Kenneth R. Szulczyk
Process of issuing new stock is called underwriting. Underwriting lowers information costs.
Investment bank guarantees a stock or bond price to the corporation. Then the investment bank
sells the new stock or bond for a higher price. Greater price reflects the investment banker’s
profit. Furthermore, investment banks may work together, which we call syndicates. One
investment bank acts as the manager and retains part of the profits while other investment banks
help sell the new securities.
The U.S. government requires investment bankers to disclose information to investors,
helping to prevent risk and fraud. Unfortunately, investment bankers have access to inside
information about corporate mergers. When a corporation takes over another corporation, the
merger causes the company’s stock price to soar. Thus, investment bankers can secretly buy
stock or share information with friends and family who buys that particular stock. Insiders can
earn a substantial amount of profit, and it is illegal in the United States. The Securities Exchange
Commission has the authority to investigate and to prosecute these cases.
Investors can buy or sell corporate stock through organized exchanges. Exchanges are
secondary markets, and they increase the liquidity of securities. We define organized exchanges
as either an exchange or over-the-counter market. An exchange has a physical location, and
buyers and sellers of securities meet face to face. Only members, called specialist, can enter
these exchanges. For example, if you want to buy Coca-Cola stock, you must contact a broker
who contacts a specialist at the New York Stock Exchange. Subsequently, the specialist matches
prices and quantity of stock for buyers and sellers. Consequently, the broker and specialist earn
commission from each transaction. Oldest and largest U.S. corporations are listed on the New
York Stock Exchange, while unknown corporations are listed on American Stock Exchange.
Over-the-counter (OTC) market does not have a physical location. Telephones and
computers connect the dealers and brokers together. Both new and small firms are traded in the
over-the-counter market. The OTC market in the United States is the National Association of
Securities Dealers’ Automated Quotation (NASDAQ), or commonly referred to as NASDAQ.
New high-tech firms, such as Texas Instruments had started in NASDAQ and eventually
switched their listing to a major exchange. Europe has their equivalent of NASDAQ, which the
Europeans call EASDAQ.
Many countries removed the barriers to their financial markets, allowing international
companies to sell or buy stock in their countries. For example, a German investor can buy U.S.
corporate stock like GE and IBM on the Frankfurt Stock Exchange, while an American investor
can buy Japanese stock for Honda Motors and Sony on the New York Stock Exchange.
Consequently, the financial markets are truly global, and link savers and investors together
across the world.
Financial analysts compile market indices that measure broad movements in a financial
market. Most popular and the oldest stock market index used today is the Dow Jones Industrial
Averages, otherwise known simply as the “Dow” or “the industrials.” The Wall Street Journal
invented the Dow in 1882, and it calculates the Dow by a weighted average of 30 representative
stocks of New York Stock Exchange. The Dow includes Coca-Cola, IBM, Proctor & Gamble,
and Exxon. Analysts at the Wall Street Journal adjust the Dow for corporate mergers, corporate
bankruptcies, and stock splits. Another popular market index is Standard and Poor's 500 (S&P