FM04 Equity MKT 0217

FIN3103B/3703B
Financial Markets
04 – Equity Market
1 Sem2 AY2020/21
The Equity Market
I. Primary equity market
• Why raise equity?
• IPO
II. Types of securities

• Shares: ordinary and preference
• Depository receipts
• ETFs and REITs
III. Stock Exchanges

• Types of orders and markets
• NYSE, Nasdaq, and SGX
IV. Trading of Stocks (SGX)

• Contra, margin, short selling
2 Equity Market
1. Payoff Structures
• Debtholder
Payoff
Resembles a __________ option
D Value of firm
___________ Zone
3 Primary Equity Market
• Equity holder
Payoff
D Value of firm
• Equity holder (limited liability)
Payoff
Resembles a _______ option
D Value of firm
___________ Zone
2. Why Raise Public Equity?
Public offering vs private placement
• Advantages of raising public equity?
• Disadvantage of raising public equity?
3. IPO
• Public Equity
• Public offering vs private placement
• Pricing issue
• Fixed price
• Single strike price auction
• Discriminatory pricing auction
Interesting features of the IPO market
• Underpricing of IPOs
• IPO price < closing price on the first trading day
• Widespread phenomenon, a lot of studies!
• There are “hot periods” for IPOs:

• Normally during bull run
• Many IPOs
• Higher trading volume
• Higher first day returns
• IPOs under perform in long run (more than 5 years)
• Average underpricing:
• Loughran, Ritter, and Rydqvist (1994, updated 2003)
• Delistings are not rare…
Loughran, Ritter, and Rydqvist (1994, Loughran, Ritter, and Rydqvist (Updated
updated 2003) March 6, 2019)
Australia – 12.1% Australia – 19.8%
Brazil – 78.5% Brazil – 30.3%
China – 256.9% China – 157.7%
France – 11.6% France – 9.7%
Germany – 27.7% Germany – 23.0%
Hong Kong – 17.3% Hong Kong – 44.5%
Indonesia – 19.7% Indonesia – 26.4%
Japan – 28.4% Japan – 44.7%
Malaysia – 104.1% Malaysia – 51.0%
Singapore – 29.6% Singapore – 25.8%
UK – 17.4% UK – 15.8%
USA – 18.4% USA – 16.8%
Saudi Arabia – 239.8%
UAE – 270.1%
Jay R. Ritter (2018)
Jay R. Ritter (2018)
Delisting
• Involuntary
• A firm ceases operation, goes bankrupt or fails to meet listing
requirements.
• Voluntary
• A company chooses to leave the exchange of its own accord.
• M&A: e.g., Super Group, BreadTalk.
• Change of business strategy: e.g., Mary Chia.
• The perceived costs of staying listed outweigh the benefits
• Delist from one exchange to relist elsewhere
Source: https://global‐factiva‐com.libproxy1.nus.edu.sg/redir/default.aspx?P=sa&an=STIMES0020200620eg6l004oj&cat=a&ep=ASE
21 Equity Market
The Equity Market
• IPO

• ETFs and REITs


25 Equity Market
1. Ordinary/common Shares
• Voting rights
• Most common or ordinary shares are 1 share = 1 vote
• Some have varying degree of voting rights in order to retain
control
• Everything else constant, shares with different voting rights
should be priced differently
• SGX recently allowed listing of dual-class shares
26 Types of Securities
2. Preference Shares
• Higher priority to claim than ordinary shareholders in dividend
payment and in the event of liquidation
• Amount of dividend is fixed
• Usually no voting rights
• Cumulative vs non-cumulative
• Cumulative: dividends not paid will be carried over to the next
payment
• Participating vs non-participating
• Participating: possibility of higher dividends
• Hybrid between bond and shares
• Similar to shares: no maturity
• Similar to bonds: fixed payment
3. Depository Receipts (DRs)
• Negotiable (__________) securities which represent foreign firms’
publicly traded equity
• The foreign firms’ shares in the firm’s home market are purchased
and placed in a custodian bank
• A depository bank in the investors’ country issues depository
receipts.
• The depository receipts are traded in the investors’ local
exchanges or OTC
• Dividends are paid in the local currencies
• This arrangement allows investors in one country to invest in the
securities of another country
American depositary receipts (ADRs)
• Started in 1927 by JP Morgan to trade the shares of a British
chain of supermarkets
• A US bank buys a bulk of shares from the firm, rebundles and
reissues them on NYSE, AMEX, or Nasdaq
• Rebundling: specific number of shares per ADR so that the price
per ADR will be attractive to the US investors: ?
• The ADR trades like any ordinary stocks

• Trading price and dividends are in US$
American depositary receipts (ADRs)
• Although prices of ADRs depends on demand and supply
• ADRs will normally be traded at prices close to the prices in the
home market after taking into account the exchange rate, lest
there will be arbitrage opportunity
• Risks?
Other DRs
• European depository receipts (EDR)
• DRs in Europe and denominated in Euro
• Global depository receipt (GDR)

• Raise capital in more than 1 country
• Usually, one offering in the US market
• The second offering is in a second country which is normally
in Europe (either in London or Luxembourg)
DRs in Singapore
SGX Cross-Listing of ADRs
• Launched on Oct 22, 2010
• Started with 19 Big Chinese firms
• Subsequently, SGX added 8 more
• As at Jan 2021: the total number of ADRs left listed stands at 16
• … with zero trading volume on a typical trading day (link to SGX)
4. Exchange Traded Funds (ETFs)
ETFs are open-ended investment funds designed to track specific
indices or fixed baskets of stocks – domestic and international,
broad market and sectoral – and provide access to a wide range of
asset classes, markets and sectors (definition from SGX website)
• Hybrid of open- and closed-end funds: Trade like a stock

(_______ ended) and tracks NAV and no fixed number of units
(_______ ended)
• Less costly than index mutual funds: no loading
• Small investors (retail) can only buy and sell the ETFs like stocks
• Large investors (institution) can trade through creation and
redemption process
4. Exchange Traded Funds (ETFs)
• Large investors (institution) can trade through creation and
redemption process
• Creation: deposit a portfolio of the composition stocks and
receive ETF shares
• Redemption: exchanging ETF shares for the portfolio of
composition stocks
• Creation and redemption is done in creation units (block size
of say 100,000 shares) and through designated brokers or
dealers
• Arbitrage through creation and redemption keeps the price close
to the NAV
Examples of well known ETFs (U.S.)
ETF Index
iShares Various bonds and stock indices by BlackRock
Spyders or Spiders Family of ETFs by S&P Global (including SPDRs,
StreetTRACKS)
Diamonds SPDR Dow Jones Industrial Average
VIPERs Various Indices by Vanguard
PowerShares QQQ Nasdaq 100 Index by Invesco Ltd
ETFs in Singapore
• Slow start: 5 cross-listed
• Number of ETFs listed in 2008: 14
• Number of ETFs listed in 2009: 36
• Number of ETFs listed by end Dec 2020: 43
• Gold
• Fixed income
• REITs
• Equities
• Currently, SGX has a respectable repertoire of ETFs
• (link to SGX Market Statistics)
• Current market information
5. Real Estate Investment Trusts (REITs)
Definition from SGX website:
• Real Estate Investment Trusts (REITs) are funds that invest in a
portfolio of income generating real estate assets such as shopping
malls, offices or hotels, usually with a view to generating income
for unit holders of the fund (i.e. investors of the REITs).
• Assets of REITs are professionally managed and revenues

generated from assets (primarily rental income) are normally
distributed at regular intervals to investors. REITs allow investors
to access real property assets, and share the benefits and risks of
owning a portfolio of properties.
REITs in the US
• Started in the late 19th century as pass-through entities to pass
through as much profit to investors as possible. For that they are able
to avoid double taxation (at corporate level and at individual level).
• Can be traded like any ordinary shares in exchanges hence more
liquid than real estate properties
• Historically less volatile than and less correlated with other financial
assets
• Pays more dividends (interest) than ordinary stocks (bonds): pass
more than 90% of profits to investors
• Stable income source
• Most REITs get their profits from rental income
In the US:
• Pass-through entities, passing through most of their profits to
investors
• Avoidance of double taxation (at corporate level and at individual
level).
REITs in Singapore
• SGX started with the first REIT in July 2002: CapitaMall Trust
• As at January 2020, there are 44 REITs.
• MAS allows REITs to invest in other assets but the majority of their
assets must be made up of real estate or real estate-related
assets
• Granted "tax transparent" treatment by the Inland Revenue
Authority of Singapore (similar to the avoidance of double taxation
in US)
• Market cap: S$112 bn (12% of total market cap)
• Average distribution yield in 2019 is 6.2%
• 3-year annualized total returns 13.4%
• 10-year annualized total returns among the REITs ranges from
2.4% to 16.5%
The Singapore REITs Market
44 Source: SGX Types of Securities



The Equity Market
• IPO

• ETFs and REITs


47 Equity Market
1. Types of Orders and Markets
Quote-driven vs Order-driven
• Quote-driven market is a market whereby securities are traded
via designated market makers
• Market makers: an entity who makes the market by posting two-
way quotes (bid and offer price) at which he is willing to buy or sell
a security
• Order-driven market is a market whereby securities are traded

via the limit order book only
• Limit order book: a centralized location (electronic rather than
physical) where investors submit orders and stating the desired
prices they wish trade
48 Stock Exchanges
1. Types of Orders and Markets
Priority rules
• Price priority: Best price executes first

• Time priority: First come first serve
49 Stock Exchanges
Market orders and limit orders
Market Orders
• Trader specifies the quantity, but not the price
• Immediate execution at best price
• Certainty with respect to execution but not price
• Consumes liquidity
• Most market orders are pure and plain market orders
• Different exchanges offer different other types of market orders,
which are not commonly used.
50 Stock Exchanges
Limit Orders
• Trader specifies the quantity and the price to trade (limit price)
• Certainty with respect to price but not execution
• The limit price for a limit buy (sell) order can be greater than, equal
to, or less than the bid (offer) price
• The higher (lower) the limit price for a limit buy (sell) order, the
higher is the probability of execution
• If the limit price of a limit buy (sell) order is higher (lower) than or
equal to the offer (bid) price, it is call a marketable limit order,
which functions like a market order
• Non-marketable limit orders provides liquidity to the market
52 Stock Exchanges
Limit Orders
• In pure order-driven market, limit orders are the sole provider of
liquidity (“make the market”)
• Most limit orders are pure and plain limit orders
• Different exchanges offer different other types of limit orders,
which are not commonly used.
53 Stock Exchanges
Limit order book
What is it? A collection of limit orders not yet executed
Example: Limit order book for ABC
Bid Ask
$1.47 $1.48 $1.49 $1.50 $1.54 $1.55 $1.56 $1.57
24 86 110 125 230 165 108 67
Limit buy orders Limit sell orders
(best) bid price: $1.50; bid volume: 125 lots
(best) ask price: $1.54; ask volume: 230 lots
55 Stock Exchanges
What would happen if such a new order arrives?
a) A limit buy order at $1.50 of 10 lots
b) A limit buy order at $1.51 of 10 lots
c) A limit sell order at $1.55 of 20 lots
d) A limit sell order at $1.53 of 20 lots
e) A limit buy order at $1.54 of 10 lots
f) A market buy order of 110 lots
g) A market buy order of 250 lots
56 Stock Exchanges
2. New York Stock Exchange (NYSE)
• Originally a quote-driven market
• Market makers are called “specialists”
• Members of NYSE
• Dealers who specializes in certain stocks
• Used to be the only ones who can access the limit order book
• Maintain the market: continuous quotes throughout the day
• Executing orders: by crossing, matching, or through own
inventory
• Balance the buy and sell pressure: involve trading against the
market trend to achieve balance
• Stabilise prices: also involve trading against the market trend
to achieve balance
67 Stock Exchanges
3. Nasdaq
• National Association of Securities Dealers Automated Quotations:
a stock market started in Feb 8, 1971 as a quote-driven OTC
market
• First electronic stock market
• Claimed to list more companies and trade more shares per day
than any other exchanges
• IT sector is the biggest and the most well-known sector in Nasdaq
• More market makers per stock: more competitive?
68 Stock Exchanges
4. Electronic Communication Networks (ECN)
• Alternate trading system (ATS)
• Electronic limit order book
• Self-regulatory organization (SRO): Minimal regulatory burdens vs
NYSE where 1/3 of NYSE employees are regulatory units
• Pseudo-exchange
• Very fast execution at very low transaction costs
• Very fast market acceptance
• Examples: Archipelago (NYSE), Instinet (NASDAQ), Island, and
NexTrade
• Many are now exchanges and playing a major role in the security
trading industry
69 Stock Exchanges
5. Online Brokers
• New disruptors
• Zero commission and trading fee
• Examples: Robinhood, Charles Schwab, Fidelity
• How do they make profit?
• Payment for order flow (PFOF)
• Direct orders to market makers (eg. Citadel)
• Selling data
• Online brokers + technological advances + information through
social media
• Pandemic: retail portion of trades increased from 10% to 25%
• Singapore: eg. Charles Schwab (TD Ameritrade), Saxo Market
70 Stock Exchanges
6. SGX
• SGX is the trading platform of equity securities (stocks, ADRs,
ETFs, REITs, …)
• SGX is also the trading platform of some fixed income instruments
& derivatives.
• Standard lot size is 100 units. Different for different
types of securities
Source: https://www.sgx.com/securities/trading
74 Stock Exchanges
SGX odd lots trading
• Shares are mainly traded in round (board) lots
• Jan 19, 2015: reduce to 100 shares per lot
• Odd lots trading is allowed
• Unit Share Market: trading of odd lots in any quantity less than
one round lot of the underlying share in the Ready Market
• Example: For a buy order of 1160 ABC shares, 1100 shares will be
executed on the Ready Market and the remaining 60 shares will
be executed on the Unit Share Market
• Trades executed in the two markets for the same underlying share
can be consolidated in a single contract
75 Stock Exchanges
6. SGX
Various board (as at Dec 2020):
• Total listing = 696 stocks
• SGX Mainboard
• 479 Singapore and foreign companies listed
• SGX Catalist
• 217 small and medium sized companies listed
• Total Market Capitalization: about S$862.1 billion
• Domestic vs foreign listing:
• Domestic: 459 (66%)
• Foreign: 237(34%)
• China: 76 (32%)
• Ex-China: 161 (68%)
76 Stock Exchanges
6. SGX
Minimum trading price (MTP) for stocks to be set at $0.20
• With effect from December 2, 2016
• Applies to Mainboard shares
• Computation: Volume weighted average price ("VWAP") of shares
for the 6 months preceding the date of review
• Mainboard companies will be placed on the MTP watch list if:
• The 6-month VWAP < S$0.20, AND
• Last 6-month average daily market cap < S$40m
• Continual monitoring: 1st business day of June and December
• A company entering the list will have 36 months to exit the list,
after which … delist.
• Currently the scheme is scrapped!!
78 Stock Exchanges
6. SGX
• Minimum bid (tick sizes)
Source: SGX
• The minimum bid size (MBS) for the $1 to below $2 price range has been
widened to $0.01 for all securities (13 Nov 2017)
79 Stock Exchanges
6. SGX
• Minimum bid (tick sizes): Different for different
types of securities
Source: SGX
• The minimum bid size (MBS) for the $1 to below $2 price range has been
widened to $0.01 for all securities (13 Nov 2017)
81 Stock Exchanges
6. SGX
Transaction costs
• Brokerage rates are fully negotiable
• CDP charges a clearing fee of 0.0325% with no cap
• Trading Fee: 0.0075% of traded value for stocks
• Goods and Services tax (GST)
• Once matched, CDP becomes counterparty to each side of the
transaction.
83 Stock Exchanges
6. SGX
Dividend Tax/Withholding Tax
• Gross dividends payable is taxed at the corporate tax rate of 17%
• No dividend tax or withholding tax on dividends
Controls on Foreign Investors

• No foreign exchange controls
• No restrictions on the acquisition of securities by foreign investors
• Foreign ownership is restricted only in certain companies
• No limitations on the repatriation of income, capital and capital
gains
84 Stock Exchanges
The Equity Market
• IPO

• ETFs and REITs


86 Equity Market
1. Long Position
• Buy and hold
Payoff
x-b
Price
x x+a
87 Trading of Stocks
2. Contra Trading
• Buying a security and selling it before settlement
• No cash outlay: only pay loss or receive profit
• Under the old T + 5 settlement system, the contra buyer often did
not have to pay up until 9 days after
• When the settlement cycle was shortened to T + 3, contra trading
has become less attractive
• Now, the settlement cycle has further shortened to T + 2
(December 10, 2018)
• On par with major markets such as US, UK, Canada, Japan, and
Hong Kong
3. Margin Trading
• Borrow cash to buy securities and use the securities themselves
as collateral
• Initial margin (50%): the proportion of the market value that
investor must pay as an equity share
• Margin maintenance: minimum proportion of the equity (relative to
market value) in the investor’s margin account below which the
investor will receive a margin call
Margin trading
• Example: An investor wishes to buy 100 units of a stock priced at
$60 on 50% margin. Assume that the maintenance margin is 25%.
• Investor pays $3,000 (equity) to buy $6,000 worth of stock

• = > borrow $3,000
• If price falls to $40:

• Total value of stock = $4,000
• Investor still owes $3,000
• Hence, his equity is worth $(4,000 – 3,000) = $1,000
• Margin = 1000/4000 = 25%
Margin trading
• Investor pays $3,000 (equity) to buy $6,000 worth of stock

• = > borrow $3,000
• If price falls to $39.99:

• Total value of stock = $_________
• Equity is worth = $_____________
• Margin = _________________________ MARGIN CALL?
Margin trading
• When margin call happens, investor will need to top up to the

initial margin 50%.

• Total value of stock = $_________
• Equity is worth = $_____________
• Margin = ____________________
• Equity needed = _______________
• Amount to top up = $_____________
Margin Trading
• Interest charge for borrowing
• Risky: Because there is minimal cash outlay, investors normally
don’t feel the pain till it is too late!!!
4. Short Selling
• Sell without owning
• When price falls, buy back and takes profit
• Involve borrowing the shares (with a charge)
• Proceed from short sales is not paid to short sellers but kept as
collateral (usually non-interest earning)
• Close out by buying back the stock and return it to the one from
who you borrow.
• Short sellers have to pay dividends ?
• Risky: limited upside potential and unlimited downside risk ?
• In the past, there were restrictions on shorting selling (e.g. uptick
or zero-plus tick), which were subsequently lifted
• As a result of the current crisis, several markets have re-
implemented various restrictions
Short Selling and Margins
• Example: An investor wishes to short sell 100 units of a stock
priced at $60 on 50% margin. Assume that the maintenance
margin is 25%.
• Proceed from short sale is $6,000: to be kept by the broker

• Also, investor needs to put $3,000 (equity) in the margin account

• Total value of stock = $4,000 (amount needed to buy back the
stock from the market and return to the lender)
• Equity is worth = $3,000 + $(6,000-4,000) = $5,000
• Margin = 5,000/4,000 = 125%
margin is 25%.

• If price increases to $72:

• Total value of stock = $7,200 (amount needed to buy back the
stock from the market and return to the lender)
• Equity is worth = $_____________
• Margin = ____________________
margin is 25%.

• If price increases to $72:

• When margin call happens, investor will need to top up to the
initial margin 50%.
• Equity needed = 50% of $__________
• Amount to top up = $______________

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FIN3103B/3703B

II. Types of securities

III. Stock Exchanges

IV. Trading of Stocks (SGX)

• Advantages of raising public equity?

• Disadvantage of raising public equity?

• Public offering vs private placement

• There are “hot periods” for IPOs:

• IPOs under perform in long run (more than 5 years)

• Delistings are not rare…

II. Types of securities

III. Stock Exchanges

IV. Trading of Stocks (SGX)

• The ADR trades like any ordinary stocks

• Global depository receipt (GDR)

• Hybrid of open- and closed-end funds: Trade like a stock

• Assets of REITs are professionally managed and revenues

44 Source: SGX Types of Securities

45 Source: SGX Types of Securities

46 Source: SGX Types of Securities

II. Types of securities

III. Stock Exchanges

IV. Trading of Stocks (SGX)

• Order-driven market is a market whereby securities are traded

• Price priority: Best price executes first

Controls on Foreign Investors

II. Types of securities

III. Stock Exchanges

IV. Trading of Stocks (SGX)

• Investor pays $3,000 (equity) to buy $6,000 worth of stock

• If price falls to $40:

• Investor pays $3,000 (equity) to buy $6,000 worth of stock

• If price falls to $39.99:

• When margin call happens, investor will need to top up to the

• If price falls to $35:

• Proceed from short sale is $6,000: to be kept by the broker

• If price falls to $40:

• Proceed from short sale is $6,000: to be kept by the broker

• If price increases to $72:

• Proceed from short sale is $6,000: to be kept by the broker

• If price increases to $72:

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