LESSON 3 – FM

Market Participants 10/11/2021

There are a wide range of people and companies that trade in financial markets.

 Institutional investors: Pension funds, asset managers and mutual fund providers

participate in financial markets to make profits for themselves and  and their customers
 Banks: Banks act like brokers for other companies, like fund managers. They used to do
plenty of trading themselves, but new regulations mean they have less scope to trade
their own book.
 Brokers: Specialists placing trades for their clients
 Market makers: A broker that quotes both buy and sell prices for financial instruments
or commodities and which makes a profit on the spread (difference) between the two.
 Retail investors: Everyday investors can participate in financial markets through
investing in funds, buying shares, or actively trading the markets through spread bets
and CFDs

How are financial markets traded?

Typically, markets can be traded in two ways:

On-exchange  
In the past, these were actual buildings where brokers met to buy and sale shares in companies,
or other assets, like corn or livestock. Now most trading on exchanges takes place online, with
orders being placed from all over the world.  Trading on exchange means that contracts are
standardized with a clear guidance on the quality, quantity and when you will receive the
goods.

Over-the-counter
This is where two parties agree to buy/sell to each other directly, without trading on an
exchange.

I. Equities and Equity Markets

Equities are the same as stocks, which are shares in a company. That means if you buy stocks,
you’re buying equities. You may also get “equity” when you join a new company as an
employee. That means you’re a partial owner of shares in your company. Because equities
don’t pay a fixed interest rate, they don’t offer guaranteed income. In other words, equities
inherently come with risk. If you have more questions about equities or investing in general,
speak with a financial advisor in your area.
The Basics of Equities

The term equity has a different definition depending on the context. When talking about the
stock market, equities are simply shares in the ownership of a company. So when a company
offers equities, it’s selling partial ownership in the company. On the other hand, when a
company issues bonds, it’s taking loans from buyers.

People invest in equities because of their potential for high returns. In your investment
portfolio, your “equity exposure” is another way of describing your exposure to the risk that
you will lose money if the value of the stocks you own declines.

Conventional wisdom states that young people can afford more equity exposure, and therefore
will likely want more stocks because of their potential for sizable returns over time. As you
near retirement, though, equity exposure becomes more of a risk. That’s why many people
transition at least part of their investments from stocks to bonds as they get older.

Equities and Dividends

If you own equities, the value of your holdings increases when the shares you own become
worth more than what you paid for them. But that’s not the only way you can come out on top
by owning equities.

For example, companies pay dividends out of their own profits and into the pockets of their
shareholders. These periodic payments aren’t guaranteed, but when available, they can provide
major benefits. As an investor, you can either reinvest your dividends or take them as income.

If you own equities, it’s important to understand the difference between capital gains and
dividends. A capital gain is the difference between the price at which you bought shares and
the price for which you sell them. There are both long- and short-term capital gains, each with
their own tax rate.

Dividends are taxed like long-term capital gains, as long as they’re “qualified dividends.” If you
own equities, your broker or fund company should provide you with IRS Form 1099-DIV that
breaks down your dividends and capital gains for the tax year.

What Is Preferred Stock?

Owners of preferred stock get more access to earnings and assets than owners of “common
stock” can claim. Preferred shareholders are more likely to get regular dividend payments
(usually at a fixed rate) and they get paid before the owners of common shares. The catch is
that, because dividend rates for preferred shareholders are generally fixed, the owners of
preferred stock won’t see their dividends jump as the company becomes more profitable.
In the event that the company goes bankrupt or is liquidated, preferred shareholders have dibs
on assets and earnings before common shareholders. In the hierarchy of who gets to take a
company’s assets if it folds, bondholders are at the top, since they’ve loaned money to the
company. Preferred shareholders are next, followed by common shareholders.

Getting Equity through Your Job

Say you get a job offer, complete with salary, health insurance, a 401(k) and equity. What
exactly does “equity” mean in that case? It means that you either have an ownership share in
your new company now, or you will have when your equity “vests” – in other words, when it
becomes official by virtue of the fact that you’re still with the company. In some cases, your
equity is given to you outright. At other times, it consists of the option to buy stock at a
preferential price.

Equity alone does not a great job offer make, however. Unless your company goes public or is
sold (these are known as “exit events”), your equity won’t pad your bank account. Plus, since
your salary is already tied to the fate of the company, the more company stock you own the
more financial eggs you’re putting in that one basket.

Bottom Line

When you invest in equities, it’s important to understand the risk you’re taking on. It’s also a
good idea to fight against your natural biases. Most people’s instinct is to buy stocks when
they’ve already risen in value, which is called “buying high.” Then, during a stock market
downturn, people panic and sell their shares which is referred to as “selling low.” But to be
successful in the equities market, you’ll need to do the opposite of what feels right. That means
buying low and selling high.

If you don’t think you can overcome the natural tendency to buy high and sell low, you may be
better off staying out of those decisions altogether. An index fund that tracks the general
market will take the power of buying and selling out of your hands.