Introduction to Financial Markets | Robert Reed | Skillshare

Introduction to Financial Markets

Robert Reed

Introduction to Financial Markets

Robert Reed

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20 Lessons (1h 38m)
    • 1. Welcome to the Course

    • 2. Intro to Section 1

    • 3. Rules and Regulations of the Financial System

    • 4. Ways of Calculating Return

    • 5. Risk Vs Expected Return

    • 6. Intro to Section 2

    • 7. Market and fees

    • 8. Primary vs Secondary Market

    • 9. What is the IPO Process?

    • 10. Stock Broker vs Dealer

    • 11. Role of the Federal Reserve

    • 12. Intro to Section 3

    • 13. What Do Long and Short Mean?

    • 14. Market Orders

    • 15. Futures and Forwards

    • 16. Put Option and Intrinsic Value

    • 17. Call Option

    • 18. Mutual Funds

    • 19. Common vs Preferred stock

    • 20. Conclusion cut 1

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About This Class

This class is an introduction to the US Financial system. Here are a few of the topics that we will learn. 

  • What is the stock market?

  • What are the key rules that govern the US financial system?
  • What is an IPO and how do companies "go public"?

  • How are stock brokers different from dealers?

  • What role does the Federal Reserve play in the financial market?

Meet Your Teacher

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Robert Reed


Welcome! I am a veteran and current MBA Candidate. Teaching and tutoring are passions of mine. My first job in college was tutoring other students. I love seeing the magical moment when an idea finally "clicks." When I am not working, I enjoy gardening, inline skating, and playing the harmonica.

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1. Welcome to the Course: Hello and welcome. What is the stock market? We all know that the stock market is a place where stocks and investments are bought and sold, and there's many courses that are designed to teach you what investments to buy yourself. But this course is different. I'm not going to be teaching you what to buy or went to sell. Instead, we're going to be at the market itself. What makes the market operating? What is the market? What are the different rules and regulations that govern the market? How does trading take place on the working? This course is designed to enable you to understand how the market works. It is divided into three different sections in the first section will understand the underlying assumptions of the market risk return. Expected value in the second section will look at the major players and institutions in the market the Federal Reserve, the markets, brokers, dealers and then in the section, which is my favorite. We'll look at the different ways that stocks are actually bought, so we learn about a call option, a put option, a stop loss. We'll look at Ford and futures contracts. This course is designed for your success. In addition to each of the video electricity, every single lesson will have an attached power point slide show that you can view in PDF format. Additionally, each section will have a quiz to gauge your understanding of the concepts. I'm excited to begin this class with you, and I hope you find it useful. 2. Intro to Section 1: hello, Welcome to the first section of the course, and sexual would be looking at the very basics of work. What makes the market ticking? What makes the work it move? We all know that the fundamental underlying reason that we all invest in the market is to earn a profit, a return or to use simpler terms a reward. But we also know that stops or any kind of investment has some inherent risk. There's a lot of things that could happen. The value of the investment could go down the morgue. It could crash or the company could go bankrupt. So this section is want to focus on how we look at appraising both the risk and the return off on asset? Well, look, a formula called expected value, and we'll also look at some of the major rules and regulations that enable work to function . I hope you find the section useful 3. Rules and Regulations of the Financial System: hello and welcome back in today's lesson. We're going to be looking at financial regulations. These are a series of laws that have been created to help regulate the financial markets. Now the first of these, and the first federal stock market regulation in the United States was the Securities Act of 1933. The first few regulations that were passed in the US were a response to the Great Depression. So starting in 1933 and the New Deal era, we had the Securities Act of 1933 which basically mandates required information. It's assuring that all participants have access to certain basic facts about a stock or security that they're investing in. So if you remember from a previous video, we discussed how AH company has to issue a prospectus. This describes the type of security what the goals of the company are. This is where that requirement comes from. Additionally, this act prohibits to seat, so it's both positive and negative. It's negative in that it tries to take away the deceit, and it's positive in that it tries to add mawr information to the markets. Following this, we had the Securities Exchange Act of 1934 now, although the 1933 was the 1st 1934 Securities and Exchange Act was very, very important because it creates the Securities and Exchange Commission, now the Securities and Exchange Commission, basically overseas, anything and everything related to securities. As we'll see, they regulate the brokers, the dealers, the mutual funds, the stocks, how the markets work there, a very, very powerful organization. And if there's one take away from this entire lesson, it should be that the Securities and Exchange Commission is the regulatory body for the market. Now what are they empowered to investigate? They can investigate allegations of theft, false information, manipulation of the stock market as well as selling unregistered stocks. Now the 1st 2 pieces of legislation that we looked at again were in response to the Great Depression, but we see that they were focusing on the securities themselves. So the security has to gives Aaron information. It has to be registered. But moving on to the Investment Company Act of 1940 were actually looking at managing these investment companies so the investment companies themselves must register with the SEC, and we have a focus on disclosure to the clients so thes investment companies have to disclose their financial position, and they have to prevent these conflicts off interest. Now I want to go backwards to the Banking Act of 1933 because it's useful for understanding another act that we're going to talk about. So the Banking Act of 1933 again, All of these acts are going back to the United States. Great Depression, because remember the financial system completely and utterly collapsed. So one of the problems that we were having is that the banks were closing and people were not able to get their money. So the F D I C, which is Federal Deposit Insurance corporation insurers, deposits. So if you have money in a bank, they will ensure up to $250,000. This means that you're guaranteed to get your money back Now. The reason that I mentioned this is because the Securities Investor Protection Act of 1970 institutes kind of a similar structure to the F. D I C, but with a focus on securities, so it creates the Securities Investors Protection Corporation, which is similar to the FBI. See in that brokers or dealers register with the Securities Investor Protection Corporation . So if you ever go into a bank in the U. S, you will see a little seal, a sign that says member F D I C. This is similar in how the brokers and dealers register with the S I P C. Now, if they are not registered, they have to disclose this lack of affiliation to their customers. Now here's the most important part of this act. It protects up to $500,000 of securities. So let's suppose that your brokerage firm becomes insolvent and it goes bankrupt. What this act does is it ensures that you can get back those investments that you have. It also protects you from unauthorized trading. So if your firm sells or buy securities that you didn't tell them to do, you can recoup that lost money. Now, although it does protect your securities, I want to be 100% clear that this does not cover market loss. So if you invest in Coca Cola at $100 Coca Cola goes bankrupt, this does not protect you. This protects you from the failure of the brokerage company whether it's through fraud or whether it is through bankruptcy. Now, as we move on, we see that, especially in the United States, all of these regulations. All of these rules usually come from a certain crisis. So the initial round of legislation was a result of the Great Depression moving into 2002 with Sarbanes Oxley. This was a response to the Enron scandal, and it's specifically designed to prevent fraud. And one of the more notable points of this act is that senior management must verify the financial statements, so this makes them more liable because they are personally verifying these statements. Now moving on again, we have another financial crisis. Remember the great crash of 2000 and eight? The great recession? The U. S. Created the Dodd Frank act. Now I do want to be upfront that this act ISS still hotly contested, especially with the current administration. Many people are trying to repeal certain portions of this act, but it has been included here for completeness. Now. This act specifically was designed to help prevent some of the issues that we had in 2000 and one of the most important of these is the Volcker rule, which separates the investment and commercial functions of banks now an investment bank, as we talked about previously, helps to bring securities to the market. It's focused on investing stocks, things like that, whereas a commercial bank is focused on business loans or savings and deposit those kind of things. So what this is designed to do is to prevent a bank from essentially taking money from depositors and then investing that money on speculation. And this is actually a throwback to the Glass Steagall Act of 1933. In summary. I know we've talked about a lot of different regulations, and I know that sometimes it can get confusing. But I want to point out that the most important concept from all of this is the S E. C. The Securities Exchange Commission. Anything related to stocks, bonds, investments, dealers, financial advisors is regulated by the S. E. C. I hope you found the video useful, and I will see you in the next lesson. 4. Ways of Calculating Return: hello and welcome back in today's lesson. We're going to be looking at the most exciting port of the stock market, which is how much money are you making? This is called the Return. Now there's two broad categories of returns that you can receive on an investment. The first of these are periodic payments or income, so when you buy a stock, they will occasionally pay a dividend. This is a share of the company's profits. Or if you own an apartment complex, the tenants, the people that live there, will pay you rent. Or even if you do something as simple as putting your money into a bank account, you will receive interest payments. Although these may be very small now, you can also have value changes in the asset itself. So if I own an important complex, yes, I'm getting monthly rent. But let's suppose 20 years when it I retire, I don't want to keep up with the apartment anymore. I sell this apartment complex, and it's worth mawr than when I bought it. Or if you buy a stock at $100 sell it $200. This is capital gains, so you have both the periodic payments and the changes in the asset itself. So for a simple example, let's suppose that I, by Procter and Gamble of $100 I sell at $110. The simple formula for percentage change is the new price, minus the old price and then dividing that by the old price. But we see that we aren't exactly at a 10% rate of return. Why? Well, this simple mathematics doesn't account for how long we held the stock for, Did we own it for a week, a month, a decade? And then we didn't account for the dividends. We didn't account for those periodic payments. So a much better way to view the total return of an asset that we have is the holding period return, which is the sum of all the income received, plus the price change divided by the beginning value. So let's suppose that I hold Coca Cola for one year I purchased at $45. I sell it 50 and my annualized dividend is a dollar and 56 cents. What I can do to calculate this is take the dollar and 56 plus the change in price, which in this case is 50 minus 45 for a total of $5. And then I divide that by 45 to get a holding period return of 450.1458 Now, you could just as easily multiply this by 100 to express as a percentage if you wanted to. Now we want to be sure that we always report or returns annualized. This allows US toe have a common comparison. So why is this important? As many of you know, the average stock return of the S and P 500 is 10% per year. So if I tell you that I have an investment that yields 10% does this mean it's a good investment or a bad investment? Well, if it's giving you 10% per quarter, it's great because it's beating the market. But if it's giving you 10% every three years than it is trailing the market, it's far behind, so toe have a common comparison. We always need to report things on an annualized basis, and Justin is an example of this. It's an easy mistake. I was even speaking to one financial advisor who bragged about getting a 30% rate of return on cell offense investments. But he held these for a period of three years, so in reality he was on Lee getting 10%. So just make sure you report everything annualized. Now. What we can do to convert different periods and compare on an annualized rate is to use the annualized percentage rate, which is found by taking the holding period right time, the number of periods in a year. So let's suppose that we hold Coca Cola for 24 months and have a holding period return of 0.16 Now there are 0.5 24 month periods in one year or another way of saying this is that this is two years worth of return. So we need to divide this by two, or we can multiply by 20.5, so we get 0.8 for the annual percentage rate. Now, let's suppose that we have co Procter and Gamble for six months at a 60.5 There are 26 month periods in one year, so we need to multiply this by 0.2 for a 10% annual percentage rate now, one thing that we might run into is uncommon periods. So what if I hold a stock for five months or 6.5 months? Right? What we can do is we can evaluate everything simply by how many number of periods there are in a year. So it doesn't matter if we're doing three weeks for a stock or four months or 10 days. All we have to do is we have to keep the units the same. So if I hold a stock for two weeks, I'm going to multiply that holding period return by two divided by 52 Because I held it for two weeks. There's 52 weeks in a year. If I held it for four months, I'm going to multiply it by four divided by 12 because I held it for four months and there are 12 month periods in a year. In summary, we've looked at the different components of return. We have both the change in the value of the asset itself, but it's just it's important to include those periodic income payments. We also talked about the importance of re porting and computing or returns annually so that we have that common basis. I hope you found the video useful. And I will see you in the next lesson. 5. Risk Vs Expected Return: hello and welcome back in today's lesson. We're going to be looking at expected returns, and we all know that stocks or any kind of investment really is inherently risky. There's a lot of different things that could affect the value of this investment. For example, we know that the redo turns depend on positive or negative actions. Some things can boost the price of a stock, and some things can make it full. But even these actions themselves are uncertain. So let's use a real world example of this. Suppose we have Rob's tool shed. And for the upcoming year, there's three possibilities that can happen. We could receive a townie contract for tools. So the townie government says all of our tool purchases are going to come from Rob's tool shed now in this example, or stock price would increase 30%. Also, we could simply continue our normal operations and grow at a rate of 10%. Or, in the worst case scenario, bargain Tool town could open a shop right beside us, which would call cause our stock price to fall by 20% due to the threat of competition. So, even looking at this, we see that there are different possibilities that could affect the return, but we don't know the probability of getting these returns. So what are the probabilities that we continue business as usual and get that 10% return? What is the probability that we receive that contract and get a 30% return? So what we need to know is both the probability of getting a return and the actual value of that return and this goes into a formula enables us to calculate expected return. So we have the some of the probabilities times the actual rate of return. So we know that receiving the contract from the county government gives us a 30% rate of return or 300.3. So when we multiply this by the probability we get 20%. So we have a 200.6 for business as usual. Remember, that's a 10% rate of return, and the probability of business as usual is 70% which gives us a points seven and the same thing for the competitors opening their store. Now, when we some all of these together we get the expected return of 0.11 or 11% and this makes sense because, remember, and the standard normal operating business is a 10% rate of return, so the chances of the competitors opening up shop are lower than the chances of getting that contract. In other words, we have a greater chance of deporting up and getting higher rates of return than we do of getting lower rates of return. Which is why that expected return is higher than the simple business as usual return now, when we think of risk, there are many, many, many different types of risk in the stock market. Some of these or market risks or systematic risks, things that affect the whole market. So whether we are invested in an oil company or whether we're invested in a tech company or a financial company were all going to be affected by these market risks. The inflation depression wore things like that that we can't really get away from. Even pulling our money out of the stock market still doesn't protect it from inflation, so systemic risks affect everything now a business risk where a non systemic risk can apply either to a specific firm or a specific sector, so we could have an employee, a high ranking CEO in a company that is accused of fraud. Right? This is specific to that business, or we could have a shift in consumer preferences. So if all of a sudden people find that excessive sugary drinks cause a lot of health issues , this could affect not just Coca Cola but also Pepsi as well. So it doesn't apply to the whole financial system. It's isolated to a specific sector of that now, a couple things that I really want to talk about our inflation risk because there's many, many different kinds of financial risks. But inflation is one of the big ones for the simple reason that inflation has been with us for a long time. It's one of the most common types of risks, So let's assume we have a bond or a certificate of deposit that's paying 4% interest for one year. Now, if we have 0% inflation again, 0% inflation is highly unrealistic. But for the sake of calculation, let's assume there is zero inflation. Now. The nominal return will be 4%. Nominal is simply in dollar terms. So if we started with $100 we end up with $104. That is a nominal return of 4%. Now the rial return is also 4%. The rial return takes into account the effect of inflation. So let's go through another example and suppose that we have the same bond paying 4% interest for one year. But now we have 5% inflation. At the end of that year, we will still have $104 we still started with 100. So we're still up nominal terms, 4%. But here's the rial return. The rial return is a minus 1% because we had 5% inflation, so the value of our money decreased by 5% but the amount of our money increased by 4% so the rial return is a minus 1%. Now, even though we have a negative real return, this is still better than if we would have held onto the cash ourself because then we would have not had any kind of nominal return. We simply would have lost 5% due to inflation. Another common thing is interest rate risk. Now, this is somewhat related to inflation. because when inflation rate goes up, the interest rates also go up. So let's suppose that we have a CD or a bond that's paying 4% interest for two years now. After we lock in that 4% interest for two years, the interest rate increases to 6% so we don't actually lose any money. We just miss out on a better investment that comes along later. There's countless different types of risks that analysts use, and we have credit risk, which is the risk that a company will default political risk. This is, Let's suppose you're investing in a foreign country and then the US puts an embargo on that country so they can't trade. They can't sell their products or we put a sanction on them so they can't import the raw materials they need to produce those products. Or even we put a tariff or a quota on their products so that they're not able to sell them . Sovereign risk is the risk that a country would default. So credit risk is the resist risk that a company would default and not pay its obligations where sovereign risk is essentially the same thing, but applied to a government. Now there's many, many different types of risks. There's the risk that your financial advisor will steal from you. There's the risk that basically anything could happen. But these are the major risks in the financial markets, and we've talked about both risk and expected return. Remember that expected return takes into account the possibilities of returns. So the probability that a certain return happens but also the value of that return. I hope you found the video useful and I will see you in the next lesson. 6. Intro to Section 2: hello and welcome back to the second section in the course in this section would be taking a broader look at the market, and the first thing to understand is that the market is not simply one entity. The market, broadly speaking, is composed of multiple different organizations, all working together to facilitate trading securities. Now I'm sure many of you are familiar with the New York Stock Exchange or Wall Street. But did you also know that there are smaller stock exchanges, even regional stock exchanges? And on top of that, some stocks are not even traded on an exchange in all their traded in a manner known as over the counter trading. We also have government entities that influence the markets, such as the Federal Reserve system. In this section, I want to be learning about all of these different entities, and we'll also look a little bit mawr at a stock itself. So when you buy a stock, it doesn't just come onto the market. There is a process that the stock has to do to become list. This is known as an initial public offering. We'll take a look at the Chio process, and we'll also look at some of the requirements for a stock to be listed on a stock exchange trading. I hope you find this section useful. 7. Market and fees: hello and welcome back in today's lesson. We're going to be looking at the very basics of the stock market. We're going to look at what a stock exchanges, and then we'll look at some of the associated terms with the stock market. Now, as many of you already know, a stock exchange is, quite simply a place, an institution that has a market where people can buy or sell different types of stocks. You perhaps you're familiar with the North New York Stock Exchange or the London Stock Exchange, but there are many other stock exchanges as well, such as the Swiss exchange. Now, in order to be listed on a stock exchange, a company has to fulfill certain requirements, and each stock exchange will have a little bit different listing requirements, as they're called. But they're typically going to look at something like the size of the company, right. If you are the New York Stock Exchange and you're dealing with multimillion dollar companies, you don't want to a have a very, very small company listed, so they're going to look at the size of the company. But they're also going to look at the liquidity of the shares. In other words, is this a company that people are buying and selling right? Because remember, the whole point of a stock exchange is to facilitate the transactions between people that want to buy and people that want to sell. So if there's not really a demand for changing hands of these stocks, they're not likely toe list this on their exchange. And then, of course, there are fees that a company has to pay to be listed on the stock exchange. Now, just because a company doesn't meet thes listing requirements doesn't mean that there's no way to buy thes shares of the company. A company can still list on a different stock exchange. So typically, a regional stock exchange such as the Chicago Exchange in the United States will have a little bit lower listing requirements than a major exchange, such as the New York Stock Exchange. Also, firms can list on an over the towner exchange now over the counter exchanges, an exchange that takes place between a dealer network instead of on a main stock exchange. So think about this as dealers interacting with other dealers and then lastly I want to make it clear that a stock can be listed on multiple listing. So just because it's listed one place doesn't preclude it from being listed somewhere else . Now that we have an idea of a exchange, we can also look at some of the the fees involved with trading stocks. Now the first of these is commissions. A commission is simply what you pay the broker where the dealer to trade your stocks. So if I have stocks, I cannot log into an online portal on the New York Stock Exchange and directly sell them. I have to go through a broker to sell these for me. So a commission is the fee that that broker is charging me for that service of selling my securities Now. When the New York Stock Exchange was established in 17 92 they established fixed rates on the commission, so essentially the dealers all had to charge the same commission. But on the first of May 1975 which is known as May Day, there was deregulation which allowed the commission schedules to become competitive. Now this led to a split where some firms became what is known as a full service brokerage and others became known as a discount brokerage. Now a full service brokerage firm is gives you a lot more service and give you investment advice. It gives your retirement planning. For example. Edward Jones is a good example of a full service brokerage firm. You let them manage their money for you and they give you a retirement plan. Or they tell you how much money you can expect toe have in retirement. They will sit down and meet with you one on one and help you plan your financial goals. Now, the thing about this is that they're going to charge you MAWR for that so they might charge you a fee off 1% or 2% of your total assets, right, because you're getting a lot more from them now, On the other hand, a discount brokerage firm simply executes your trades for you. So one of my accounts that use has a flat $8.95 transaction fee. So whether I want to buy 10 shares or 100 shares, I put in my order. They charge me $8.95 and then they execute my trade. They don't really give a whole lot of advice. They don't manage my money for me. They simply execute the trade. So it's important to notice the difference between full service and discount firms. Now the bid ask spread is another transaction fee that participants in the stock market frequently encounter. And honestly, this is one of the hardest things for me to remember, even though it's a simple concept, So bid is the price at which someone is willing to buy. So if you've ever watched the price is right and they're trying to bid on the price of an item, they will say, What do you bid? In other words, what is the price at which you would be willing to buy? Now ask, is the price that you're willing to sell? So whenever, whenever I go to a flea market or a first Monday sale, we typically ask people, How much are you asking for that right, and we're asking them, How much would you be willing to sell that for now? It's not always going to be that the bid and ask price are the same. We're going to have a buyer that obviously wants to buy lower and the seller obviously wants to find a higher selling price, and this results in what is known as the bid Ask spread. So if I'm willing to sell shovels for $5 each, but someone is only willing to buy them for $4.50 we have a spread of 50 cents. Now, in order for a transaction to occur, we have to meet somewhere in the middle. Either I pay an additional 50 cents to buy it, or he lowers his price 50 cents, or we meet somewhere in the middle. But the important thing is that that spread results in an additional transaction fee. Now, one last transaction fee that we need to be aware of is the price impact and this results from large selling decreasing the market price. So if a particular stock is selling for $40 let's suppose that you have 10 shares, you want to sell these 10 shares, you're likely not going to impact the market price. Now, if you have hundreds of thousands of shares that you want to sell, you're going to drive that market price lower because you're going to be selling much more than other people are wanting to buy, So let's suppose that you have 10 shares to sell. You can easily find people that are willing to buy these 10 shares, but as you keep selling a higher and higher quantity, you're not going to find people that are willing to pay $40. Maybe you have to start going down to $39.38 dollars $37. So this lower price that you're receiving for your shares is a reflection of the price impact. So just remember, as you sell more, you decrease the market price, and when you buy a large, large quantity of shares, you can actually increase the market price. Now, in summary, we talked about what a stock market is. We've talked about seldom of the different kinds, what it takes to get listed on a stock market. And then we've talked about the transaction costs, off buying and selling on a stock market. I hope you found the video useful, and I will see you in the next lesson. 8. Primary vs Secondary Market: hello and welcome back to our course in the financial market. Now, today we're looking at the securities market. What is the securities market? And more importantly, what is a security? A Security is, quite simply, a financial instrument that has some kind of value now an instrument. Just think of that like a tool. So you have debt instruments such as bonds and things like that, and then you also have other tools, such as stocks. All of these things are different types of securities. So when we think about the securities market, we typically hear either the primary market or the secondary market. And although this seems confusing, it's very easy to remember if we simply think about the words themselves now. Primary is first, secondary is second, so primary are newly created security. So this is the first time that specific security has been offered for sale. It is being issued on the primary market. The secondary market is for securities that have been previously held. So the first time I sell a security, it's on the primary market. And then even if someone comes up to me and buys that primary share that I just bought it's now on the secondary market because it's already been owned by someone else. So for an example, let's suppose that I own Rob's tool shop and I need to raise $100 for a new machine I can create and to help sell 10 shares at $10 each on the primary market. Now, why is this the primary market? Because these shares I have never been sold before. I robs tool shop. I am creating the shares. Now let's flip this around and say that Sally already owns $100 worth of Rob's Tool Shop shares. Now she sells five shares at $10 to be a new hair dryer. This is the secondary market now There's a specific kind of primary market that you may have heard of, and that is an initial public offering. Now these are new shares of a new company. So the first time that a company offers its shares for sale to the public, it will be called an initial public offering. By contrast, on Old Company can also offer new shares. But because the company has already sold shares to the public, it's going to be known as an S E. O. Or a seasoned equity offering, or you can also have a secondary equity offering. So let's go back and recap. Primary market is a market for securities that are being sold for the first time off this primary market, we can have new companies that are selling their shares for the first time, which is an initial public offering. We can also have older, established companies, but they're selling securities that haven't been sold before, so they can still be in the primary market. But they will be a seasoned equity offering. And then lastly, we have the secondary market and the secondary market is and comm passing everything that has already been sold. I hope you found the video useful and I'll see you in the next lesson. 9. What is the IPO Process?: hello and welcome back in today's lesson. We're going to look at the initial public offering process. This is something that requires a little bit of time and energy to fully understand. So let's dedicate this entire session just to understanding the AIPO. Now we know from the previous lesson that we have investment bankers. Now investment bankers help companies to issue new securities. The best way of thinking about this is thinking of them as a stock wholesaler. So let's suppose that you, as an individual, want to buy 10 shares of Coca Cola or 25 shares of Pepsi. You will go to your broker whether it's U. S. A. Or whether it's some online brokerage such as TD Ameritrade or whatever you have, you will buy those shares. But now let's suppose that instead of buying tan or 25 shares, you're buying millions and millions of shares. Instead of having this brokerage firm as an intermediary. Essentially, you have an investment bank or so think of it as kind of the same process, but they're dealing with large, large amounts of shares because they have the resource is to develop this security and to market this larger amount. Now when we have such a large issue of shares, we have what's known as a syndicate. So the company says We want toe offer so many shares to the public, and what the's investment bankers do is they get together other investment bankers and say were issuing a large amount of shares. And who else wants to be a part of this issue with us? So the reason that they do this is because it can distribute the risk as well as the reward of the initial public offering. So the initial investment banker that the firm contacts may indeed want to sell and market this security, but they don't want to sell and market four million shares. Perhaps they want to be responsible for one million or something like that. It helps them distribute the risk and the reward. So a syndicate again, as a group of investment bankers now to actually sell an investment, it has to be registered with the SEC. So that's another thing that the investment banker will do in conjunction with the issuing firm. They will begin the SEC approval process and file certain forms that they have to do to register the security now. At some point, they will also publish a tombstone. Now a tombstone is an advertisement for a specific stock, although it is not offer to buy or sell. So it's giving information, but it's not actually offering to sell the investment, so it also lists the underwriter. So it tells the public who is underwriting, who is kind of responsible for this share. And I'll give you a little bit mawr example of a tombstone in a minute. But first I want to look at the registration statement. Now this registration statement is filed with the SEC, and this is what formally begins the I P o process. Now this registrations ch'tis, sometimes called a red herring. As you can see in this image, there is a red disclaimer on the left hand side of the page. This is basically telling the public that this current security in its current form is not approved by the SEC. You see that there is no price listed for sale. It is not an offer, and most importantly, it is based on incomplete information. So this is saying, Hey, we have this security that's going to be coming for sale, but it's not approved. We're not offering to buy or sell it yet. We're just giving you information about the future offering now. The tombstone that we talked about earlier does have a price on it, and we can see here that at list the company the number of shares and different from the red Herring prospectus. Now remember, the Red Herring prospectus cannot list a price because it has not been approved by the SEC . The tombstone again is not an offer to buy or sell. It is an advertisement, and it also tells members where they can find this perspective. And again, like we said, it lists the firm's the other investment bankers that air underwriting this issue. And once again, even the tombstone says that it is not on offer to buy or sell. So what happens after the SEC finally approved the security? Well, after the SEC approves, the investment bankers will create a final prospectus and set the offer price and size of the issue. And there's two main ways that this offer of securities can be can be managed, how they can bring it to market the first way which is not used that frequently is the firm commitment basis. And essentially, what happens with this method the investment bankers, the syndicate, they by all of the shares from the firm. So essentially what they're doing is they're taking those securities and they're buying them. And then they're reselling these shares that they now own to the investors. So think of this way. Essentially, they're selling their own shares, right? The shares don't belong to the company that's making the I. P. O. They now belong to the investment bankers. Now a form or common method is the best effort basis, and this is where the investment bankers don't buy the shares from the firm. The firm still has the shares, and the investment bankers are acting as an agent. They're trying to sell shares for the firm, so they're more of an intermediary in this example. And it's typically used when bankers feel the risk. So if I'm not so sure that these shares air going to sell, I'm not going to commit to buying them outright from the company. I'm going to just try my best and act as an agent to sell them for the company. Now I know this is probably one of the more confusing lessons. So what I want to do is summarize kind of the flow chart, the steps that a company would go through the first thing that a company decides to go public. Now when they go public, they're going from having just a small group of initial investors, essentially the founders of the company, and they're offering their shares to the public. And to do this, they will choose an investment banker. Now this investment banker is going to form a syndicate off other investment bankers to help distribute the risk and reward of these shares. Once this syndicate US form, they will begin generating the registration for the SEC that will begin filling out all the paperwork that they need to do now. While this is in process, they can still distribute this red herring prospectus because it is not an offer to buy or sell. It is simply information Now, at some point in this process, they will also generate the tombstone again, which is not on offer to buy or sell, but is giving information about the shares. It's an advertisement. Once they receive SEC approval, they will issue the rial prospectus and begin offering the shares to the public and remember that they can offer shares to the public in one of two ways they can do the firm commitment basis or the best effort basis. I hope you found the video useful and I will see you in the next lesson. 10. Stock Broker vs Dealer: Hello. Welcome back to the course in today's lesson, we're going to be looking at the difference between a dealer versus a stockbroker. Now, these Air Two concepts Two key players in the secondary market that people sometimes tend to get confused, but they actually have a very different role Now. The dealer is perhaps the most familiar. A dealer trades from their own accounts. Now, what does this mean? The best way to think about this is a car dealership, right? You go to the car dealership and the car dealership has their own inventory in stock. Right? So you want to buy a Camaro or a Corvette? You go to the dealership and they sell you a car out of their own inventory. So what a dealer does in the stock market, they have their own accounts. Now they may sell securities to you, but they're selling them out of their own accounts Now. A broker, on the other hand, is someone that sells or buys on behalf of an investor so they don't have their own stock to sell you. They're more of an agent, and the best way to think of this is a personal shopper so if you want to pick up a loaf of bread and some veggies from the supermarket, but you don't want to go do it, the broker can go and do this for you right there going and they're getting something that's not in their inventory, but they're acting as your agent. So in summary, I know this is probably the shortest lesson in the course. But it's important to understand the difference between a dealer who is someone that acts like a car dealership and buys and sells into their own inventory and a broker, which is more like a professional shopper that merely arranges and facilitates the transaction. I hope you found the video useful, and I will see you in the next lesson. 11. Role of the Federal Reserve: hello and welcome back in today's lesson. We're going to be looking at the Federal Reserve now. When we think of the market, we have to consider the actions of governments. Governments are extremely powerful players in the market, both through their ability to regulate and control the market, but also to influence it. Remember when we talked about systemic risk, such as inflation and business cycles and things like that? To a certain degree, governments can help stabilize the market process and the way that governments in through fluids the market is through both monetary policy and fiscal policy. Now, fiscal policy relates to things that the government does, such as tax rates or spending. So when you hear of a stimulus package or the government investing in building new roads or in education, this is an example of government spending under the fiscal category. Now, monetary policy relates to things such as interest rates and controlling inflation, and in the US this is controlled by the Federal Reserve. Now from the Federal Reserve's website. We see that they have three goals maximum sustainable employment, stable prices and moderate interest rates, and this is sometimes simplified to a dual mandate of low inflation and maximum employment . So what can the Federal Reserve due to influence this? What tool kit doesn't have? Well, the 1st 3 or the big ways that it can influence this interest rates, open market operations, reserve requirement, and to a certain degree, they can also influence investor perception of the market, all of which will be discussed. But how does the Federal Reserve do this? They influence the interest rates by influencing what is known as the federal funds rate. Now, this is the rate at which banks 10 lend to other banks, and the idea here is that everything is built upon this right. So it influences other short term interest rates because the federal funds rate is taken into account in those rates, so it won't exactly be a one for one ratio. But as the Federal Reserve lowers the federal funds rate, we would expect other short term interest rates to also lower. And as the Fed raises this rate, we would expect other short term rates to increase. Now the Federal Reserve can impact unemployment, and unemployment is kind of a nexus between fiscal and monetary policy. To a certain degree, it is is influenced by Howard. Government spends its influence by a government's investment on roads infrastructure, but it's also affected by the interest rate so the Federal Reserve can control the interest rate. And as it lowers this interest rate, it encourages businesses to spend right when interest rate is 20% were not going toe have a lot of new investment. But when the interest rate falls, let's suppose to two or 3%. Businesses find it more worthwhile to invest. They find it worthwhile to engage in borrowing. People find it worthwhile to build new houses. Now all of these activities require workers and materials, so we're going to need more workers to build these new buildings. We're going to need materials to create these things, all of which will decrease unemployment. But there is no free lunch. At some point we can run into an overheated economy, and this is another word for inflation. When interest rates are too low, we increase the rate. The risk of inflation and inflation is a systemic risk that affects the market because once inflation starts getting too high, we're going to demand mawr of a return on our investment to compensate for that inflation risk. But just the same time too high of interest rates can also have a negative effect. They make investment difficult. When the investor interest rate is 20% businesses aren't going to be able to invest in new equipment or to build new operations. It's going to slow the growth of the economy and again, just as too much inflation and an overheated economy or a risk too high of an interest rate is also a risk. So the Federal Reserve, as we talked about, can influence this through the reserve requirement. It can also influence this through what is known as open market operations and open market operations is when the government, the Federal Reserve, buys or sells bonds right? So traditionally what happened is they would buy short term bonds, and this would influence the short term interest rate, which would then influence the long term interest rate. But specifically in the 2008 to 2014 timeframe, the Federal Reserve embarked on a a previously unprecedented move of purchasing longer term bonds directly Now, this was designed to lower the interest rate of the long term directly so they weren't looking specifically at the short term rate and hoping this would influence the long term rate. They went directly to influencing that long term rate because short term rates were near zero, so they couldn't really do much to influence those. Another tool that the Federal Reserve has is reserve requirements. Now every bank. Let's suppose I go on deposit $100. The bank is required to keep a certain amount of that on deposit. The rest of this, they can lend out and create loans. So when the reserve requirement is 5% if I deposit $100 the bank on Lee has to retain five of that dollars, the other 95 it can loan out now. By contrast, if the reserve requirement is 20% and I deposit $100 the bank can Onley make $80 of loans. So what we see here is that the Federal Reserve can reduce the amount that banks can create loans by raising this reserve requirement In summary, we've looked at the Federal Reserve System, which is a major player in the U. S. Market specifically because it influences interest rates, and that's the one that We're looking at more from the perspective of the stock market, but it can also influence the inflation rate and the unemployment rate. I hope you found the video useful, and I will see you in the next lesson. 12. Intro to Section 3: Hello. Welcome back to the third section of the course. By this time, I hope you have a better understanding of how the market works and grew with key players in the market. Or but there's one for a concept that we still have to cover, and this is how securities are actually bought and sold. Now the market isn't exactly like going to the gas station or the grocery store. Traders don't have to simply pay a certain price for security. There's a number of different ways that traders and investors can pay a different amount. They use what's known as a market order to simply buy or sell at the best price. They can use a call option to guarantee that they have the right to buy security at certain price. They can use a put option to guarantee that they can sell a security at a certain price. There's all kinds of innovative ways that we're all the way to look at in this section. Additionally, we will look at how futures or forwards contracts can be used to reduce uncertainty in the market. I hope you find the section useful 13. What Do Long and Short Mean?: hello and welcome back in today's lesson. We're going to be looking at different types of trading positions, and the one that you've most frequently heard is the long position. Now, even if you didn't know the name for this position, I'm sure you've heard to buy low and sell high. This is something that anyone that's ever heard anything about the stock market knows. And it's the basic idea that you want to buy a stock when it's at a low price, and then you want to sell that same stock when it's higher so that you can make a profit. So suppose that I buy 100 shares of Coca Cola at $40 per share. If I sell the same shares at $45 I will make a difference of $5 per share for a profit of $500 on the total transaction. Now the long position is relatively easy to understand, but shorting a stock sometimes requires a little bit more explanation. So when you short a stock, what you're essentially doing is you're selling a share that you don't own. So let's suppose that in December of 2018 I thought that Bitcoin was going to decrease in price. Now, how do I make money off of something decreasing? If I buy this stock and I expected to decrease, I'm going to be selling at a loss. So what I do is I borrow shares from someone that has them. So let's suppose that I borrow 100 shares from my broker. Now I sell these shares on the market for 3000 or 5000 or whatever the prices. I sell these shares at the high price. So if I was selling these shares of Bitcoin in December January of 2018 I would be selling them at almost $20,000. So I sell these shares at $20,000 then I get that money. But the thing is, I have to pay back the shares. So what I'm hoping to do is to sell the shares at the high price, and I still have a debt of 10 shares or five shares that I need to pay back. But I can buy these shares later when the price drops. So let's look at another example. Let's suppose coke is $100 per share, and I believe that the company is going toe have significant financial trouble. Perhaps I think the manager is going to be under investigation for corruption, or I think people are going to not want to drink sugary drinks anymore. But for whatever reason, I assume that the price will decrease. What I can do is borrow 100 shares from my broker, and then I sell the shares at $100. Now, if the price of the shares drops to $50 then I go and I buy these shares at $50 give them back to my broker. So I make a profit of the difference between 50 and $100 times the number of shares that I made so so far, this sounds pretty good. We can make profit either ways, but there's also the worst case scenario that we need to look at now with a long position. If I buy Ah 100 shares of Coca Cola and the company goes completely 100% bankrupt, even if the company goes bankrupt the most, I can loses $1000 the total price of the shares. Now with a short position, I have a potentially unlimited loss and let me explain what I mean by that. If I sell 10 borrowed shares at $100 in the stock goes to $10. I still owe my broker those 10 borrowed shares, so I have to buy them back at a higher price. So I'm losing $100. Now let's suppose the stock goes to 150. Now I'm losing $500. Or in a terrible worst case example. Let's suppose that I shorted Amazon when it was $18.45 and it is now $1654. I owe my broker over $1600 per share, right? So with a long sail when we're buying and holding a stock, were limited to the price of the stock. If it goes completely bankrupt or if it loses half its value, that's all we lose. But with a shorting position, we owe the brokerage though share, so the longer we wait, we just keep incurring losses and losses. Now this Amazon example is completely unrealistic. It's just meant to give you an idea, and this is the reason why, because with a short position specifically financial regulators realize that there's the possibility for huge massive losses that could disrupt the entire financial system. So what's been into instituted is known as a margin requirement. Now what a margin requirement does. It's a certain percentage of the total value that a trader must keep in a brokerage account . So let's just suppose that I buy a share for $100 on margin. Now I have to keep $50 of that in a brokerage account, and this is why it prevents losses. So if I buy these shares, let's suppose I short them at $100. Now I have to keep $50 let's say, in my brokerage account. But as the price of that share goes up, let's suppose it goes to $200 I have still not paid back those shares. The broker is going to call me up and say, Hey, you need to put more money into your account to keep your margin at 50% now. The reason this is so important is because it limits our ability to hold on to these positions. So going back here, if we shorted Amazon at $18 once it went up to $36. We would have to put more money into that margin account if we couldn't deposit that margin than we would have to. We would have to resolve our positions right so we wouldn't get to the point where we are going $1600 per share. Because up along the way we would constantly be having to put MAWR money into that margin account. So the margin accounts help to mitigate the losses on a short position. In conclusion, there's two main positions. We have a long position which is basically buy low, sell high or as you might have heard, buy and hold. This is buying a stock for the long term, hoping that it will go up in value. The opposite of this is the short position, which is essentially hoping that a stock will go down in value. I hope you found the video useful, and I will see you in the next lesson. 14. Market Orders: hello and welcome back in today's lesson. We're going to be talking about different types of orders now. The best way to analyze this is think about. If you go to a store like WalMart or Target, and whatever you see on the price on the shelf, that's what you're going to pay. But it's not exactly the same way in the stock market. In the stock market, you can buy with a market order. Now a market order guarantees a sale, but it does not guarantee a price. So you might say, I want to buy AH 100 shares of Coca Cola at the best market price. Maybe you pay $50. Maybe you pay 51 maybe 52. You're guaranteed to buy 100 shares, but you're not guaranteed the price Now. On the flip side, a limit order guarantees a price, so you could say I only want to sell these shares at $50 or better. Now, if the price reaches $49 you won't sell these shares, so you're guaranteed a price but not a sale. And these air the vast majority of orders that people use either the market order or the limit order, so let's dive a little bit deeper here Now. A market order is immediate execution at the best price. So if the bid is $40 remember, the bid is the amount that song be willing to pay to buy. And the ask is the price. So I would be willing to sell if we purchase a market order purchased 100 shares of Coke. We are going to by those at $42 right, because that's the ask price. That's the price someone is willing to sell. Now, if we want to sell our shares, we can expect to sell them at 40. Because remember, the bid is what people are paying to buy these shares now. A limit order can set the maximum price we're willing to pay or the minimum price that we're willing to sell. So suppose that the current prices $40 per share and we place a limit to sell at 45. This means that if we get to $44.50 we will not sell because we're waiting for that magical $45 price. Now this can be used to an advantage or sometimes a disadvantage. So if the price goes up, we sell our shares. But let's suppose the stock sells to $30. And let's suppose that right before it got to $30 it was $49.50. We could have sold this with a market order, but because we used a limit order, we did not sell. At that price, the stock falls to $30 we end up selling at 30 and losing $10 per share Now. One thing that I want to demonstrate is that when you place a market order, it's executed almost immediately. Now, with a limit order, there's multiple people that could have placed limit orders ahead of you. So let's suppose that there is a total limit order for AH 100 shares. 10 people place limit orders for 10 shares ahead of you. Those will be fulfilled before yours gets filled. So even if we hit that magic $45 let's suppose that only 50 shares are sold At that price, the 100 individuals ahead of us will get their share sold. First, we will move up in the queue for the next time that it reaches $45 So that's something to be aware of now. This is where it's going to start getting a little bit tricky, but I'll try to explain it as what best as I can. We can initiate a market order by simply saying I want to buy 100 shares, but we can also initiate a market order if a certain price threshold is hit. So when we think about a stop cell or a stop loss order, we can initiate a market order if a stock trades below a certain price. So let's suppose that the price is $40 and we we want to sell at $30. So once the price hits $30 we're going to essentially take whatever price we can get. So once we hit $30 it doesn't have to be 31 or better. Once we hit that 30 just sell 100 shares at the best price that the market will give us. Now. I stopped by IHS similar in that it initiates a market order to buy at a threshold price. So suppose the price is $10 we think that once a stock hits a magical $15 it's going toe, have a lot of mo mentum. So after the price hits $15 we're not waiting for a certain price. We're just saying, Hey, buy 100 shares at the best price we can get now a stop limit order. And the best way to think about this is a market order is a stop loss or a stop by right. It converts to a market order a limit order. A stop limit converts to a limit order after a threshold has hit. So if the price is $48 we buy at better than 53 of the stock hits $50. So what this means is, let's suppose the stock hits $50. Some of the stocks are sold at 52. Summit 51 we will buy them. But once the stock hits, anything more than $53 were not going to buy them right. So were Onley buying after a threshold is hit up to a certain specified price. Now, at least for me, this was very confusing, so I tried to make a diagram to help clear some of this confusion up. The first thing to understand is that there are basically two different types. There's a market order to buy or sell at the market price, and there's a limit order to buy or sell at a certain price or better. Now, if we want to initiate a market order, we can use either a stop by or a stop cell. And if we want to initiate a limit order, once a stock hits a certain price, we can initiate you to a stop limit by or a stop limit cell. Now one last thing before we close this out. When we think about more orders, they're executed immediately, so we don't really have a time frame. But when we think about a limit order or a stop, what we need to think about is that prices situations can change. So let's suppose that we have a current price of $10 we put a limit to buy this at $50. And when we put this limit order, the price of the stock was 45 but now it's fallen all the way to $10. We have to kind of reevaluate our expectations and say there's such a big price difference that this limit order it's not really realistic anymore, So there's several different time frames that we can place on these types of orders. We can put good til cancelled. So this this limit order will be in effect until it is either executed or a certain time period. So a day, a week, a month, or whatever different time frame we want to put, we can put a day order, which is good for the day period of, or we can do a fill or kill order. Now, Ah, Phil, or till order ensures a desired price by saying buy at this price immediately. So it's It's kind of a more complex thing, but just know that filler kill ensures that we a certain desired price or nothing at all. So there's no it's no partial credit were selling all of our shares at $50 or better, or we're not selling any of them. In summary. I know this is one of the longer lessons, and one that's a little bit more complicated, but I hope you have at least a fundamental understanding of the different types of orders. If you don't get anything else out of this video, remember that the two main types of orders or a market order and a limit order. Ah, market order executes at the market price, and a limit order executes at a certain price that we specify. I hope you found the video useful, and I will see you in the next lesson. 15. Futures and Forwards: hello and welcome back in today's lesson. We're going to be learning about a futures contract, and the best way to start learning about a futures contract is to understand the spot market. Now the spot market is the market that we're all familiar with. This is when you go to the grocery store and you buy some groceries or you buy gas from a gas station, or even if you go to a coin shop and buy some coins, right. This is where you pay money, and your product is immediately delivered Now, even if you order something through the mail through Amazon, as soon as you buy for that item, it is sold its on its way, even if it takes some time to be delivered because the item is delivered on the spot, we call it the spot market, and you essentially pay the sticker price for the item and you receive ownership. Now, let's suppose instead that you're trying to purchase something a little bit more complex that the store doesn't have in stock. So suppose you want organic, say lan cinnamon, and the store doesn't have that specific brand now. Before they order this, they want to be sure that you're going to buy it, or if you're getting custom clothing made from a tailor, they once they cut this fabric, it's useless to them unless you buy the suit so they might require a deposit. So essentially a forward contract is paying for a product that you will receive at some point in the future. So even if you don't pay the full price of the suit before it's delivered, you may have to put a deposit in your mind. And in the mind of the seller. A sale has already taken place, even though payment has not been rendered and the service or product has not been provided now. The reason that I go into a forward contract is because it helps us to kind of understand the informal nature off paying for things in the future. You might. You might hire a friend to come and mow your lawn. And even though he hasn't come to mow your lawn yet, you're still going to pay him to do this. Now a futures contract is sort of like a forward contract, except that it's has standardized terms and third party guarantees. So going back to the example of the grocery store ordering a special organic cinnamon or the tailor making a custom suit. If you don't show up to buy the suit, or if you don't come back to the store to buy that organic cinnamon, then the store has lost out. They've spent this money cutting the fabric. They spent this money ordering the special cinnamon, and you didn't end up buying it. And even if they get to keep that deposit that you made, they're still going to have lost money. So a futures contract number one has standardized terms and conditions, but it also has 1/3 party guarantee. So both parties know that the other party will honor their obligations. And some of the things that a futures contract can describe is the product to be delivered the price where this will be delivered, the consequences if a certain party doesn't live up to their obligations and, interestingly, a futures contract can be sold. So what are some of the uses of a futures contract? Futures contracts can be used for two main reasons. A hedge or a speculation. Now a hedge is something that's designed to offset risk so suppose that I'm a restaurant and I use a lot of corn. In my recipes. I make corn chips. I make dishes with corn. I don't want my price that I charge my customers to be affected by disruptions in the market so I can enter into contracts every month to deliver a certain amount of corn to my store at a specific price. This helps to maintain the stability of my operations Now another example is speculation. So let's suppose that gold is $1200 per ounce and I anticipate a rise to $1500 per ounce. I can sign a contract now to deliver 100 sorry, 1000 ounces at $1300 in two months. So if the price goes up, I will make a difference of $300 per ounce. Now there's two comparisons that we need to make. The first is between a forward and a future. Ah, forward contract is negotiable. So this could be between you and a car dealership or between you and your lawn company or you and your landlord, right? These are negotiable and they're conducted between the parties, whereas a futures contract iss standardized and is provided through a clearing house. The second comparison that we need to make is the difference between a future and an option . Now they actually have a lot in common. If you remember from the lesson about futures, we realize that they're both standardized. They're both facilitated by a clearing house. They have that third party guarantee, and they can both be traded. I can sell a put option or I can sell my futures contract. But here's the key. Different. A futures contract is an obligation to buy ourselves. So if I buy a futures contract to receive delivery off 1000 ounces of gold in two months, I have to be ready to pay for that when the gold is delivered. Now, with the option, I have the right to buy this gold at a certain price, but I don't have to now. Just Aziz. We had intrinsic value with an options contract. We also have a term called basis when we're looking at futures contracts, and this is simply the difference between the cash market price and the futures market price. So let's suppose that the current price of gold is $1200 I know that I'm going to finish mining 1000 ounces of gold in two months, so I take a futures contract to deliver 1000 ounces at $1210. The difference between these two is $10 an ounce. So the basis of this contract is $10 per ounce. One other thing that you should know is that there are regulatory bodies for futures contracts, and the primary one for this is the Commodity Futures Trading Commission, which was established in 1974. And it essentially protects from fraud, deception, manipulations. I hope you found the video useful, and I will see you in the next lesson. 16. Put Option and Intrinsic Value: hello and welcome back in today's lesson. We're going to be learning about a put option. Now. Remember, from the previous lesson that a call option is the option to buy something at a specific price. A put option allows us to sell at a specific price. So why would we want to do this? Well, let's suppose that we take a put option on FedEx for $190 and we believe that the price is going to decline significantly. This put option allows us to sell or shares at $190. So if the price declines to $150 all we have to do is go onto the market. Remember, the market price is 150 so we simply by these shares in the normal market and then we exercise or put option by selling these shares for $190. So on a per share basis, we have a price that we're able to sell four for 190 were able to buy shares for 150 which leaves $40 of profit minus the $2 option costs per share so on a per share basis, we're making $38 now, something that is common to both a call and a put option is the intrinsic value. And this is the difference between the market price. Remember the market prices, what we can buy at in the stock market and the strike price, the strike price being the the privileged price that we can buy or sell as a result of our options contract. Now, a coal option has its intrinsic value when the strike price is lower than the market price . So if the market price is $45 the strike price is 40. The intrinsic value of that option is $5. Now, with the put option, we get value if the market price is less than the strike price, because we can go into the market by these shares and then resell them. So when the market price is $50 the strike price is 60. The intrinsic value of that option is $10. Now, just to give a diagram to make this clear, any time an option is in the money, it has intrinsic value. So if we have the option to buy at 130 the market price is 130 were at the money and the option has zero value. Whether we exercise the option or buy at the market price, it doesn't really matter now. A call option will have in the money. It will have intrinsic value if the market price is greater than the strike price and a put option will have intrinsic value of the market. Price is less than the strike price. On the flip side, remember, it's backwards for out of the money. So a call option will have no intrinsic value if the market price is less than the strike price and a put option will have no intrinsic value if the market price is greater than the strike price. I know this can get kind of confusing, but just think about it in simple terms. If you have an option to buy something at less than the market price, it's a good value. But if you have the option to buy something at higher than the market price, it doesn't really make sense because you could just buy at the market price anyway. Now, when we think of options. We also need to think about where these options air coming from, Who's creating them, what regulations are they facing? And the options clearing House Corporation handles the majority of options. Now they're an intermediary for options, which means that when you take out an option, whether it's a call or put your actually contracting with this options clearing corporation , you're not actually contracting with a specific individual you're going through this corporation. Options are typically limited to a nine month maximum length, and strike prices are typically divisible by a five or attend, so you would hardly ever see an option to buy a stock at, say, $43 or $42.50. It would be an option to buy at $45.50 dollars, $60. They're going to be divisible by five or 10 now, in summary. A put option is very similar to a call option in that they give you a right but not an obligation to do something. However, they have different valuations. A put option allows you to sell something, in other words, to put it on the market for a specific price, whereas the call option allows you to buy something at a specific price. I hope you found the video useful, and I will see you in the next lesson. 17. Call Option: Hello and welcome back. Today, we're going to be looking at options now options or something that gives us the right or the privilege to buy or sell a stock at a specific price. Now, why would we want to do this? Well, there's a very straightforward example, and that is that the option allows us to buy things at a specific price. So let's suppose that Visa is currently ah, $130 we think that it's going to go much higher in price. We purchase a call option for 10 shares at $130. Now, why do we do this? The reason that we do this is because if Visa goes up to $140 we still have the option to buy those 10 shares at $130. So what we can do because we have that option? We buy these 10 shares at $130 and then we turn right around and immediately sell them for $140 for profit of $10 per share or ah, $100 total. Now, one thing to notice about an option as that this price in gold. This is called the strike price or the exercise price. This is the price at which we're entitled to buy or sell a certain security. Now, with a call option, we can also have a price decrease. So let's suppose thesis is currently $130. We purchase an option to buy 10 shares at $130. And now let's suppose that Visa goes to $110. It drops in price now. This is the reason why some people prefer an option instead of buying the share. So if we just flat out bought Visa for $130 it goes up to 140. We can still share. We can still sell those shares for a profit of $10. But if we buy the shares outright and the price goes down, we are stuck with that loss. On the flip side, if we have an option, if the price of Visa goes down to $110 we don't lose $20 per share. We simply don't exercise the option, and all we lose is the price of that option So what do I mean by the price of an option? Well, we've seen that an option can have tremendous benefits without exposing us too much risk. In order to make up for that, we typically have a premium with the option. Now this is basically like a contract fee that's assessed on a per share basis. So we want an option to buy 10 shires of Visa at $130. That is risky for the person that were buying this from, so they're going to charge us a premium to make up for this. And let's suppose that we buy 10 shares at $10 with a premium of $2 per share. Now, in order to break even on this call option, the price has to be $12 or greater, so I have the option to buy it $10. Let's suppose that the price of the stock on Lee goes up to $11. I can bought, sell much by my shares at $10 immediately, sell them for $11 make a profit of $1 per share. But I'm only going to be able to pay $10 of that $20 premium that I had to purchase for the call option. Now, one more thing about the premium. The premium is influenced by many factors, one of which is the strike price. So the strike price falls into three distinct categories at the money in the money and out of the money. So let's suppose that visas $130 if I create a call option to buy $130 this is called at the money. Essentially, I'm saying I want to buy this stock at the market price. Now if I want in the money, I'm saying I want to buy this stock at a price less than the market value. So the premium for that is going to be higher because I'm already saying I want to buy it less than the market price. So if I didn't have a high enough premium, I could just immediately exercise this option by lower than the market price, sell at the market price and make a profit. So I have to pay a higher premium if I'm wanting to buy below the market price now. We also have out of the money, which is something where I'm wanting to buy the stock at a higher than market price, and this will typically have a lower premium because I'm already saying, Look, I'm not going to be buying at the market price. I will buy it some price above the market price so the price of the stock has to rise before I even exercise this option and summary. The main thing to notice is that a call option is the right to buy a security of specific price. We don't have to exercise that option. It's not an obligation. And remember, there is a call option and a put option. The put option will be discussed in a separate video, but try to remember that a call is an option to buy, whereas a put is an option to sell. I hope you found the video useful, and I will see you in the next lesson. 18. Mutual Funds: Hello. Welcome back in today's lesson. We're going to be looking at mutual funds now. We already have the idea of a stock in our mind. This is a piece of ownership in a company, and we know the importance of diversification. So we know that when one stock goes up, another might go down so we can balance out our risk now. Easy way to do this is a mutual fund, and what a mutual fund does is it pulls money from investors, and it diversifies the risk. So I can't invest a little bit in Coca Cola a little bit in Pepsi a little bit in Procter and Gamble because I would only be able to buy one or two shares of each of these companies . I would pay a large amount of transaction fees, and then I would have to keep up with each of these investments. So what I can do is I can pull money with other investors, and as a group, the mutual fund will invest in different companies, so this mitigates the risk. And specifically there's different types of mutual funds, so some funds or broad market based funds now these broad market based funds can reduce both the sector based risk and the business based risk. So if we're investing in the market as a whole, were reducing the risk of investing in a bad business and a bad sector. Other mutual funds focus on a specific sectors, such as oil or technology or gold mining. With these sector specific funds, we are mitigating the risk of business investing in one bad business. But we're exposing ourselves mawr to a sector based risk. Now there are many, many different types of mutual funds you confined one for basically what any kind of purpose you have. So a money market fund is a type of mutual fund that is just designed to essentially preserve your wealth with a better interest rate than a savings account. So it's not making crazy wild investments trying to increased value. It's exclusively focused on high quality, short term debt, so this is the safest place as a mutual fund to put your money. Now, a sector fund is something that focuses on a specific industry, so there are mutual funds that focus on the defense industry, and they will buy stocks of companies that make products for the Army or the Navy. They have tech funds, which focus on technology companies or health funds. There's different sector funds that allow an investor to diversify but stay within a specific industry. An international fund invests Onley outside of the home country. Where is a global fund invests both outside the home country and inside the home country. A lifecycle fund is a specific type of mutual fund that has a target retirement date. So let's suppose that I'm going to retire in 2070. I could buy a 2070 lifecycle fund, and while I'm young and working, this fund would invest primarily in stocks stocks that have the potential for growth but that are also a little bit risky. Now, as I move into adulthood and into old age, this lifecycle fund automatically balances itself towards safer investments so that I can preserve my wealth as I enter old age. And lastly, on index fund is a type of mutual fund that simply tries to track a certain index such as the S and P 500 or the Dale. Now that we have a good understanding off what a mutual fund is and what it does there are two main types of mutual funds. The first of these is an open ended fund, and essentially, what this means is that shares can be created and redeemed, as investor demand dictates. So if someone wants to buy shares, the institution can create MAWR shares and sell them. Or if someone wants to redeem their shares, the institution can redeem these shares and take them off the market. Now with an open ended fund, the value of that fund is based on the n A V or net asset value. What is net asset value? Net asset value is essentially the value of the mutual fund divided by the number of shares . So let's suppose that we have $100 worth of stock in Coca Cola, $50 in Procter and Gamble, and then we have a $50 valued bond. Now, let's also suppose that we have $10 of fees that we need to pay out $20 of taxes and a $30 loan from a bank. Calculating this out gives a value of $15 per share, so the net asset value and hence the price of a share of this fund would be $15 now. Other funds don't create and redeem shares. It will. They have a fixed amount of shares, and they are called a closed end fund. Now these funds do derive their value from the net s value. But because there are a fixed supply off those shares, the price is also determined by supply and demand. So the price of the shares can actually exceed the net asset value of those shares. Because investors are demanding more of those shares. Also thinking about mutual funds, we run into the issues of fees. Now, remember that a mutual fund takes money and pulls it from various investors and invests in different stocks, different financial instruments. Because it does this, it needs someone to manage it. So these managers are going to take commissions were going to have administrative expenses , and it's important to understand the interaction between these different fees. So the first is the difference between a load and a no load fund. Now a load is essentially a different word for a commission. So if I buy a mutual fund and I am charged a front and load, this means that I have to pay that load at purchase time, so let's suppose the load is 5%. I invest $100.5 dollars of this automatically goes to the commission, and I only actually invest in $95 worth of this mutual fund. We also have a back end loaded now. A back end load is different because we pay this on the weight of exiting the fund. So we we pay this load when we sell our shares. And, interestingly, sometimes back end loaded funds can market themselves as a no load fund because what they will do is let's suppose the back end load is 5%. This back end load could decrease by 1% per year. So in the first year, it's 5%. The second years, 4% and that that the end of this 5% period, we have a 0% back and load. So whenever you're looking at a loaded mutual fund, be careful to make sure whether it's front end or back end or if it is a no load fund. Now, remember, the load is essentially the commission. This is paid for either entering or exiting the fund. But once you are in the fund. There's still other fees that have to be taken care of. We have an investment advisory fee, and this is a fee that is paid to the fund managers. These are the people that are deciding what stocks to invest in. These are the people that are managing the investments, so they take a small cut of the fees. We also have a 12 B one fee. Now 12 B one fees isn't charged by every type of fund, but it's essentially the marketing expenses of the fund. Now. Not all funds have this some do, and some don't. So when you're looking at a fund, be sure to read this in the prospectus. And then, of course, we're going to have other fees, such as administrative fees, upkeep fees, things like that. They're just miscellaneous fees. In summary, we've looked at the concept of a mutual fund as something that pools resource is from various investors and then invests in a diversified basket of securities. Mutual funds do charge commissions, which are known as loads. Thes can be either front or back end loaded funds, and they also charge management fees and fees for upkeep and administering the fund. I hope you found the video useful, and I will see you in the next lesson 19. Common vs Preferred stock: hello and welcome back in today's lesson. We're looking at different types of stocks now. The majority of times people just hear the stock market where I'm going to buy stocking Google, and they don't realize that there's actually different kinds of stock. So today I just want to do a brief refresher of what is a stock, and I'm sure that you already know that a stock is a small portion of ownership of a company. It's sometimes called an equity claim. Now common stocks are far and away the most popular the most. The most common, obviously type of stock and a common stock is a stock that gives you ownership in a company with limited liability. This means that although you own a certain claim on the company, you are not responsible for the actions of the company. So if the CEO approves of a risky new project that turns into an environmental disaster or if they illegally employed child laborers, you will not be legally responsible for those actions now. The share price, the value of that stock, will probably decrease. But you're not legally responsible for the actions of the company, although you do have voting rights. So when you own common stock, you're entitled to vote according to the number of shares that you have. So the more shares that you have, you can actually influence the direction of the company. Now, in all honesty, most people that just have small amounts of shares don't even exercise this voting right because their votes relative to the large institutions that hold these shares are relatively small. With a common stock. We have two ways to get a return. The first is appreciation, and this is what most people think about when they think the stock market. They say, I'm going to buy low and sell high. I'm going toe by a share for $10 sell at 15. But what they don't realize is that a large portion of the total returns from a stock actually come from dividends, which are a distribution of the profits that a company makes now. Although dividends are important for the total return of a stock, they are not mandatory, so some companies will pay a dividend and other companies won't. Some companies will have a higher dividend one period and a lower dividend the next so, although dividends air useful, they are not mandatory, and the decision to pay a dividend or not is completely at the discretion of the company. On the other hand, a preferred stock is a type of stock that does have a mandatory dividend. So when you buy a preferred stock and I have to be honest, preferred stocks are much, much, much less popular than common stocks. It's very hard to find information on preferred stocks or two. Look them up because common stocks are very much more widespread. But with a preferred stock, you're guaranteed that fixed dividend, and you don't really see as much appreciation with the preferred stocks. The price may go up or down a little bit, but in general you're buying this mainly for that fixed dividend payment. And for the most part, there are some that do. But mostly you will not have voting rights in the company. Now. I preferred stock is somewhat similar to the bond in that you get that fixed income, but a bond A bond has a a little bit different aspect to it because you're essentially a creditor to the company instead of a part owner, and that has important ramifications, which will be discussed in the next slide. But Justice summarized. Remember that a bond is a fixed income security with a mandatory repayment of principal and interest payments, whereas interest payments on a bond are known as a coupon and you do not have voting rights . So why did I bring up bonds In a lesson about stocks? The reason why is because we need to understand the hierarchy of claims. So let's start at the top. Remember that common stocks, the price may go up, the price may go down and the dividend is completely optional. The company could say we're not paying a dividend or it could say the board of directors has chosen to approve a dividend, so the dividend is 100% completely optional now with preferred stocks. If the company earns a profit, it must pay those dividends. Because you have a claim on those dividends, that's that's the advantage of those preferred shares. Now bondholders have the most power because you're not just an owner of the company. You are actual a creditor to the company. So the repayment of interest and the repayment of your principal the company is liable for that under all circumstances. So if the company doesn't turn a profit or if the company has to go under, the bondholders will receive their payments because their creditors okay, so the bondholders will be paid before the preferred stocks and the preferred stockholders will be paid before those who hold common stocks and summary. We've looked at the difference between a common stock preferred stock and a bond. Each of them have a little bit different way of generating return for the investor, and each of them have different rights and privileges. I hope you found the video useful, and I will see you in the next lesson. 20. Conclusion cut 1: congratulations on finishing the course. It's my sincere desire that this course has helped you in your learning. I know that we started the course and learned Hello, Congratulations on finishing the course. I know that this has been a longer course, and I appreciate you taking the time and effort to make it towards the end of the course. From the beginning of the course, we started at a very basic level, just understanding what makes the stock market work. We looked at something major institutions. She's on the stock market. And then we looked at some advanced methods that investors can use to invest in the stock market. I hope you found all of this useful, and it's my sincere desire that this helps you with the rest of your studies. Thank you for taking the course.