Everything you need to know stock Exchange
We all have heard success stories of companies that multiplied their worth by going public on the Stock Exchange. Apple. Microsoft, Yahoo, Amazon; and Jose Cuervo, Volaris and Be Grand in the Mexican scenario. What did these companies do right?, What was their path towards success? and most importantly, how can your company get the same positive results?
Chapter 1: Introduction
In this series, we will explain the process that it takes for a company to list on the Stock Exchange, its advantages, its legal framework and other related topics so you can learn all about the Stock Exchange and its procedures in an uncomplicated manner.
But before we start, ¿do you know all of the keywords concerning the Stock Exchange? Here, we review some of the most crucial terms.
First of all: what is the Stock Exchange?
It is a facility in which companies can sell percentages of their capital, that means, they sell small parts of the company, which are called shares of stock. The price of these shares is determined by supply and demand. The companies that wish to list on the stock exchange must be public. This does not mean they become part of the government, but that the company can get its financing through an investing public. Any person can be part of this public, and these people are called shareholders or investors. Shareholders are the ones that buy small parts of the company, thus, the more parts they own the bigger the percentage they “own” of the company, as a matter of saying.
The Stock Exchange satisfies 3 interests:
- For the company: because by placing its shares on the market and being acquired by the shareholder public, it obtains from it the necessary financing to meet its objectives and generate wealth.
- For the shareholders: because they become investors and can obtain benefits (although they may also not obtain them since all investment is a risk) thanks to the interests generated by their shares.
- For the Estate: with some financial instruments in the Stock Exchange, like public bonds (we will mention them later on), it has the means to finance itself and to face public spending, as well as to carry out constructions and social programs,
Shareholders buy the shares on the Stock Exchange hoping that at a certain time the value of the purchased stock will increase, and then, they can sell it at a higher price than what they originally bought it. The game is to buy low and sell high.
These shareholders initially consult a brokerage house with a sum of money so that the stockbrokers that work in it can make a portfolio with the available shares of different companies to which the money will be destined. This portfolio will be divided into companies with low, medium and high risk. The shareholder will decide the type of risk depending on the profit or utility that he wants. The greater the risk, the greater the probability of profit or loss. It is like a casino, except in this case you can try to forecast the price fluctuation.
In addition to the stock market (also called capital market), the Stock Market offers other types of options, such as the currency market, the bond market, the derivatives and the commodity market.
The currency market
Better known as the Foreign Exchange (FX) is according to BBVA (a Mexican financial institution) the biggest financial market in the world and it is also the base of all of the other financial markets. Its main objective is to facilitate international commerce. In this physical or virtual space, the price of each currency is called the exchange rate. This market makes it possible to buy and sell from companies from different countries that don´t have the same currency as yours. In the foreign exchange market, the purchase price is always lower than the sale price, the difference is the benefit of the intermediary that covers the costs of hedging and managing foreign exchange risk.
The bond market
Its main objective is to unite the group of money suppliers and demanders. It meets the savings and investment needs of projects and capital by companies and governments. Both public and private bonds are included in this market. In Mexico, public debt bonds are called CETES and they work to finance the government in social programs, construction, or other needs.
- Advantages of CETES: It allows the investor to schedule their cash (or liquidity) needs, they are low risk, they can be sold on the secondary market before maturity and their yield serves as the base interest rate for other financial operations.
- Disadvantages of CETES: if sold before expiration, you may receive a different return than initially expected. The longer you leave the money in the hands of the government, the greater its price may fluctuate. The CETES interest rate is set by Banco de México.
Other mechanisms guaranteed by the government in this type of market may be Condes 91 LT (Development Bonds with Revisable Interest Rate), M Bonds (Development Bonds with long-term fixed interest rate), BPA’s (Bonds for the Protection of Bank Savings), BREMS (Bank of Mexico Monetary Regulation Bonds), UDIBONOS (Federal Government Development Bonds UDI’s) and UMS (Mexican Sovereign Bonds).
The derivatives market
They are contracts that depend on the value of other (underlying) assets that depend on the value of other assets (such as oil) that can eliminate volatility and uncertainty in the future, therefore they serve to cover risks and manage more effectively the resources of the companies. That is, it is a kind of “insurance” in the case in which the company is protected from (negative) changes in the price of an asset, or commodity.
The raw materials market
Raw materials are the underlying assets that were discussed in the previous point. These include:
- Energy: Oil, gas, natural gas and coal.
- Grains: corn, wheat, rice, oats, etc.
- Metals: gold, silver, copper, aluminium.
¿What is a financial crisis and when does it happen?
As previously stated, if there is no risk, there is no profit. And sometimes that risk ends in a crisis. A financial crisis is a situation where the economic value of institutions or financial assets falls rapidly, in such a way that it is associated with panic, the massive sale of assets, and / or the massive withdrawal of money from savings and investment accounts.
There are four concepts associated with a crisis:
- Speculation: bet for profit
Speculation is the set of commercial or financial operations that aim to obtain an economic benefit by taking advantage of price fluctuations over time by investing capital, that is, buying low and selling high.
- Bubble: “artificial” price growth.
It is a phenomenon that occurs in the markets when there is an abnormal, uncontrolled and prolonged rise in the prices of an asset, in such a way that it moves further and further away from the real value. Investors buy in order to sell a higher price in the future, causing a continuous upward spiral.
- Stock Crash: abrupt drop in prices (a bubble breaks)
The price of the asset reaches absurdly high levels until the bubble ends bursting, due to the start of the massive sale of the asset when there are few buyers willing to buy them. This causes a sudden and abrupt drop in prices, taking it to very low prices and even below its initial level, leaving behind many debts.
- Stock Market Boom: massive investment in financial instruments.
It is when there is a significant increase in the world’s best-known stock indices. It is when most investors withdraw their money and decide to put it in a specific company.
Now, you know the most basic concepts to be able to understand and embark on the path to your company’s stock listing. In the following chapters, related topics such as the Mexican Stock Exchange, the Stock Market Legal Framework, the listing process, the international stock market and many others will be discussed.
Keep learning with Pr1me Capital.