Financial Instruments

Shares

The capital of a company is divided into shares and each share forms a unit of ownership of a company and is offered for sale to raise capital for the company.

Categories of Shares

1. Equity Share
   • Equal voting rights to shareholders in annual general meetings
   • shareholders have share in profit and bear losses
2. Preference Share
   • receive fixed amount of dividends
   • no voting rights
   • given pref over equity SH during company settlement

Public Issue

• In the new issue market if any company or financial corp (issuer) issues shares for the first time, its called Initial Public Offering. The issuer may be an existing company or a new startup.
• If a company has already issued shares issues shares again to raise additional funds, its called Follow-on Public Offering

There are 2 ways of issuing securities in the new issue market.

1. Declared Price Issue: Issuer offers share at pre fixed price.
2. Book Building Issue: Price not announced and issuer offers share, gets public applications and then based on demand fixes the price.

In both IPO and FPO, the issuer usually does not issue securities directly. Issuer appoints a merchant banker on behalf of it to carry out fundraising activities.

Private Placement

• offering shares directly to FI, MF companies and HNI. (i.e. Qualified Institutional Buyers)

Qualified Institutional Buyers (QIB)

• those who deemed to be financially sophisticated and are recognized by security market regulators to need less protection from issuers than most public investors
• eg. MF, insurance companies, FI, scheduled commercial banks, pension fund companies etc

Rights Issue

• offer of security to existing shareholders in the follow on public offer
• flows to the existing shareholder as a matter of right

Bonus Issue

• offer of share against distributable profit to existing shareholders
• shareholder share in profit is converted as shares. Also called script issue or capitalization issue

Sweat Equity Issue

• denotes the offer of shares to employees or director of company as recognition of their hard labour
• usually issued at discounted price

Depositories

• institutions that keep securities of investors in electronic (demat) format
• 2 depositories in India
  1. National Securities Depositories Limited (NSDL)
  2. Central Depository Services India Limited (CDSL)

Merchant Banker

• SEBI Rules, 1992: any person engaged in the business of issue mgmt either by making arrangements regarding selling, buying or subscribing to securities as a manager, consultant, advisor or rendering corporate advisory.
• also called investment company

Short Selling

• seller sells sec without owning the sec and buys back after certain period
• In India, Margin Intraday Settlement (MIS) account required

Debentures

• debt instruments with fixed rate of interest
• generally unsecured
• no voting rights
• depending on whether convertible to shares after particular period - Convertible or Non-Convertible

Stock Exchange

• platform where buyers and sellers via electronic means trade securities (shares, bonds, derivatives etc.)
• price of security affected by demand/supply
• India follows T+2 Settlement Cycle

Bombay Stock Exchange, 1875

• Oldest in Asia, 1875. Called Native Share and Stock Brokers Association earlier. Trading done in equity, currency, debt instruments, derivatives and mutual funds
• also established India INX, India’s first intl. stock exchange in GIFT City
• SENSEX is popular index of BSE

National Stock Exchange

• India’s first fully automated electronic exchange with nationwide presence, 1992
• India’s first dematerialized stock exchange
• largest in India in terms of trading volume

Technical Terms

Speculation

• buying / selling stocks based on expectation of future price mvmt
• high risk $⟹$ possible high reward
• technical analysis, trend following etc used to predict and profit from market fluctuations

Insider trading

• trading public company’s stock or other sec based on info about company that is not openly available
• unfair advantage to insider

Spot market

transactions made at current prices

Forward market

contracts made to buy / sell a commodity or sec at predetermined rates and date in future

Global Depository Receipts

Indian companies to raise equity capital in the intl. market designated in foreign currency

Derivatives

financial contracts, set between two or more parties, that derive their value from an underlying asset, group of assets, or benchmark

Forward derivatives

• contract b/w 2 parties to buy or sell a sec at predetermined rate and date in future
• not traded on stock exchange; unregulated and over the counter
• can be customized as per needs of parties involved

Future

• similar to forward but not bilaterally
• exchange traded standardized contracts to buy or sell a commodity or sec at a predetermined rate and date in future
• traded in commodity exchanges like MCX, NMCE etc.
• future transactions help in hedging and speculation and also reduce price fluctuations in the spot market

Options

• exchange traded contract
• buyer / seller has right to buy / sell underlying asset at a predetermined rate and date in future (right, but not obligation)

1. Put Option: Right to sell, but not obligated to sell
2. Call Option: Right to buy, but not obligated to buy

Swaps

• derivatives that are used to manage risk of various kinds
• generally used to manage interest rate risks & currency risks