Introduction to the Stockmarket
Introduction to Investing
Objectives/Risk/Diversification
Investment Strategies
Responding to changeable markets
Portfolio Review
Tax
The stock market allows companies to raise money, for instance to finance expansion plans. They raise these capital sums by selling shares in the business to public and institutional investors. The shareholders are the company's owners and are entitled to a share in any profits. Profits are distributed by way of a dividend payment. Sometimes profits are retained within the business to increase future profit, assuming that shareholders are happy to receive less income for the promise of higher potential growth.
Companies listed on the stock market are PLCs - Public Limited Companies. This means that ordinary shareholders have limited liability: they can lose no more than the cash they have invested.
The London Stock Exchange (LSE) is one of the oldest and largest exchanges in the world. It serves companies coming to the market - new issues or initial public offerings (IPO) - and investors eager to own a part of a quoted company. Shares are first issued in the primary market, and then traded in the secondary market. Around 99% of the Exchange's business takes place in this market of "second hand" stock.
To join the main market, companies must meet certain criteria specified by the LSE: for instance, a minimum market capitalisation of £700,000, with at least 25% of the company to be floated, and a minimum three year trading record.
For those who do not meet these requirements, AIM (Alternative Investment Market) has less stringent entry rules. There are a number of indices on the London exchange.
Once there was "open outcry" on the floor of the LSE, as the Jobbers in their old fashioned hats traded stocks on behalf of brokers by shouting apparently incoherently at each other, the brokers themselves dealing on behalf of clients. Market Makers sitting in front of screens replaced Jobbers in 1986.
Through Bid and Offer prices (sell and buy), Market Makers must offer two way quotes up to Normal Market Size (NMS) in all of the stocks in which they are licensed to deal. Reduced Size Market Makers must only offer prices up to a reduced size. However, this applies to all stocks in which they are licensed and they are not allowed to quote at in a greater size. The difference between the bid and offer, the margin, can be considered as their profit. When dealing online, prices are offered by market making Retail Service Providers (RSPs) who operate under looser constraints.
There are four market systems on the LSE. When investors place an order with their brokers, it will be dealt via one of these routes.
SEAQ is a quote driven, competing Market Maker system. The liquidity of stock varies, but the companies must attract at least two Market Makers.
In 1997 the SETS Order Book was launched. This order driven system operates in the most liquid stocks (FTSE 100 through to part of the FTSE 250) and works by matching orders of those wishing to buy and those wishing to sell. See the London Stock Exchange's website for more information.
AIM stocks and all other listed companies that are likely to be relatively illiquid are traded here. The system operates as basic order matching along with some Market Maker Support.
Competing Market Makers deal in liquid international stocks that are traded in London.
When dealing, an investor is faced with a bid price and an offer price. The bid price is that at which the investor may sell stock and the offer the price he or she can buy. Ordinarily, the price at which an investor deals will be at 'best', that is, the best price available in the market at the time of the deal. Under normal conditions, brokers will provide the 'best' price.
In the UK, the de-materialised (that is, electronic rather than paper-based) settlement system is known as CREST. CREST facilitates electronic settlement using a 'book entry' system by transferring stock and communicating with the appropriate Company Registrar. It will also create a payment receipt on the Cash Memorandum Account of the appropriate institution. The registrar's role is to maintain accurate records of all shareholders.
Standard equity settlement in the UK is three working days (T+3). Private investors' stock is often held in a nominee account rather than in certificated form. This means that legal ownership of the stock is passed to the Nominee Company, for administration purposes, although the investor remains the underlying beneficial owner. This arrangement makes settlement quicker and more efficient. It also dispenses with the need for signed transfer forms when a sale occurs. Dividends are collected centrally and paid directly into investors' dealing accounts.