The importance of stock market

Solara H. A KadoufNor Azlinda bt Hani

Siti Hasmah Mohamed

Presentation Outline

Stock market and the components: The definition

The relationship : Stock market and Economic dev

The implication of financial crisis on stock market

The Importance of stock market

Stock market and the components: The definition

What is the Stock Market?

Its functions and purposes

Types of Markets

Types of Securities, for e.g. traded in the

Malaysian Stock Exchange

Participants and Regulators

DEFINITION

Stock is a share, represented by a certificate, in the ownership of a

company. It represents a claim on the

company's assets and earnings.

The stock market is a system through which the companys’ stocks, shares, derivatives and securities are traded.

The place where this trading takes place is known as the Stock

Exchange.

FUNCTIONS AND PURPOSES The stock market is one of the most lucrative ways a company

is able to raise money. Investors find the liquidity that an exchange offers; by quickly

and easily selling securities, as beneficial. The health of an economy is measured by the activity of its

stock market. Rising share prices affect, for example business investments

and the wealth of households and their consumption.

2 MAIN TYPES OF MARKETS

PRIMARY STOCK MARKET:• Primary markets are markets in

which corporations raise funds through new issues of stock, most of the time through investment banks.

• An initial public offering (IPO) is the first public issue of financial instruments by a firm

SECONDARY STOCK MARKET:• Secondary stock markets are the

markets in which stocks, once issued, are traded among investors.

• The U.S. has three major secondary stock markets:• the New York Stock Exchange,

Euronext (NYSE, Euronext)• the National Association of

Securities Dealers Automated Quotation (NASDAQ)

• the American Stock Exchange (AMEX)

TYPES OF SECURITES TRADED Common / Ordinary Stock

Preferred Stock

Bonus Issue

Rights Issue

Derivatives

Warrants

PARTICIPANTS Individuals The firms/companys The Government Regulators Market Intermediaries

Underwriters Investment banks Investment companies Share Brokers Securities Firms Insurance companies

EXAMPLES OF REGULATORS Examples of Regulators in the United States are

the U.S. Securities and Exchange Commission  (SEC).

Example of Regulator in Malaysia is the Securities Commission.

3 MAJOR OBJECTIVES OF REGULATORS:

1.

• The pursuit of macroeconomic and microeconomic stability, i.e. the legally required amount of capital and borrowing limits of the company.

2.

• To provide transparency in the market and in the intermediaries as well as investor protection.

3.

• To provide efficiency at a macro level by way of safeguarding the promotion of competition among financial intermediaries.

The importance of financial intermediaries

EFFICIENT ALLOCATION OF CAPITAL

deposits Bank financing

Equity financing

Diversify risk and maintain liquid investments

Relationship between stock market and economic growth

Stock market promotes diversification for investments and efficient allocation of resources that contribute to the economy growth Diversify investments = diversify from specific risks Alternative financing / investment avenue for investors

Stiglitz (1989) and Mayer (1989) – Existence of stock market has little relevance to real economy Principal agent theory problem

Efficient stock market may mitigate the moral hazard problem and increase productivity

Principal linkage between stock market and economy growth is LIQUIDITY PROVISION of the market Crucial feature of stock market Provide channel for more efficient corporate governance and resource allocation (capital

are allocated to the most productive and innovative firms)

Levine and Zervos (1998) research on the relationship Period coverage: 1976 to 1993 Indicators: GDP, stock mkt cap, value of stocks traded (liquidity), stock mkt volatility Results:

Equity market activity are positively correlated with real activity Liquid and developed stock market have close and positive linked with economic growth Volatile stock market have negative real effects to the economy

Dampening the Investment climate

• Lower real investment

• Lower real activity

•Unemployment

High confidence on soundness of economy

•Attract > demand for investment

•Higher share price

•Higher profit generation

• Lower real activity

The linkages: Stock market and economy growth

The implication of financial crisis on stock market

• Stock selloff – plunging stock price• Plunge in exports and commodity prices• Shrink in foreign direct investments and portfolio

flows• Increase cost of borrowing• Deteriorating investors’ confidence

World map showing GDP real growth rates for 2009

Countries in brown were in recession

Source: CIA World Factbook

Russia

US

Canada

Mexico

Argentina

Denmark

EU countri

es

Iceland

GDP growth

The TED spread (an indicator of perceived credit risk in the general economy),

spiked up in July 2007, remained volatile for a year, then spiked even higher in Sept 2008, reaching a record 4.65% in Oct 2008.

The Importance of stock market - Individual

Offers individual with alternative to generate extra income apart from their daily job.

i. Dividend earned ii.Gain from selling off the stocks in the event stock price

increase.

Creates investment opportunity for small investors Investing in stock does not limit the individuals from buying

the stock either in large amount or small amount because individual buys the number of shares they can afford.

Stock market helps to reduce large income inequalities

Everybody has a chance to share in the profits of promising business that were set up by other people.

The Importance of stock market - Individual

Investing in stock provides high liquidity in nature to individual.

Enables the stockholder to buy or sell their investment at any time in order to obtain cash.

Stock market enables individual to increase personal wealth via dividend received from investment or proceed from selling of stocks.

Federal Reserve Bank of New York Economic Policy Review in 1997 revealed that the cumulated value of increases in household wealth from year 1952 to 1997 had a positive correlation with the cumulated value of household capital gains on the stock market.*

The Importance of stock market - Companies

Enable company to increase capital by issuing stock to public.

Alternative way to finance their business expansion beside apply financing with financial institution.

Increase public awareness to the companies. A listing on a stock exchange can add value to a

company by giving brand awareness to the public. Public are more aware of the products and businesses of

the companies.

The Importance of stock market - Companies

Raise capital through stock market give advantage in term of low cost of capital.

Abstains from a number of the intermediation expenses apparent in the other forms of capital rising.

Stock market provides the opportunity for companies to access to a widespread shareholder/ investor base.

The company that listed has a wide range of investors, which may contain of both local and international investors.

Fund Management Companies is a company provides management services or investment advices or administrative services in respect of securities for the purpose of investment.

The company bring together money from many people in pool and invest it in stocks, bonds or other assets.

Example of fund management companies are investment trust and pension fund company.

Importance The stock market allows FMC to allocate the investors’ pool of

fund to diversified stocks offered in stock market.

Stock market gives advantage for FMC to position investor cash strategically.

To be listed in the stock market, companies need to disclose their financial positions and their business background.

Give benefit to FMC to analyze the companies before invest the fund.

The Importance of stock market – Fund Management Companies (FMC)