a trade is finalized, the clearinghouse sends a report along with the appropriate assets to the broker-dealers (clearing brokers) representing each investor (the seller receives cash and the buyer receives securities). The broker-dealers update their records and place the appropriate asset in the customer's account. If it's a customer of an introducing broker, the clearing broker sends a trade confirmation to the introducing broker, who then informs their customer.*

Depository Trust & Clearing Corporation (DTCC)

is the primary clearinghouse used by the industry. The DTCC is a non-profit, industry-owned organization that clears the vast majority of trades in the financial markets. To put the importance of their role in the financial markets into perspective, DTCC clears over $2.3 quadrillion of trades on an annual basis. And no, that's not a typo.

What are transfer agents?

are organizations that work on behalf of issuers to keep track of investors owning the issuer's securities. They receive trade reports during the clearing process and update their records accordingly. Are also part of the settlement process.

What are the two types of Settlement?

regular-way settlement and cash settlement

What is a Regular-way Settlement?

for common stock occurs on the second business day after the trade. Make sure you don't count weekends or holidays towards settlement time frames, as settlement only occurs over business days.

What is a Cash Settlement?

is for investors who need their trades to be finalized quickly. As long the trade executes before 2:30 pm ET, the trade will settle the same day. Your broker may charge you a little extra to do this type of trade, but it is available to investors.

What is Selling Short?

allows investors to bet against an investment and make money if market values fall.

Only suitable for:
1. Sophisticated investors
2. High risk tolerance

Who are Short Sellers?

- Bearish investors
- Subject to unlimited risk

What are cash dividends?

Common stock investors are eligible for ________________ from the stock they own. Dividends are earnings that are passed on to stockholders. Companies are not required to pay dividends, and some companies never pay dividends.

What is the declaration date?

which is the day the BOD publicly declares the dividend.

For example: On January 14, 2021, Target Corporation announced that its Board of Directors declared a quarterly cash dividend of $0.68 per share of common stock. The dividend will be payable on March 10, 2021, to shareholders of record as of February 17, 2021.

Here, the declaration date is January 14th. Remember, only the BOD can declare dividends. Stockholders only have the right to receive dividends if declared.

What is a record date?

is the day a stockholder must be "on the books." The _____________ for this example is February 17th. An investor must be a settled owner of the stock on the record date in order to receive the dividend. Keep in mind that stock has a two-business-day (T+2) settlement time frame.

What is the ex-dividend date?

is the first day the stock trades without the dividend. Meaning, if you bought the stock on the ex-date, you would not receive the dividend.

To summarize:
- Investors buying the stock do not receive the dividend
- Investors selling the stock keep the dividend

What is the payable date?

the date when the dividend payment is made to stockholders.

For the Target example, the payable date is March 10th

What are the three dates controlled by the BOD?

Declaration date
Record Date
Payable Date

What does the New York Stock exchange determine?

Ex-dividend date for NYSE trades

What does the FINRA determine?

Ex-dividend date for OTC trades

What are the Ex-date for Stock Splits?

Stock splits are executed by companies to manipulate their stock prices. Forward stock splits increase the number of shares outstanding while reducing the stock price proportionately. Reverse stock splits reduce the number of shares while increasing the stock price proportionately.

The ex-date for a stock split is always the day after the payable date. Simply stated, if you purchase the shares on the ex-date, the stock split has already occurred and you're getting the new version of the shares.

FINRA

Financial Industry Regulatory Authority. FINRA is a self-regulatory organization (SRO), which means they are empowered to enforce laws and regulations in finance. They regulate finance professionals and exchange markets.

Order of dividend dates

D - declaration date
E - ex-dividend date
R - record date
P - payable date

American Depository Receipts (ADRs)

are created by domestic financial firms with foreign branches. Companies like JP Morgan purchase large amounts of foreign stocks that have high US demand. These foreign stocks are then placed into an account, which is usually structured as a trust. From there, the financial firm "slices" up the account into a bunch of "receipts" for the stock. The receipts are then registered with the SEC and then sold to US investors in US markets

Key Points:
1. US-registered receipts for foreign investments
2. Created by domestic financial firms with foreign branches
3. Trade in US dollars in US markets
4. Subject to currency exchange risk
5. No voting or pre-emptive rights
6. Foreign government tax withholding creates a US tax credit

The Securities Act of 1933

is a law that requires most issuers to register their securities with the SEC

What is involved with SEC registration?

essentially filing a bunch of detailed paperwork with the SEC. It's the issuer's repsonsibility to publicly divulge any "material" information about that security. Through this process, the public is able to make an informed investment decision if they choose to buy the security.

Material Information

any information that would influence an investment decision; important information about an investment

Ticker Symbol

a set of characteristics that represent an investment. Every publicly traded stock has its own unique ticker symbol, which makes it easy to track a stock without typing out the full business name. Examples of ticker symbols:

1. TSLA = Tesla Inc.
2. BAC = Bank of America Corporation
3. MCD = McDonald's Corporation

Currency Exchange Risk

When exchanging from one currency to another, risk can be involved. If you've heard the term "strong currency" or "weak currency," (for example, the US Dollar is strong in Vietnam), then you've encountered this concept.

Let's explore this idea with an example. Assume you invest in Honda's ADR. Honda is a Japanese company and does a majority of its business in Japanese Yen. When Honda makes a dividend payment, it makes the payment in Yen.

Behind the scenes, the yen is converted to US Dollars. If the US Dollar strengthened (or, if the Yen weakened - the same thing) just prior to the dividend payment, it would hurt your return. With a stronger Dollar, it takes more Yen to purchase the same Dollar. Because of currency exchange risk, the dividend payment results in fewer US Dollars.

Bottom line: when investing in foreign securities, currency exchange risk (also known as foreign currency risk) applies. In general, the risk applies in these circumstances:
- The currency being exchanged out of weakens
- The currency being exchanged into strengthens

Tender Offer

when an investor or group of investors want to obtain a significant portion of an issuer's stock, they will most likely extend a __________ to current shareholders.

Long

the purchase and subsequent ownership of a security