A stockbroker sells or buys stock on behalf of a customer. The stockbroker works as an agent matching up stock buyers and sellers. A transaction on a stock exchange must be made between two members of the exchange — a typical person may not walk into the New York Stock Exchange (for example), and ask to trade stock. Such an exchange must be done through a broker.

In addition to actually trading stocks for their clients, stockbrokers may also offer advice to their clients on which stocks, mutual funds, etc. to buy.

Online

Some newer transaction services online in the form of a website interface. They usually offer low commissions, as low as one or two USD, and fast transaction rates, up to two seconds.

History

Philadelphia was the center of American finance during the first forty years of the new United States. In 1790, the country's first stock exchange was founded there and Chestnut Street was home to the nation's most powerful financial institutions. However, in the 1820s a shift to New York City began and for more than one hundred and fifty years Wall Street has been synonymous with the stockbrokerage business. A number of firms rose to prominence over that time with the top-ranked brokerages in the early 1950s being:

Since the 1980s stockbroking firms have also been allowed to be market makers as long as the appropriate Chinese walls are put in place.

With the advent of automated stockbroking systems on the Internet the client often has no personal contact with his/her stockbroking firm. The stockbroker's system performs all the stockbroking functions: it obtains the best price from the market and executes and settles the trade.

Today, most of the once well-known corporate brand names including mid-sized firms such as Smith Barney have been swallowed up by global financial conglomerates. Discount brokers (such as E-Trade, Scottrade, and TD Ameritrade) have taken a large share of the business by offering highly discounted commissions, but the companies do not offer investment advice in return--all they do is execute orders.

Similar roles

Roles similar to that of a stockbroker include investment advisor, financial advisor, and probably many others. A stockbroker may or may not be also an investment advisor, and vice versa.

The Certified Financial Planner™ designation initially offered by the American College in Pennsylvania is considered by many to be the next educational step a stockbroker can take in order to be considered a legitimate and ethical financial consultant.

Tips for using a stockbroker

Some people prefer to use and pay for the services of a broker because they feel more comfortable making decisions about their finances with the interactive guidance of a licensed professional.

When using a stockbroker for financial guidance, one must be made aware that they do get paid on a commission, based on the stock/mutual fund they sell, and also through Class Distinction/Operating Expense Fees/Services Fees/Shareholder Fees. Thus, a conflict of interest arises concerning a stockbroker who offers his/her service as a financial planner, because their revenue is generated as a direct result of your investment in the stock/mutual fund that they broker to you. Thus your return on investment may not be as great, and the advice they give you might not be in your best interest. However, some mutual funds and stocks can only be purchased through a broker: in such cases their services are required to purchase the financial instrument in question.

A word of warning: If you receive a call offering you shares at what seems an unfeasibly good deal (e.g., an imminent IPO which will cause the price to 'go through the roof'), then you are probably being contacted by a boiler room. These are typically not registered with the FSA and could be in a foreign country where fraud laws are lax. If you suspect that you have been contacted in this way, see Boiler Room for more information.

The pitch follows this pattern:

Acting as a principal

Stockbrokers also sometimes or exclusively trade on their own behalf, as a principal, speculating that a share or other financial instrument will increase or decline in price. In such cases the term broker makes little sense and the individuals or firms trading in a principal capacity sometimes call themselves dealers, stock traders or simply traders.

Transactions by stockbrokers in the US and UK

In the US: When acting as an agent, the stockbroker typically charges the client a flat fee and/or a percentage-based commission for undertaking the trade, and the price quoted the client must be the best price available in the market. When acting as a principal, the trade could be with another market participant or one of the stockbroker's clients. When trading in a principal capacity with a client, the broker informs the client and charges the client a markup or markdown from the prevailing market price.

What is a Boiler Room?

The term boiler room in business refers to a busy center of activity, often telemarketing or other types of sales. It typically refers to a room where tele-marketers work, often selling stocks, and using unfair, dishonest sales tactics, sometimes selling fraudulent stocks. The term carries a negative connotation, and is often used to imply high-pressure sales tactics and sometimes, poor working conditions.

They often use phrases such as:

		"opportunities like this happen once in a lifetime"
		"it's a sure thing"
		"our brokerage has inside information that something big is about to happen with this stock"

The term is likely to have originated from the cheap, hastily arranged office space used by such firms, often just a few desks in a the basement or utility room of an existing office building. The term is a fitting analogy due to the secretive nature of these firms, the connections with the company they are promoting and the high-pressure nature of their activities.

How to Find a Good Stockbroker

Finding the right stockbroker is an important decision. What exactly does a stockbroker do?

A stockbroker invests in the stock market for individuals or corporations. Only members of the stock exchange can conduct transactions, so whenever individuals or corporations want to buy or sell stocks they must go through a brokerage house. Stockbrokers often advise and counsel their clients on appropriate investments. Brokers explain the workings of the stock exchange to their clients and gather information from them about their needs and financial ability, and then determine the best investments for them. The broker then sends the order out to the floor of the securities exchange by computer or by phone. When the transaction has been made, the broker supplies the client with the price. The buyer pays for the stock and the broker transfers the title of the stock to the client and performs clearing and settlement procedures.

Now that you know what a stockbroker does, the next question you need to ask yourself is: Do I want a full service or discount broker? A full service stockbroker will give you recommendations for securities that you should buy. A discount broker only places the order that you give. You need to determine if you want the professional advice from a stockbroker or do your own research and just place orders.

People use full service brokers for many reasons which include helping you diversify your portfolio, helping you get in on that hot stock tip, getting the rare stocks from the international markets and to give you the most up to date information on your investments.

Check with your stockbroker about the following:

Stockbrokers must be dedicated to achieving the financial goals of their clients by understanding their needs, by providing research, analysis, advice and opportunities and fast, accurate and superior service!

Contact your state or provincial securities agency in order to verify the employment and disciplinary history of a securities salesperson and the salesperson's firm; find out if the investment is permitted to be sold; or file a complaint. You can find contact information for your securities regulator here.

Consumers’ Research Council of America has compiled a list of Top Stockbrokers throughout the United States by utilizing a point value system. This method uses a point value for criteria that we deemed valuable in determining the best stockbrokers.

The criteria that was used and assessed a point value is as follows:

Simply put, stockbrokers that have accumulated a certain amount of points qualified for the list. This does not mean that stockbrokers that did not accumulate enough points are not good stockbrokers, they merely did not qualify for this list because of the points needed for qualification.

Similar studies have been done with other professions using a survey system. This type of study would ask fellow professionals whom they would recommend. We found this method to be more of a popularity contest; For instance, professionals who work in a large office have much more of a chance of being mentioned as opposed to a professional who has a small private practice. In addition, many professionals have a financial arrangement for back-and-forth referrals. For these reasons, we developed the point value system.

Since this is a subjective call, there is no study that is 100% accurate. As with any profession, there will be some degree of variance in opinion. If you survey 100 clients from a particular stockbrokerage company on their satisfaction, you will undoubtedly hear variances in their level of satisfaction. This is really quite normal.

We feel that a point value system takes out the personal and emotional factor and deals with factual criteria. We have made certain assumptions. For example, we feel that more years in practice is better than less years in practice; more education is better than less education and completing a rigorous course to obtain various "Series" licenses is better that not having done so.

The stockbrokers list that we have compiled is current as of a certain date and other stockbrokers may have qualified since that date. Nonetheless, we feel that the list of the top stockbrokers is a good starting point for you to find a qualified specialist.

No fees, donations, sponsorships or advertising are accepted from any individuals, professionals, securities firms, brokerage firms, financial institutions, corporations or associations. This policy is strictly adhered to insure an unbiased selection.

Front office: This is a description of the part of a brokerage firm that is "client facing". The sales staff, brokers and traders are part of the front office. Functions of the front office include acquisition and entry of orders, fulfillment of the orders, and all the regulatory reporting for the orders.

Back office: The back office is where the clearance processing of the trades is done. Transfer of securities and money and the tracking of "failure to deliver" is handled. Securities lending for a brokerage firm, wherein shares of a security that is being sold short are located to ensure they can be delivered, is usually included in the back office as well.

Prime brokerage: A service sold by investment banks to "hedge funds." (A hedge fund is a private investment fund charging a performance fee and typically open to only a limited number of investors, e.g., those in the United States, hedge funds are largely open to accredited investors only. Hedge Funds have grown in size and influence on the public securities and private investment markets.

The following "core services" are typically bundled into the Prime Brokerage package:

		Global custody (including clearing, custody, and asset servicing)
		Securities lending
		Financing (to facilitate leverage of client assets)
		Customized Technology (provide hedge fund managers with portfolio reporting needed to effectively manage money)
		Operational Support (prime brokers act as a hedge fund's primary operations contact with all other broker dealers)

In addition, certain prime brokers provide additional "value-added" services, which may include some or all of the following:

		Capital Introduction - A process whereby the prime broker attempts to introduce its hedge fund clients to qualified hedge fund investors who have an interest in exploring new opportunities to make hedge fund investments.
		Office Space Leasing and Servicing - Certain prime brokers lease commercial real estate, and then sublease blocks of space to hedge fund tenants. These prime brokers typically provide a suite of on-site services for clients who utilize their space.
		Risk Management Advisory Services - The provision of risk analytic technology, sometimes supplemented by consulting by senior risk professionals.
		Consulting Services - A range of consulting / advisory services, typically provided to "start-up" hedge funds, and focused on issues associated with regulatory establishment requirements in the jurisdiction where the hedge fund manager will be resident, as well as in the jurisdiction(s) where the fund itself will be domiciled.

Low cost broker: A low cost brokerage can be considered to be a special case of a discount brokerage which functions in a similar way to a dividend reinvestment program. ShareBuilder, BUYandHOLD, and FolioFN are the better known examples of such low cost brokers.

Low cost brokers are generally less expensive for an investor who invests in small amounts (say, fixed dollar amounts) and who is not particular that the stock trade must happen in real time.

Low cost brokers execute orders only a few times a day by aggregating orders from a large number of small investors into one or more block trades which are made at certain specific times during the day. Such block trades are also sometimes referred to as window trades. Window trades help lower costs in two ways:

		By matching buy and sell orders within the firms order book the overall quantity of stock to be traded can be reduced thus reducing commissions.
		The broker can split the bid-ask spread with the investor when matching buy and sell orders - a win-win situation in most cases

Since investor money is pooled before stocks are bought or sold, it enables investors to contribute small amounts of cash using which fractional shares of specific stocks can be purchased. This is usually not possible with a regular stock broker.

Low cost brokers also provide real-time trades but these are usually (but not necessarily) charged a higher commission

Famous Stockbrokers

		Larry "Buster" Crabbe - Actor and former Olympic swimmer, Crabbe became a stockbroker and businessman after a career in film.
		Brian Dennehy - An actor, Dennehy worked as a broker for a time at the same firm as Martha Stewart.
		Edward Francis Hutton - Founder of the firm known for its slogan: "When E. F. Hutton talks, people listen." In the late '20s and early '30s, Hutton was married to cereal heiress Marjorie Merriweather Post. Hutton's daughter with Post was actress Dina Merrill, the one-time wife of actor Cliff Robertson. Hutton's namesake firm imploded into bankruptcy in the 1970s.
		Michael Milken - The financier came to fame at Drexel Burnham Lambert in the 1980s.
		George Murphy - Silent film and early talkies star Murphy worked for a time as a Wall Street runner.
		William A. Paine - co-founder of Paine Webber.
		Hemish Shah - Late English poker player, who left stocks for poker, going on to win a World Series of Poker bracelet.
		Martha Stewart - After she gave up modeling in the late 60s, Stewart worked as a broker on Wall Street for 7-8 years before launching her lifestyle business.
		Christopher Gardner - A man who grew from homelessness to being a multi-millionaire by stock broking.

What is a Stock Trader?

Stock investors purchase stocks with the intention of holding for an extended period of time, usually several months to years. They rely primarily on fundamental analysis for their investment decisions and fully recognize stock shares as part-ownership in the company. Many investors believe in the Buy-and-Hold strategy, which as the name suggests, implies that investors will hold stocks for the very long term, generally measured in years. This strategy was made popular in the equity bull market of the 1980s and 90s where buy-and-hold investors rode out short-term market declines and volatility and continued to hold as the market returned to its previous highs and beyond. However, during the 2001-2003 equity bear market, the buy-and-hold strategy lost some followers as broader market indexes like the NASDAQ saw their values decline by over 60%. On the other hand, stock traders usually try to profit from short-term price volatility with trades lasting anywhere from several seconds to several weeks. Some try to rely upon the psychology of other stock market agents (buyers and sellers), and privileged or confidential information, in order to take their capital gain (see speculation and insider trading). In modern days, a number of truly committed full time traders are usually technical analysis (or charting) experts.

Individuals or firms trading as their principal capacity are called stock traders or simply traders. The stock trader is usually a professional. However, many people across the world can call themselves stock traders/investors or part-time stock traders/investors, despite having another profession in parallel with their regular trading activities in the financial markets. When a stock trader/investor has clients, and acts as a money manager or adviser with the intention of adding value to his clients finances, he is also called a financial adviser or manager. In this case, the financial manager could be an independent professional or a large bank corporation employee. This may include managers dealing with investment funds, hedge funds, mutual funds, and pension funds, or other professionals in equity investment, fund management, and wealth management. A very active stock trader who holds positions for a very short time and makes several trades each day is a day trader.

Several different types of stock trading or investing exist including day trading, swing trading, market making, trend following, scalping (trading), momentum trading, short-term countertrend trading, trading the news, and arbitrage. In the case of longer-term trend following, some trades may last longer than several months.

Methodology

Stock traders/investors usually need a stockbroker, such as a bank or a brokerage firm, as an intermediate. Since the spread of the Internet banking, it is usual to use an Internet connection to manage their own financial portfolios, including ordering the sell/buying orders, set stop losses prices and define buying/selling prices. Using the Internet, specialized software and a personal computer, stock traders/investors make use of technical analysis and fundamental analysis to help them in the decision process. They utilize also several advising and information resources based on the Internet and the media, such as financial/business news and data firms (Reuters, Bloomberg, Financial Times, Yahoo! Finance, MSN Money, AFX News, Newratings, Forbes, BusinessWeek, Hoover's). They exclusively trade on their own behalf, as a principal, investing money on a share or other financial instrument, which they believe will increase in price aiming to sell it later with earnings.

Expenses, costs and risk

Trading activities are not free. First of all, they have a considerably high level of risk, uncertainty and complexity, especially for unwise and inexperienced stock traders/investors seeking for an easy way to make money quickly. In addition, stock traders/investors face several costs such as commissions, taxes and fees to be paid for the brokerage and other services, like the buying/selling orders placed at the stock exchange. According to each National or State legislation, a large array of fiscal obligations must be respected, and taxes are charged by the State over the transactions and earnings. Beyond these costs, the opportunity costs of money and time, the currency risk, the financial risk, and all the Internet Service Provider, data and news agency services and electricity consumption expenses must be added.

Stock Picking

Although many companies offer courses in stock picking, and numerous experts report success through Technical Analysis and Fundamental Analysis, many economists and academics state that because of Efficient market theory it is unlikely that any amount of analysis can help an investor make any gains above the stock market itself. In a normal distribution of investors, many academics believe that the richest are simply outliers in such a distribution (e.g. in a game of chance, they have flipped heads twenty years in a row).

For this reason most academics and economists recommend that investors invest in funds that follow an index in the market, i.e. long-term and well-diversified investments.

Dart Board Method

Financial journals and newspapers such as the Wall Street Journal have done articles on stock picking in the past. One famous article involved a stock picking contest between a panel of Wall Street experts, the public and a dart board. One member was elected to throw darts at the Journal's stock page in order to select a portfolio. At the end of the experiment, the public and the dart board both beat the board of Wall Street experts. Was the dart board more savvy? The dart board's triumph over the Wall Street experts can be attributed to chance (one could also attribute the dart board losing to the experts to chance as well).

Day Trading

Day trading refers to the practice of buying and selling financial instruments within the same trading day such that all positions will usually (not necessarily always) be closed before the market close of the trading day. Traders that participate in day trading are called day traders.

Some of the more commonly day-traded financial instruments are stocks, stock options, currencies, and a host of futures contracts such as equity index futures, interest rate futures, and commodity futures.

Day trading used to be the preserve of financial firms and professional investors and speculators. Many day traders are bank or investment firms employees working as specialists in equity investment and fund management. However, day trading has become increasingly popular among casual traders due to advances in technology, changes in legislation, and the popularity of the Internet.

Due to the high profits (and losses) that day trading makes possible, these traders are sometimes portrayed as "bandits" or "gamblers" by other investors.

The price of financial instruments (here, stocks) can vary greatly within the same trading day

Characteristics

Trade frequency

Although collectively called day trading, there are many sub-trading styles within the whole "day trading" tree. A day trader is not necessarily very active. Depending on one's trading strategy, the number of trades made in a day may vary from a few to hundreds.

Some day traders focus on very short or short-term trading, in which a trade may last seconds to a few minutes. They buy and sell many times in a day, trading very high volumes daily and therefore receiving big discounts from the brokerage.

Some day traders focus only on momenta or trends. They are more patient and wait for a ride on the strong move which may occur on that day. They make far fewer trades than the aforementioned traders.

Overnight position

Traditionally it is suggested day traders should always settle their positions before the market close of the trading day to avoid the risk of price gaps (differences between the previous day's close and the next day's open price) at the open. Some day traders consider this to be a golden rule to be obeyed at all times. However, some day traders believe it is acceptable to stay with a position after the market closes as long as it is still following a favorable trend.

Day traders often borrow money to trade. Since margin interests are typically only charged on overnight balances, the extra costs discourage them from holding positions overnight.

Profit and risks

Due to the nature of financial leverage and the rapid returns that are possible, day trading can be extremely profitable, and high-risk profile traders can generate huge percentage returns. Some day traders manage to earn millions per year solely by day trading.

Nevertheless day trading can become very risky, especially if one has poor discipline, risk or money management. The common use of buying on margin (using borrowed funds) amplifies gains and losses, such that substantial losses or gains can occur in a very short period of time. In addition, brokers usually allow bigger margins for day traders. Where overnight margins required to hold a stock position are normally 50% of the stock's value, many brokers allow pattern day trader accounts to use levels as low as 25% for intraday purchases. This means a day trader with the legal minimum $25,000 in his account can buy $100,000 worth of stock during the day, as long as half of those positions are exited before the market close. Because of the high risk of margin use, and of other day trading practices, a day trader will often have to exit a losing position very quickly, in order to prevent a greater, unacceptable loss, or even a disastrous loss, much larger than his original investment, or even larger than his total assets.

Even when a position has made a profit, the trader has to offset the transaction costs and the interest on the margin. It is commonly stated that 80-90% of day traders lose money. An analysis of the Taiwanese stock market suggests that "less than 20% of day traders earn profits net of transaction costs".

History

Originally, the most important U.S. stocks were traded on the New York Stock Exchange. A trader would contact a stockbroker, who would relay the order to a specialist on the floor of the NYSE. These specialists would each make markets in only a handful of stocks. The specialist would match the purchaser with another broker's seller; write up physical tickets that, once processed, would effectively transfer the stock; and relay the information back to both brokers. Brokerage commissions were fixed at 1% of the amount of the trade, i.e. to purchase $10,000 worth of stock cost the buyer $100 in commissions.

One of the first steps to make day trading of shares potentially profitable was the change in the commission scheme. In 1975, the Securities and Exchange Commission made fixed commissions illegal, giving rise to discount brokers offering much reduced commission rates.

Financial settlement periods used to be much longer: Before the early 1990s at the London Stock Exchange, for example, stock could be paid for up to 10 working days after it was bought, allowing traders to buy (or sell) shares at the beginning of a settlement period only to sell (or buy) them before the end of the period hoping for a rise (or fall) in price. This activity was identical to modern day trading, but for the longer duration of the settlement period. Nowadays, to reduce market risk, the settlement period is typically less than a working day. Reducing the settlement period reduces the likelihood of default, but was impossible before the advent of electronic ownership transfer.

Electronic Communication Networks

The systems by which stocks are traded have also evolved, the second half of the twentieth century having seen the advent of Electronic Communication Networks (ECNs). These are essentially large proprietary computer networks on which brokers could list a certain amount of securities to sell at a certain price (the asking price or "ask") or offer to buy a certain amount of securities at a certain price (the "bid"). The first of these was Instinet. Instinet or "inet" (ECNs and exchanges are usually known to traders by a three- or four-letter designators, which identify the ECN or exchange on Level II stock screens) was founded in 1969 as a way for major institutions to bypass the increasingly cumbersome and expensive NYSE, also allowing them to trade during hours when the exchanges were closed. Early ECNs such as Instinet were very unfriendly to small investors, because they tended to give large institutions better prices than were available to the public. This resulted in a fragmented and sometimes illiquid market.

The next important step in facilitating day trading was the founding in 1971 of NASDAQ -- a virtual stock exchange on which orders were transmitted electronically. Moving from paper share certificates and written share registers to "dematerialized" shares, computerized trading and registration required not only extensive changes to legislation but also the development of the necessary technology: online and real time systems rather than batch; electronic communications rather than the postal service, telex or the physical shipment of computer tapes, and the development of secure cryptographic algorithms.

These developments heralded the appearance of "market makers": the NASDAQ equivalent of a NYSE specialist. A market maker has an inventory of stocks to buy and sell, and simultaneously offers to buy and sell the same stock. Obviously, it will offer to sell stock at a higher price than the price at which it offers to buy. This difference is known as the "spread". It is of no importance to the market-maker whether the price of a stock goes up or down, as it has enough stock and capital to constantly buy for less than it sells. Today there are about 500 firms who participate as market-makers on ECNs, each generally making a market in four to forty different stocks. Without any legal obligations, market-makers were free to offer smaller spreads on ECNs than on the NASDAQ. A small investor might have to pay a $0.25 spread (e.g. he might have to pay $10.50 to buy a share of stock but could only get $10.25 for selling it), while an institution would only pay a $0.05 spread (buying at $10.40 and selling at $10.35).

Technology bubble (1997–2000)

In 1997, the SEC adopted "Order Handling Rules" which required market-makers to publish their best bid and ask on the NASDAQ. Another reform made during this period was the "Small Order Execution System", or "SOES", which required market makers to buy or sell, immediately, small orders (up to 1000 shares) at the MM's listed bid or ask. A defect in the system gave rise to arbitrage by a small group of traders known as the "SOES bandits", who made fortunes buying and selling small orders to market makers. The existing ECNs began to offer their services to small investors. New brokerage firms which specialized in serving online traders who wanted to trade on the ECNs emerged. New ECNs also arose, most importantly Archipelago (arca) and Island (isld). Archipelago eventually became a stock exchange and in 2005 was purchased by the NYSE (At this time, the NYSE has proposed merging Archipelago with itself, although some resistance has arisen from NYSE members). Commissions plummeted: in an extreme example (1000 shares of Google), in 2005 an online trader might buy $300,000 of stock at a commission of about $10, as opposed to the $3,000 commission he would have paid in 1974. Moreover, the trader would be able to buy the stock almost instantly and would get it at a cheaper price.

ECNs are in constant flux. New ones are formed, while existing ones are bought or merge. As of the end of 2006, the most important ECNs to the individual trader are Instinet (which bought Island in 2005), Archipelago (although technically it is now an exchange rather than an ECN), and The Brass Utility ("brut"), as well as the SuperDot electronic system now used by the NYSE.

The evolution of average NASDAQ share prices between 1994 and 2004

This combination of factors has made day trading in stocks and stock derivatives (such as ETFs) possible. The low commission rates allow an individual or small firm to make a large numbers of trades during a single day. The liquidity and small spreads provided by ECNs allow an individual to make near-instantaneous trades and to get favorable pricing. High-volume issues such as Intel or Microsoft generally have a spread of only $0.01, so the price only needs to move a few pennies for the trader to cover his commission costs and show a profit.

The ability for individuals to day trade coincided with the extreme bull market in technical issues from 1997 to early 2000, known as the Dot-com bubble. From 1997 to 2000, the NASDAQ rose from 1200 to 5000. Many naive investors with little market experience made huge profits buying these stocks in the morning and selling them in the afternoon, at 400% margin rates.

Adding to the day-trading frenzy were the enormous profits made by the "SOES bandits". (Unlike the new day traders, these individuals were highly-experienced professional traders able to exploit the arbitrage opportunity created by SOES.)

In March, 2000, this bubble burst, and a large number of less-experienced day traders began to lose money as fast, or faster, than they had made during the buying frenzy. The NASDAQ crashed from 5000 back to 1200; many of the less-experienced traders went broke.

Techniques

There are several basic strategies by which day traders attempt to make a profit: Trend following, playing news events, range trading, and scalping. In addition to (or instead of) these, some day traders also use Contrarian (reverse) strategies (more commonly seen in algorithmic trading) to trade specifically against irrational behavior from day traders using these approaches.

Some of these approaches require shorting stocks instead of buying them normally: the trader borrows stock from his broker and sells the borrowed stock, hoping that the price will fall and he will be able to purchase the shares at a lower price. There are several technical problems with short sales: the broker may not have shares to lend in a specific issue, some short sales can only be made if the stock price or bid has just risen (known as an "uptick"), and the broker can call for return of its shares at any time. Some of these restrictions (in particular the uptick rule) don't apply to trades of stocks that are actually shares of an exchange-traded fund (ETF).

Trend following

Trend following, a strategy used in all trading time frames, assumes that financial instruments which have been rising steadily will continue to rise, and vice versa. The trend follower buys an instrument which has been rising, or short-sells a falling one, in the expectation that the trend will continue.

Playing news

Playing news is primarily the realm of the day trader. The basic strategy is to buy a stock which has just announced good news, or short sell on bad news. Such events provide enormous volatility in a stock and therefore the greatest chance for quick profits (or losses). Determining whether news is "good" or "bad" must be determined by the price action of the stock, because the market reaction may not match tone of the news itself. The most common cause for this is when rumors or estimates of the event (like those issued by market and industry analysts) were already circulated before the official release, and prices have already moved in anticipation. The news is said to be already "priced-in" to the stock price.

Range trading

A range trader watches a stock that has been rising off a support price and falling off a resistance price. That is, every time the stock hits a high, it falls back to the low, and vice versa. Such a stock is said to be "trading in a range", which is the opposite of trending. The range trader therefore buys the stock at or near the low price, and sells (and possibly short sells) at the high. A related approach to range trading is looking for moves outside of an established range, called a breakout (price moves up) or a breakdown (price moves down), and assume that once the range has been broken prices will continue in that direction for some time.

Scalping

Scalping originally referred to spread trading. Scalping is a trading style where small price gaps created by the bid-ask spread are exploited. It normally involves establishing and liquidating a position quickly, usually within minutes or even seconds.

Scalping highly liquid instruments for off the floor daytraders involves taking quick profits while minimizing risk (lose exposure). It applies technical analysis concepts such as over/under bought, support & resistance zones as well as trendline, trading channel to enter the market at key points and take quick profits from small moves. The basic idea of scalping is to exploit the inefficiency of the market when volatility increases and the trading range expands.

Trading equipment

Some day trading strategies (including scalping and arbitrage) require relatively sophisticated trading systems and software. Many day traders use multiple monitors or even multiple computers to execute their orders. A fast Internet connection, such as broadband, is essential for day trading.

Brokerage

Day traders do not use retail brokers, slow to execute trades, and with higher commissions than direct access brokers, who allow the trader to send their orders directly to the ECNs instead of indirectly through brokers. Direct access trading offers substantial improvements in transaction speed and will usually result in better trade execution prices (reducing the costs of trading).

Commission

Commissions for direct-access brokers are calculated based on volume. The more one trades, the cheaper the commission is. Where a retail broker might charge $10 or more per trade regardless of size, a typical direct-access broker can charge as cheap as $0.004 per share traded, or $0.25 per futures contract. A scalper can cover that cost with even a minimal gain.

As for the calculation method, some use pro-rata to calculate commissions and charges, where each tier of volumes charge different commissions. Other brokers use a flat-rate, where all commissions charges are based on which volume threshold one reaches.

Market data

Real-time market data is necessary for day traders, rather than using the delayed (by anything from 10 to 60 minutes, per exchange rules) market data that is available for free. A real-time data feed requires paying fees to the respective stock exchanges, usually combined with the broker's charges; these fees are usually very low compared to the other costs of trading. The fees may be waived for promotional purposes or for customers meeting a minimum monthly volume of trades. Even a moderately active day trader can expect to meet these requirements, making the basic data feed essentially "free".

In addition to the raw market data, some traders purchase more advanced data feeds that include historical data and features such as scanning large numbers of stocks in the live market for unusual activity. Complicated analysis and charting software are other popular additions. These types of systems can cost from tens to hundreds of dollars per month to access.

Regulations and restrictions

Day trading is considered a risky trading style, and regulations require brokerage firms to ask whether the clients understand the risks of day trading and whether they have prior trading experience before entering the market.

In addition, NASD and SEC further restrict the entry by means of "pattern day trader" amendments. Pattern day trader is a term defined by the Securities and Exchange Commission to describe any trader who buys and sells a particular security in the same trading day (day trades), and does this four or more times in any five consecutive business day period. A pattern day trader is subject to special rules. The main rule being that in order to engage in pattern day trading the trader must maintain an equity balance of at least $25,000 in a margin account.

A stock market is a market for the trading of company stock, and derivatives of same; both of these are securities listed on a stock exchange as well as those only traded privately.

The term 'the stock market' is a concept for the mechanism that enables the trading of company stocks (collective shares), other securities, and derivatives. Bonds are still traditionally traded in an informal, over-the-counter market known as the bond market. Commodities are traded in commodities markets, and derivatives are traded in a variety of markets (but, like bonds, mostly 'over-the-counter').

The size of the worldwide 'bond market' is estimated at $45 trillion. The size of the 'stock market' is estimated as about half that. The world derivatives market has been estimated at about $300 trillion. The major U.S. Banks alone are said to account for about $100 trillion. It must be noted though that the derivatives market, because it is stated in terms of notional outstanding amounts, cannot be directly compared to a stock or fixed income market, which refers to actual value.

The stocks are listed and traded on stock exchanges which are entities (a corporation or mutual organization) specialized in the business of bringing buyers and sellers of stocks and securities together. The stock market in the United States includes the trading of all securities listed on the NYSE, the NASDAQ, the Amex, as well as on the many regional exchanges, the OTCBB, and Pink Sheets. European examples of stock exchanges include the Paris Bourse (now part of Euronext), the London Stock Exchange and the Deutsche Börse. The BSE & NSE are Stock Markets that have arisen from India. These are also working on a very large scale.

Trading

Participants in the stock market range from small individual stock investors to large hedge fund traders, who can be based anywhere. Their orders usually end up with a professional at a stock exchange, who executes the order.

Some exchanges are physical locations where transactions are carried out on a trading floor, by a method known as open outcry. This type of auction is used in stock exchanges and commodity exchanges where traders may enter "verbal" bids and offers simultaneously. The other type of exchange is a virtual kind, composed of a network of computers where trades are made electronically via traders at computer terminals.

Actual trades are based on an auction market paradigm where a potential buyer bids a specific price for a stock and a potential seller asks a specific price for the stock. (Buying or selling at market means you will accept any bid price or ask price for the stock.) When the bid and ask prices match, a sale takes place on a first come first served basis if there are multiple bidders or askers at a given price.

The purpose of a stock exchange is to facilitate the exchange of securities between buyers and sellers, thus providing a marketplace (virtual or real). The exchanges provide real-time trading information on the listed securities, facilitating price discovery.

The New York Stock Exchange is a physical exchange, where much of the trading is done face-to-face on a trading floor. This is also referred to as a "listed" exchange (because only stocks listed with the exchange may be traded). Orders enter by way of brokerage firms that are members of the exchange and flow down to floor brokers who go to a specific spot on the floor where the stock trades. At this location, known as the trading post, there is a specific person known as the specialist whose job is to match buy orders and sell orders. Prices are determined using an auction method known as "open outcry": the current bid price is the highest amount any buyer is willing to pay and the current ask price is the lowest price at which someone is willing to sell; if there is a spread, no trade takes place. For a trade to take place, there must be a matching bid and ask price. (If a spread exists, the specialist is supposed to use his own resources of money or stock to close the difference, after some time.) Once a trade has been made, the details are reported on the "tape" and sent back to the brokerage firm, who then notifies the investor who placed the order. Although there is a significant amount of direct human contact in this process, computers do play a huge role in the process, especially for so-called "program trading".

The Nasdaq is a virtual (listed) exchange, where all of the trading is done over a computer network. The process is similar to the above, in that the seller provides an asking price and the buyer provides a bidding price. However, buyers and sellers are electronically matched. One or more Nasdaq market makers will always provide a bid and ask price at which they will always purchase or sell 'their' stock.

The Paris Bourse, now part of Euronext, is an order-driven, electronic stock exchange. It was automated in the late 1980s. Before, it consisted of an open outcry exchange. Stockbrokers met in the trading floor or the Palais Brongniart. In 1986, the CATS trading system was introduced, and the order matching process was fully automated.

From time to time, active trading (especially in large blocks of securities) have moved away from the 'active' exchanges. Securities firms, led by UBS AG, Goldman Sachs Group Inc. and Credit Suisse Group, already steer 12 percent of U.S. security trades away from the exchanges to their internal systems. That share probably will increase to 18 percent by 2010 as more investment banks bypass the NYSE and Nasdaq and pair buyers and sellers of securities themselves, according to data compiled by Boston-based Aite Group LLC, a brokerage-industry consultant.

Now that computers have eliminated the need for trading floors like the Big Board's, the balance of power in equity markets is shifting. By bringing more orders in-house, where clients can move big blocks of stock anonymously, brokers pay the exchanges less in fees and capture a bigger share of the $11 billion a year that institutional investors pay in trading commissions.

Market participants

History

Braudel suggests that in Cairo in the 11th century Islamic and Jewish merchants had already set up every form of trade association and had knowledge of every method of credit and payment, disproving the belief that these were invented later by Italians.

In 12th century France the courratiers de change were concerned with managing and regulating the debts of agricultural communities on behalf of the banks. Because these men also traded with debts, they could be called the first brokers.

In late 13th century Bruges commodity traders gathered inside the house of a man called Van der Beurse, and in 1309 they became the "Brugse Beurse", institutionalizing what had been, until then, an informal meeting. The idea quickly spread around Flanders and neighboring counties and "Beurzen" soon opened in Ghent and Amsterdam.

In the middle of the 13th century Venetian bankers began to trade in government securities. In 1351 the Venetian government outlawed spreading rumors intended to lower the price of government funds. Bankers in Pisa, Verona, Genoa and Florence also began trading in government securities during the 14th century. This was only possible because these were independent city states not ruled by a duke but a council of influential citizens.

The Dutch later started joint stock companies, which let shareholders invest in business ventures and get a share of their profits - or losses. In 1602, the Dutch East India Company issued the first shares on the Amsterdam Stock Exchange. It was the first company to issue stocks and bonds.

The Amsterdam Stock Exchange (or Amsterdam Beurs) is also said to have been the first stock exchange to introduce continuous trade in the early 17th century. The Dutch "pioneered short selling, option trading, debt-equity swaps, merchant banking, unit trusts and other speculative instruments, much as we know them" (Murray Sayle, "Japan Goes Dutch", London Review of Books XXIII.7, April 5, 2001).

There are now stock markets in virtually every developed and most developing economies, with the world's biggest markets being in the United States, China (Hong Kong), India, UK, Germany, France and Japan.

Function and purpose

The stock market is one of the most important sources for companies to raise money. This allows businesses to go public, or raise additional capital for expansion. The liquidity that an exchange provides affords investors the ability to quickly and easily sell securities. This is an attractive feature of investing in stocks, compared to other less liquid investments such as real estate.

History has shown that the price of shares and other assets is an important part of the dynamics of economic activity, and can influence or be an indicator of social mood. Rising share prices, for instance, tend to be associated with increased business investment and vice versa. Share prices also affect the wealth of households and their consumption. Therefore, central banks tend to keep an eye on the control and behavior of the stock market and, in general, on the smooth operation of financial system functions. Financial stability is the raison d'être of central banks.

Exchanges also act as the clearinghouse for each transaction, meaning that they collect and deliver the shares, and guarantee payment to the seller of a security. This eliminates the risk to an individual buyer or seller that the counterparty could default on the transaction.

The smooth functioning of all these activities facilitates economic growth in that lower costs and enterprise risks promote the production of goods and services as well as employment. In this way the financial system contributes to increased prosperity.

Relation of the stock market to the modern financial system

The financial system in most western countries has undergone a remarkable transformation. One feature of this development is disintermediation. A portion of the funds involved in saving and financing flows directly to the financial markets instead of being routed via banks' traditional lending and deposit operations. The general public's heightened interest in investing in the stock market, either directly or through mutual funds, has been an important component of this process. Statistics show that in recent decades shares have made up an increasingly large proportion of households' financial assets in many countries. In the 1970s, in Sweden, deposit accounts and other very liquid assets with little risk made up almost 60 per cent of households' financial wealth, compared to less than 20 per cent in the 2000s.

The major part of this adjustment in financial portfolios has gone directly to shares but a good deal now takes the form of various kinds of institutional investment for groups of individuals, e.g., pension funds, mutual funds, hedge funds, insurance investment of premiums, etc. The trend towards forms of saving with a higher risk has been accentuated by new rules for most funds and insurance, permitting a higher proportion of shares to bonds. Similar tendencies are to be found in other industrialized countries. In all developed economic systems, such as the European Union, the United States, Japan and other developed nations, the trend has been the same: saving has moved away from traditional (government insured) bank deposits to more risky securities of one sort or another.

The stock market, individual investors, and financial risk

Riskier long-term saving requires that an individual possess the ability to manage the associated increased risks. Stock prices fluctuate widely, in marked contrast to the stability of (government insured) bank deposits or bonds. This is something that could affect not only the individual investor or household, but also the economy on a large scale. The following deals with some of the risks of the financial sector in general and the stock market in particular. This is certainly more important now that so many newcomers have entered the stock market, or have acquired other 'risky' investments (such as 'investment' property, i.e., real estate and collectables).

"...With each passing year, the noise level in the stock market rises. Television commentators, financial writers, analysts, and market strategists are all overtalking each other to get investors' attention. At the same time, individual investors, immersed in chat rooms and message boards, are exchanging questionable and often misleading tips. Yet, despite all this available information, investors find it increasingly difficult to profit. Stock prices skyrocket with little reason, then plummet just as quickly, and people who have turned to investing for their children's education and their own retirement become frightened. Sometimes there appears to be no rhyme or reason to the market, only folly."

This is a quote from the preface to a published biography about the well-known and long term value oriented stock investor Warren Buffett. Buffett began his career with only 100 U.S. dollars and has over the years built himself a multibillion-dollar fortune. The quote illustrates some of what has been happening in the stock market during the end of the 20th century and the beginning of the 21st.

From experience we know that investors may temporarily pull financial prices away from their long term trend level. Over-reactions may occur— so that excessive optimism (euphoria) may drive prices unduly high or excessive pessimism may drive prices unduly low. New theoretical and empirical arguments have been put forward against the notion that financial markets are efficient.

According to the efficient market hypothesis (EMH), only changes in fundamental factors, such as profits or dividends, ought to affect share prices. (But this largely theoretic academic viewpoint also predicts that little or no trading should take place— contrary to fact— since prices are already at or near equilibrium, having priced in all public knowledge.) But the efficient-market hypothesis is sorely tested by such events as the stock market crash in 1987, when the Dow Jones index plummeted 22.6 percent — the largest-ever one-day fall in the United States.

This event demonstrated that share prices can fall dramatically even though, to this day, it is impossible to fix a definite cause: a thorough search failed to detect any specific or unexpected development that might account for the crash. It also seems to be the case more generally that many price movements are not occasioned by new information; a study of the fifty largest one-day share price movements in the United States in the post-war period confirms this. Moreover, while the EMH predicts that all price movement (in the absence of change in fundamental information) is random (i.e., non-trending), many studies have shown a marked tendency for the stock market to trend over time periods of weeks or longer.

Various explanations for large price movements have been promulgated. For instance, some research has shown that changes in estimated risk, and the use of certain strategies, such as stop-loss limits and Value at Risk limits, theoretically could cause financial markets to overreact.

Other research has shown that psychological factors may result in exaggerated stock price movements. Psychological research has demonstrated that people are predisposed to 'seeing' patterns, and often will perceive a pattern in what is, in fact, just noise. (Something like seeing familiar shapes in clouds or ink blots.) In the present context this means that a succession of good news items about a company may lead investors to overreact positively (unjustifiably driving the price up). A period of good returns also boosts the investor's self-confidence, reducing his (psychological) risk threshold.

Another phenomenon— also from psychology— that works against an objective assessment is group thinking. As social animals, it is not easy to stick to an opinion that differs markedly from that of a majority of the group. An example with which one may be familiar is the reluctance to enter a restaurant that is empty; people generally prefer to have their opinion validated by those of others in the group.

In one paper the authors draw an analogy with gambling. In normal times the market behaves like a game of roulette; the probabilities are known and largely independent of the investment decisions of the different players. In times of market stress, however, the game becomes more like poker (herding behavior takes over). The players now must give heavy weight to the psychology of other investors and how they are likely to react psychologically.

The stock market, as any other business, is quite unforgiving of amateurs. Inexperienced investors rarely get the assistance and support they need. In the period running up to the recent Nasdaq crash, less than 1 per cent of the analyst's recommendations had been to sell (and even during the 2000 - 2002 crash, the average did not rise above 5%). The media amplified the general euphoria, with reports of rapidly rising share prices and the notion that large sums of money could be quickly earned in the so-called new economy stock market. (And later amplified the gloom which descended during the 2000 - 2002 crash, so that by summer of 2002, predictions of a DOW average below 5000 were quite common.)

Irrational behavior

Sometimes the market tends to react irrationally to economic news, even if that news has no real effect on the technical value of securities itself. Therefore, the stock market can be swayed tremendously in either direction by press releases, rumors and mass panic.

Furthermore, the stock market comprises a large amount of speculative analysts, or pencil pushers, who have no substantial money or financial interest in the market, but make market predictions and suggestions regardless. Over the short-term, stocks and other securities can be battered or buoyed by any number of fast market-changing events, making the stock market difficult to predict.

Stock market index

The movements of the prices in a market or section of a market are captured in price indices called stock market indices, of which there are many, e.g., the S&P, the FTSE and the Euronext indices. Such indices are usually market capitalization (the total market value of floating capital of the company) weighted, with the weights reflecting the contribution of the stock to the index. The constituents of the index are reviewed frequently to include/exclude stocks in order to reflect the changing business environment.

Derivative instruments

Financial innovation has brought many new financial instruments whose pay-offs or values depend on the prices of stocks. Some examples are exchange traded funds (ETFs), stock index and stock options, equity swaps, single-stock futures, and stock index futures. These last two may be traded on futures exchanges (which are distinct from stock exchanges—their history traces back to commodities futures exchanges), or traded over-the-counter. As all of these products are only derived from stocks, they are sometimes considered to be traded in a (hypothetical) derivatives market, rather than the (hypothetical) stock market.

Leveraged Strategies

Stock that a trader does not actually own may be traded using short selling; margin buying may be used to purchase stock with borrowed funds; or, derivatives may be used to control large blocks of stocks for a much smaller amount of money than would be required by outright purchase or sale.

Short selling

In short selling, the trader borrows stock (usually from his brokerage which holds its clients' shares or its own shares on account to lend to short sellers) then sells it on the market, hoping for the price to fall. The trader eventually buys back the stock, making money if the price fell in the meantime or losing money if it rose. Exiting a short position by buying back the stock is called "covering a short position." This strategy may also be used by unscrupulous traders to artificially lower the price of a stock. Hence most markets either prevent short selling or place restrictions on when and how a short sale can occur. The practice of naked shorting is illegal in most (but not all) stock markets.

Margin buying

New issuance

Global issuance of equity and equity-related instruments totaled $505 billion in 2004, a 29.8% increase over the $389 billion raised in 2003. Initial public offerings (IPOs) by US issuers increased 221% with 233 offerings that raised $45 billion, and IPOs in Europe, Middle East and Africa (EMEA) increased by 333%, from $ 9 billion to $39 billion.

Investment strategies

One of the many things people always want to know about the stock market is, "How do I make money investing?" There are many different approaches; two basic methods are classified as either fundamental analysis or technical analysis. Fundamental analysis refers to analyzing companies by their financial statements found in SEC Filings, business trends, general economic conditions, etc. Technical analysis studies price actions in markets through the use of charts and quantitative techniques to attempt to forecast price trends regardless of the company's financial prospects. One example of a technical strategy is the Trend following method, used by John W. Henry and Ed Seykota, which uses price patterns, utilizes strict money management and is also rooted in risk control and diversification.

Additionally, many choose to invest via the index method. In this method, one holds a weighted or unweighted portfolio consisting of the entire stock market or some segment of the stock market (such as the S&P 500 or Wilshire 5000). The principal aim of this strategy is to maximize diversification, minimize taxes from too frequent trading, and ride the general trend of the stock market (which, in the U.S., has averaged nearly 10%/year, compounded annually, since World War II).

Finally, one may trade based on inside information, which is known as insider trading. However, this is illegal in most jurisdictions (i.e., in most developed world stock markets).

The New York Stock Exchange (NYSE), nicknamed the "Big Board," is a New York City-based privately-owned stock exchange by the NYSE Group (NYX). It is the largest stock exchange in the world by dollar volume and the second largest by number of companies listed. Its share volume was exceeded by that of NASDAQ during the 1990s, but the total market capitalization of companies listed on the NYSE is five times that of companies listed on NASDAQ. The New York Stock Exchange has a global capitalization of $17.4 trillion, including $7.1 trillion in non-US companies.

The NYSE is operated by NYSE Group, which was formed by merger with the fully electronic stock exchange Archipelago Holdings. The New York Stock Exchange trading floor is located at 11 Wall Street, and is composed of five rooms used for the facilitation of trading. The main building is listed on the National Register of Historic Places and is located at 18 Broad Street, between the corners of Wall Street and Exchange Place.

NYSE Group is acquiring Euronext, and many of its operations (particularly IT and the trading platform) will be combined with that of the New York Stock Exchange and NYSE Arca.

The NYSE trades in a continuous auction format. There is one specific location on the trading floor where each listed stock trades. Exchange members interested in buying and selling a particular stock on behalf of investors gather around the appropriate post where a specialist broker, who is employed by a NYSE member firm (that is, he/she is not an employee of the New York Stock Exchange), acts as an auctioneer in an open outcry auction market environment to bring buyers and sellers together and to manage the actual auction. They do on occasion (approximately 10% of the time) facilitate the trades by committing their own capital and as a matter of course disseminate information to the crowd that helps to bring buyers and sellers together. Most of the time natural buyers and sellers meet in a market that provides efficient price discovery in an auction environment that is designed to produce the fairest price for both parties. The human interaction and expert judgment as to order execution differentiates the NYSE from fully electronic markets. However, in excess of 50% of all order flow is now delivered to the floor electronically. Recent proposals have been made to adopt a Hybrid market structure combining elements of open outcry and electronic markets. The frenzied commotion of men and women in colored smocks has been captured in several movies, including Wall Street.

In the mid-1960s, the NYSE Composite Index (NYSE: NYA) was created, with a base value of 50 points equal to the 1965 yearly close, to reflect the value of all stocks trading at the exchange instead of just the 30 stocks included in the Dow Jones Industrial Average. To raise the profile of the composite index, in 2003 the NYSE set its new base value of 5,000 points equal to the 2002 yearly close. (Previously, the index had stood just below 500 points, with lifetime highs and lows of 670 points and 33 points, respectively.) The lifetime high of the NYSE Composite in trading stands at 9,188.17 points, reached on December 28, 2006, while its lifetime low (as currently calculated) stands at 347.77 points, reached in October 1974.

Since September 30, 1985 the NYSE trading hours have been 9:30 - 16:00 EST. The right to directly trade shares on the exchange is conferred upon owners of the 1366 "seats". The term comes from the fact that up until the 1870s NYSE members sat in chairs to trade; this system was eliminated long ago. In 1868, the number of seats was fixed at 533, and this number was increased several times over the years. In 1953, the exchange stopped at 1366 seats. These seats are a sought-after commodity as they confer the ability to directly trade stock on the NYSE. Seat prices have varied widely over the years, generally falling during recessions and rising during economic expansions. The most expensive seat, adjusted for inflation, was sold in 1929 for $625,000, which is over six million in today's dollars. In recent times, seats have sold for as high as $4 million in the late 1990s and $1 million in 2001. In 2005, seat prices shot up to $3.25 million as the exchange was set to merge with Archipelago and become a for-profit, publicly traded company. Seat owners received $500,000 cash per seat and 77,000 shares of the newly formed corporation. The NYSE now sells one-year licenses to trade directly on the exchange.

History

The origin of the NYSE can be traced to May 17, 1792, when the Buttonwood Agreement was signed by twenty-four stockbrokers outside of 68 Wall Street in New York under a buttonwood tree. On March 8, 1817, the organization drafted a constitution and renamed itself the "New York Stock & Exchange Board". This name was shortened to its current form in 1863. Anthony Stockholm was elected the Exchange's first president.

The first central location of the NYSE was a room rented for $200 a month in 1817 located at 40 Wall Street. But the volume of stocks traded had increased sixfold in the years between 1896 and 1901 and a larger space was required to conduct business in the expanding marketplace. Eight New York City architects were invited to participate in a design competition for a new building and the Exchange selected the neoclassic design from architect George B. Post. Demolition of the existing building at 10 Broad Street and the adjacent lots started on 10 May 1901.

The New York Stock Exchange building opened at 18 Broad Street on April 22, 1903 at a cost of $4 million. The trading floor was one of the largest volumes of space in the city at the time at 109 x 140 feet wide (33 x 42.5 meters) with a skylight set into a 72 foot high ceiling (22 m.) The main facade of the building features marble sculpture by John Quincy Adams Ward in the pediment, above six tall Corinthian capitals, called "Integrity Protecting the Works of Man". The building was listed as a National Historic Landmark and added to the National Register of Historic Places on June 2, 1978.

In 1922, a building designed by Trowbridge & Livingston was added at 11 Broad Street for offices, and a new trading floor called "the garage". Additional trading floor space was added in 1969 and 1988 (the "blue room") with the latest technology for information display and communication. Another trading floor was opened at 30 Broad Street in 2000. With the arrival of the Hybrid Market, a greater proportion of trading was executed electronically and the NYSE decided to close the 30 Broad Street trading room in early 2006.

The Exchange was closed shortly after the beginning of World War I (July 1914), but it was re-opened on November 28 of that year in order to help the war effort by trading bonds.

On September 16, 1920, a bomb exploded on Wall Street outside the NYSE building, killing 33 people and injuring more than 400. The perpetrators were never found. The NYSE building and some buildings nearby, such as the JP Morgan building, still have marks on their facades caused by the bombing.

The Black Thursday crash of the Exchange on October 24, 1929, and the sell-off panic which started on Black Tuesday, October 29, are often blamed for precipitating the Great Depression. In an effort to try to restore investor confidence, the Exchange unveiled a fifteen-point program aimed to upgrade protection for the investing public on October 31, 1938.

On October 1, 1934, the exchange was registered as a national securities exchange with the U.S. Securities and Exchange Commission, with a president and a thirty-three member board. On February 18, 1971 the not-for-profit corporation was formed, and the number of board members was reduced to twenty-five.

On August 24, 1967, Abbie Hoffman led a group opposed to capitalism (and other things, including the Vietnam War) in the gallery of the New York Stock Exchange. The protestors threw fistfuls of (mostly fake) dollar bills down to the traders below, who began to scramble frantically to grab the money, as fast as they could. Hoffman claimed to be pointing out that, metaphorically, that's what NYSE traders "were already doing". The NYSE then installed barriers in the gallery, to prevent this kind of protest from interfering with trading again.

Following a 554.26 point drop in the Dow Jones Industrial Average (DJIA) on October 27, 1997, officials at the Exchange for the first time invoked the "circuit breaker" rule to stop trading. This was a very controversial move and prompted a quick change in the rule; trading now halts for an hour, two hours, or the rest of the day when the DJIA drops 10, 20, or 30 percent, respectively. In the afternoon, the 10 and 20% drops will halt trading for a shorter period of time, but a 30% drop will always close the exchange for the day. The rationale behind the trading halt was to give investors a chance to cool off and reevaluate their positions.

The NYSE was closed from September 11 until September 17, 2001 as a result of the September 11, 2001 attacks.

On September 17, 2003, NYSE chairman and chief executive Richard Grasso stepped down as a result of controversy concerning the size of his deferred compensation package. He was replaced as CEO by John Thain, the former President of Goldman Sachs Group Inc.

On April 21, 2005, the NYSE announced its plans to acquire Archipelago, in a deal that is intended to bring the NYSE public.

On December 6, 2005, the NYSE's governing board voted to acquire rival Archipelago and become a for-profit, public company. It began trading under the name NYSE Group on March 8, 2006.

The Dow Jones Industrial Average, which started on October 1, 1928, hit a record high on January 03 2006 of 12.580,35. Marsh Carter is the Chairman of the New York Stock Exchange, succeeding John S. Reed. John Thain is the CEO of the NYSE. Gerald Putnam and Catherine Kinney are the co-Presidents of the NYSE.

New York Stock Exchange Milestones

		1792	The first traded company on the NYSE
		1817	Rules and a Constitution - The New York Stock and Exchange Board
		1867	The First Stock Ticker
		1873	NYSE closes for 10 Days
		1896	DJIA published by The Wall Street Journal
		1903	NYSE moves into its new quarters at 18 Broad Street
		1907	Panic of 1907
		1914	World War I causes longest exchange shutdown
		1915	Market price in Dollars
		1929	Central Quote System
		1929	Black Thursday (October 24) and Black Tuesday (October 29)
		1943	Women Work on Trading Floor
		1949	Longest Bull Run begins
		1954	Dow surpasses 1929 peak
		1966	NYSE creates Common Stock Index
		1966	Floor data fully automated
		1970	Securities Investor Protection Corporation established
		1971	NYSE Not-for-Profit
		1972	DJIA Closes Over 1,000
		1977	Foreign Brokers/Dealers are admitted
		1979	New York Futures Exchange established
		1985	Ronald Reagan visits NYSE
		1987	Largest One-Day Percentage Drop of DJIA (Black Monday, 19 October)
		1991	Dow exceeds 3,000
		1992	NYSE celebrates its Bicentennial
		1996	Real-time Ticker introduced
		1999	DJIA tops 10,000
		2000	DJIA at record high (until 2006)
		2000	First Global Index Launches
		2001	Trading in Fractions (n/16) ends, replaced by decimals (decimalization)
		2001	Terrorist Attacks on World Trade Center (September 11): NYSE closed for 4 session days
		2003	NYSE Composite Index relaunched
		2005	NYSE and ArcaEx agree to merge
		2006	NYSE and ArcaEx merge - NYSE Group, Inc. For-profit, publicly owned company
		2006	NYSE Group buys Euronext, creating the first trans-Atlantic stock exchange group
		2006	DJIA tops 12,000 on October 19th; NYSE Composite tops 9,000 on December 4th
		2007	President George W. Bush visits the NYSE. He showed up unannounced to the Floor about an hour and a half before an FOMC interest rate decision. The market nearly came to a complete stand-still for approximately 30 minutes. During the trading day he spent a few minutes talking with specialists.

The Dow Jones Industrial Average (NYSE: DJI, also called DJIA, Dow 30, or informally the Dow Jones index or the Dow) is one of several stock market indices created by Wall Street Journal editor and Dow Jones & Company founder Charles Dow. Dow compiled the index as a way to gauge the performance of the industrial component of America's stock markets. It is the oldest continuing U.S. market index.

Today, the average consists of 30 of the largest and most widely held public companies in the United States. The "industrial" portion of the name is largely historical — many of the 30 modern components have little to do with heavy industry. To compensate for the effects of stock splits and other adjustments, it is currently a scaled average, not the actual average of the prices of its component stocks — the actual average of prices is multiplied by a scale factor, which changes over time, to generate the value of the index.

History

First published on May 26, 1896, the DJIA represented the average of twelve stocks from various important American industries. Of those original twelve, only General Electric remains part of the average. The other eleven were:

		American Cotton Oil Company, a predecessor of Bestfoods, now part of Unilever
		American Sugar Company, now Amstar Holdings
		American Tobacco Company, broken up in 1911
		Chicago Gas Company, bought by Peoples Gas Light & Coke Co. in 1897 (now Peoples Energy Corporation)
		Distilling & Cattle Feeding Company, now Millennium Chemicals, a division of Lyondell Chemical Company
		Laclede Gas Light Company, still in operation as The Laclede Group
		National Lead Company, now NL Industries
		North American Company, (Edison) electric company broken up in the 1950s
		Tennessee Coal, Iron and Railroad Company, bought by U.S. Steel in 1907
		U.S. Leather Company, dissolved 1952
		United States Rubber Company, changed its name to Uniroyal in 1967, bought by Michelin in 1990

DJIA Milestones

When it was first published, the index stood at 40.94. It was computed as a direct average, by first adding up stock prices of its components and dividing by the number of stocks. Many of the biggest percentage price moves in the Dow occurred early in its history, as the nascent industrial economy matured.

		The index hit its all-time low of 28.48 during the summer of 1896.
		The largest one-day percentage drop in the history of the Dow occurred on December 12, 1914, 24.39%, after a multi-month NYSE hiatus brought on by World War I.

In 1916, the number of stocks in the DJIA was increased to twenty, and finally to thirty in 1928, near the height of the "roaring 1920s" bull market. The crash of 1929 and the ensuing Great Depression returned the average to its starting point, almost 90% below its peak, by July 8, 1932. The highs of September 3, 1929 would not be surpassed until 1954.

		The largest one-day percentage gain in the index, 14.87%, happened on October 6, 1931, in the depths of the 1930s bear market.
		The post-World War II bull market, which brought the market well above its 1920s highs, lasted until 1966.
		On November 14, 1972 the average closed above 1,000 (1,003.16) for the first time, in the midst of a lengthy bear market.

The 1980s and especially the 1990s saw a very rapid increase in the average, though severe corrections did occur along the way.

		The largest one-day percentage drop since 1914 occurred on "Black Monday", October 19, 1987, when the average fell 22.6%.
		The largest one-day percentage gain since 1932, 10.15%, occurred two days later on Wednesday, October 21, bringing the Dow back above 2,000 and in line for a yearly gain.
		On November 21, 1995 the DJIA closed above 5,000 (5,023.55) for the first time.
		On March 29, 1999, the average closed at 10,006.78, its first close above the 10,000 mark.
		On May 3, 1999, the Dow closed at 11,014.70, its first close above 11,000.

The uncertainty of the early 2000s brought a significant bear market, and whether it has ended or simply gone into hibernation has been an ongoing subject of debate.

		On January 14, 2000, the DJIA reached a record high of 11,750.28 in trading before settling at a record closing price of 11,722.98; these two records would not be broken until October 3, 2006.
		The largest one-day point gain in the Dow, an advance of 499.19, or 4.93%, occurred on March 16, 2000, as the broader market approached its top.
		The largest one-day point drop in DJIA history occurred on September 17, 2001, the first day of trading after the September 11, 2001 attacks, when the Dow fell 684.81 points, or 7.1%. By the end of that week, the Dow had fallen 1,369.70 points, or 14.3%. A recovery attempt allowed the average to close the year above 10,000.
		By mid-2002, the average had returned to its 1998 level of 8,000.
		On October 9, 2002, the DJIA bottomed out at 7,286.27 (intra-day low 7,197.49), its lowest close since October 1997.
		By the end of 2003, the Dow returned to the 10,000 level.
		On January 9, 2006 the average broke the 11,000 barrier for the first time since June 2001, closing at 11,011.90.
		In October 2006, four years after its bear market low, the DJIA set fresh record theoretical, intra-day, daily close, weekly, and monthly highs for the first time in almost seven years, closing above 12,000 for the first time on the 19th anniversary of Black Monday.

Criticism

The DJIA is criticized for being a price-weighted average, which gives relatively higher-priced stocks more influence over the average than their lower-priced counterparts. This can produce misleading results, as a $1 increase in a lower-priced stock can be negated by a $1 decrease in a much higher-priced stock, even though the first stock experienced a larger percentage change. Additionally, the inclusion of only 30 stocks in the average has brought on additional criticism of the average, as the DJIA is widely used as an indicator of overall market performance.

Many critics of the DJIA recommend the float-adjusted market-value weighted S&P 500 index as a better indicator of the wider economy.

Another issue with the Dow is that not all 30 components open at the same time in the morning. Only a few components open at the start and the posted opening price of the Dow is determined by the price of those few components that open first and the previous day's closing price of the remaining components that haven't opened yet; therefore, the posted opening price on the Dow will always be close to the previous day's closing price (which can be observed by looking at Dow price history) and will never accurately reflect the true opening prices of all its components. Thus, in terms of candlestick charting theory, the Dow's posted opening price cannot be used in determining the condition of the market.

Components

The individual components of the DJIA are occasionally changed as market conditions warrant. They are selected by the editors of The Wall Street Journal. When companies are replaced, the scale factor used to calculate the index is also adjusted so that the value of the average is not directly affected by the change.

On November 1, 1999, Chevron, Goodyear Tire and Rubber Company, Sears Roebuck, and Union Carbide were removed from the DJIA and replaced by Intel, Microsoft, Home Depot, and SBC Communications. Intel and Microsoft became the first two companies traded on the NASDAQ exchange to be listed in the DJIA. On April 8, 2004, another change occurred as International Paper, AT&T, and Eastman Kodak were replaced with Pfizer, Verizon, and AIG. On December 1, 2005 AT&T's original T symbol returned to the DJIA as a result of the SBC Communications and AT&T merger.

The Dow Jones Industrial Average consists of the following 30 companies:

		3M Co. (NYSE: MMM) (conglomerates, "manufacturing")
		ALCOA Inc. (NYSE: AA) (aluminum)
		Altria Group Inc. (NYSE: MO) (tobacco, foods)
		American Express Co. (NYSE: AXP) (credit services)
		American International Group Inc. (NYSE: AIG) (property & casualty insurance)
		AT&T Inc. (NYSE: T) (telecoms)
		Boeing Co. (NYSE: BA) (aerospace/defense)
		Caterpillar Inc. (NYSE: CAT) (farm & construction equipment)
		Citigroup Inc. (NYSE: C) (money center banks)
		Coca-Cola Co. (NYSE: KO) (beverages)
		E.I. du Pont de Nemours & Co. (NYSE: DD) (chemicals)
		Exxon Mobil Corp. (NYSE: XOM) (major integrated oil & gas)
		General Electric Co. (NYSE: GE) (conglomerates, media)
		General Motors Corp. (NYSE: GM) (auto manufacturers)
		Hewlett-Packard Co. (NYSE: HPQ) (diversified computer systems)
		Home Depot Inc. (NYSE: HD) (home improvement stores)
		Honeywell International Inc. (NYSE: HON) (conglomerates)
		Intel Corp. (NASDAQ: INTC) (semiconductors)
		International Business Machines Corp. (NYSE: IBM) (diversified computer systems)
		Johnson & Johnson (NYSE: JNJ) (consumer and health care products conglomerate)
		JPMorgan Chase & Co. (NYSE: JPM) (money center banks)
		McDonald's Corp. (NYSE: MCD) (restaurant franchise)
		Merck & Co. Inc. (NYSE: MRK) (drug manufacturers)
		Microsoft Corp. (NASDAQ: MSFT) (software)
		Pfizer Inc. (NYSE: PFE) (drug manufacturers)
		Procter & Gamble Co. (NYSE: PG) (consumer goods)
		United Technologies Corp. (NYSE: UTX) (conglomerates)
		Verizon Communications Inc. (NYSE: VZ) (telecoms)
		Wal-Mart Stores Inc. (NYSE: WMT) (discount, variety stores)
		Walt Disney Co. (NYSE: DIS) (entertainment)

Calculation

To calculate the DJIA, the sum of the prices of all 30 stocks is divided by a "divisor", which is published on the Chicago Board of Trade's website. The divisor is adjusted in case of splits, spinoffs or similar structural changes, to ensure that such events do not in themselves alter the numerical value of the DJIA. The initial divisor was the number of component companies, so that the DJIA was at first a simple arithmetic average; the present divisor, after many adjustments, is less than one (meaning the index is actually larger than the sum of the prices of the component prices). That is:

  where p are the prices of the component stocks and d is the Dow Divisor.

Events like stock splits or changes in the list of the companies composing the index alter the sum of the prices of the component prices. In these cases, in order to avoid discontinuity in the index, the Dow divisor is updated so that the quotations right before and after the event coincide:

Weights

Because the DJIA is an average of stock prices, it is more strongly affected by relative changes in performance of high-priced stocks than by lower-priced ones. For example, a 100% price increase of a $1 stock would have the same effect on the index as a 1% price increase of a $100 stock, even if both companies had the same market capitalization. In this sense higher-priced stocks have a greater "weight" in the index. A list of the effective weight of each component is published daily by Dow Jones, (although the weights change whenever the prices of the component stocks change). The weights are simply proportional to the stock prices, and are not used in calculating the DJIA.

Investing

Closing milestones of the Dow Jones Industrial Average

Like most other stock market indices, the Dow undergoes periods of general increase and general declines or stagnation. A bull market is a term denoting a period of price increases, while a bear market denotes a period of declines. Wall Street generally considers a bear market in session when the main stock market index is more than 20 percent below its all-time high. By this definition, as of the close of 2006, the Dow will enter a bear market if it sustains a fall below the 10,000 point milestone, which it last touched in April 2005.

There are two types of bull markets. A secular bull market is a period in which the stock market index is continually reaching all-time highs with only brief periods of correction, as during the 1990s, and can last upwards of 15 years. A cyclical bull market is a period in which the stock market index is reaching 52-week or multi-year highs and may briefly peak at all-time highs before a rapid decline, as in the early 1970s. It usually occurs within relatively longer bear markets and lasts about three years.

The following are the secular bull and bear markets experienced by the Dow since its inception:

		1896 – 1929: Bull market. In the summer of 1896 the Dow sheds 30% to set an all-time low of 28.48, but quickly erases its losses, and eventually grows to a closing high of 381.17 (theoretical intra-day high of 386.1) on September 3, 1929.
		1930 – 1948: Bear market. The stock market crash of 1929 precedes the Great Depression. The Dow plunges to 41.22 (theoretical intra-day low of 40.56) on July 8, 1932, thus erasing 36 years of gains. From here, the index would take 22 years to surpass its previous highs.
		1949 – 1966: Bull market. The Dow posts impressive growth in the booming economy following the Second World War . Starting from about 150 in June 1949, when P/E ratios reach multi-decade lows, the index ends just five points below 1,000 on February 9, 1966.
		1967 – 1982: Bear market. Traders deal with a stagnant economy in an inflationary monetary environment. The Dow enters two long downturns in 1970 and 1974; during the latter, it falls nearly 45% to the bottom of a 20-year range. The index approaches the 1,000 milestone at the top of its range three times in 1972, 1976 and 1981, but fails to break the mark decisively.
		1982 – 2000: Bull market. The Dow experiences its most spectacular rise in history. From a meager 777 on August 12, 1982, the index grows more than 1,500% to 11,722.98 (actual and theoretical intra-day highs of 11,750.28 and 11,908.50) by January 14, 2000.
		2000 - undetermined: Bear market. The Dow struggles with the 10,000 - 11,000 range for a year and then deteriorates into a panic atmosphere of severe declines punctuated by brief and violent rallies. The index hits a closing low of 7,286.27 (actual and theoretical intra-day lows of 7,197.49 and 7,181.47 the following day), 38% below its highs, on October 9, 2002. The records of early 2000 stood until the fourth quarter of 2006.

On October 3, 2006, the Dow achieved new record closing and intra-day highs for the first time in nearly seven years. Later that month, the index closed above 12,000 for the first time (October 19), and stayed above the milestone to set record weekly (October 27) and monthly (October 31) closing levels. While some experts might consider the concurrent record highs on the DJIA, the Dow Jones Transportation Average, and the Dow Jones Utilities taking place on February 14, 2007 (the first time that all three finished at record highs on the same day since March 17, 1998) as Dow Theory confirmation that the bear market ended in 2002, the depressed state of the technology market compared with 2000 leaves that a matter of dispute. It is notable, however, that both the tech-laden NASDAQ Composite and the broader S&P 500, while not yet at all-time highs, both achieved six-year monthly closing highs concurrently with the DJIA on November 30, 2006.

Note: For current record highs, please see Wikipedia's Closing Milestones of the Dow Jones Industrial Average.

Dow Theory

Dow Theory is a theory on stock price movements that provides a basis for technical analysis. The theory was derived from 255 Wall Street Journal editorials written by Charles H. Dow (1851–1902), journalist, first editor of the Wall Street Journal and co-founder of Dow Jones and Company. Following Dow's death, William P. Hamilton, Robert Rhea and E. George Schaefer organized and collectively represented "Dow Theory," based on Dow's editorials. Dow himself never used the term "Dow Theory," though.

The six basic tenets of Dow Theory as summarized by Hamilton, Rhea, and Schaefer are described below.

As with many investment theories, there is conflicting evidence in support and opposition of Dow Theory. Alfred Cowles in a study in Econometrica in 1934 showed that trading based upon the editorial advice would have resulted in earning less than a buy-and-hold strategy using a well diversified portfoilio. Cowles concluded that a buy-and-hold strategy produced 15.5% annualized returns from 1902-1929 while the Dow Theory strategy produced annualized returns of 12%. After numerous studies supported Cowles over the following years, many academics stopped studying Dow Theory believing Cowles's results were conclusive.

In recent years however, some in the academic community have revisited Dow Theory and question Cowles' conclusions. William Goetzmann, Stephen Brown, and Alok Kumar believe that Cowles' study was incomplete and that Dow Theory produces excess risk-adjusted returns. Specifically, the absolute return of a buy-and-hold strategy was higher than that of a Dow Theory portfolio by 2%, but the riskiness and volatility of the Dow Theory portfolio was so much lower that the Dow Theory portfolio produced higher risk-adjusted returns according to their study. The Chicago Board of Trade also notes that there is growing interest in market timing strategies such as Dow Theory.

One key problem with any analysis of Dow Theory is that the editorials of Charles Dow did not contain explicitly defined investing "rules" so some assumptions and interpretations are necessary. And as with many academic studies of investing strategies, practitioners often disagree with academics.

Many technical analysts consider Dow Theory's definition of a trend and its insistence on studying price action as the main premises of modern technical analysis.

1. Markets have three trends
Price is all vibrant. It is never stagnant and can't be. It should and must have its own direction to move, which may or may not be known to us. This direction is called as the trends of that particular stock or the average. To start with, Dow defined an uptrend (trend 1) as a time when successive rallies in a security price close at levels higher than those achieved in previous rallies and when lows occur at levels higher than previous lows. Downtrends (trend 2) occur when markets make lower lows and lower highs. It is this concept of Dow Theory that provides the basis of technical analysis' definition of a price trend. Dow described what he saw as a recurring theme in the market: that prices would move sharply in one direction, recede briefly in the opposite direction, and then continue in their original direction (trend 3). But we can still find out a direction to the stock trend and that's called "choppy trend". Simply the sideways movements of any scrip is defined as "choppy" trend.

2. Trends have three phases
Dow Theory asserts that major market trends are composed of three phases: an accumulation phase, a public participation phase, and a distribution phase. The accumulation phase (phase 1) is when investors "in the know" are actively buying (selling) stock against the general opinion of the market. During this phase, the stock price does not change much because these investors are in the minority absorbing (releasing) stock that the market at large is supplying (demanding). Eventually, the market catches on to these astute investors and a rapid price change occurs (phase 2). This is when trend followers and other technically oriented investors participate. This phase continues until rampant speculation occurs. At this point, the astute investors begin to distribute their holdings to the market (phase 3).!!!

3. The stock market discounts all news
Stock prices quickly incorporate new information as soon as it becomes available. Once news is released, stock prices will change to reflect this new information. On this point, Dow Theory agrees with one of the premises of the efficient market hypothesis.

5. Trends are confirmed by volume
Dow believed that volume confirmed price trends. When prices move on low volume, there could be many different explanations why. An overly aggressive seller could be present for example. But when price movements are accompanied by high volume, Dow believed this represented the "true" market view. If many participants are active in a particular security, and the price moves significantly in one direction, Dow maintained that this was the direction in which the market anticipated continued movement. To him, it was a signal that a trend is developing.

6. Trends exist until definitive signals prove that they have ended
Dow believed that trends existed despite "market noise". Markets might temporarily move in the direction opposite the trend, but they will soon resume the prior move. The trend should be given the benefit of the doubt during these reversals. Determining whether a reversal is the start of a new trend or a temporary movement in the current trend is not easy. Dow Theorists often disagree in this determination. Technical analysis tools attempt to clarify this but they can be interpreted differently by different investors.

The S&P 500 is an index containing the stocks of 500 Large-Cap corporations, most of which are American. The index is the most notable of the many indices owned and maintained by Standard & Poor's, a division of McGraw-Hill. S&P 500 is used in reference not only to the index but also to the 500 actual companies whose stocks are included in the index.

The S&P 500 index forms part of the broader S&P 1500 and S&P Global 1200 stock market indices.

All of the stocks in the index are those of large publicly held companies and trade on major US stock exchanges such as the New York Stock Exchange and Nasdaq. After the Dow Jones Industrial Average, the S&P 500 is the most widely watched index of large-cap US stocks. It is considered to be a bellwether for the US economy and is a component of the Index of Leading Indicators. It is often quoted using the symbol SPX, and may be prefixed with a caret (^) or with a dollar sign ($).

Many index funds and exchange-traded funds track the performance of the S&P 500 by holding the same stocks as the index, in the same proportions, and thus attempting to match its performance (before fees and expenses). Partly because of this, a company which has its stock added to the list may see a boost in its stock price as the managers of the mutual funds must purchase that company's stock in order to match the funds' composition to that of the S&P 500 index.

In stock and mutual fund performance charts, the S&P 500 index is often used as a baseline for comparison. The chart will show the S&P 500 index, with the performance of the target stock or fund overlaid.

History

Prior to 1957, the primary S&P stock market index consisted of 90 companies, known as the S&P 90, and was published on a daily basis. A broader index of 423 companies was also published weekly. On March 4, 1957, a broad, real-time stock market index, the S&P 500 was introduced. This introduction was made possible by advancements in the computer industry which allowed the index to be calculated and disseminated in real time.

The S&P 500 is used widely as an indicator of the broader market, as it includes both "growth" stocks (which inflated and then deflated in the dot-com bubble and bust) and generally less volatile "value" stocks; it also includes stocks from both the NASDAQ stock market and the NYSE. The index, near the height of the bubble, reached an all-time closing high of 1,527.46, and intra-day high of 1,553.11, on March 24, 2000. After that, the index eventually lost approximately 50% of its value, spiking below 800 in July 2002 and reaching a bear market low of 768.63 intra-day on October 10, 2002. Since then, the US stock markets have gradually recovered. However, during the week of October 2, 2006, when the DJIA set new record highs for the first time in nearly seven years, the S&P 500 remained below its all-time closing high. As of late 2006, the S&P 500 remains below its all-time high, although it established a monthly close above 1400 points for the first time in over six years on November 30, 2006.

Selection

The components of the S&P 500 are selected by committee. This is similar to the Dow 30, but different from others such as the Russell 1000, which are strictly rules-based.

Although the index includes many large companies in the US, it is not simply a list of the 500 biggest companies, and includes a handful (11 as of September 19, 2006) that are incorporated outside of the US and are therefore technically not US companies. The companies are carefully selected to ensure that they are representative of various industries in the US economy. In addition, companies that do not trade publicly (such as those that are privately or mutually held) and stocks that do not have sufficient liquidity are not in the index. By contrast, the Fortune 500 attempts to list the 500 largest companies in the United States by gross revenue, regardless of whether their stocks trade or their liquidity, without adjustment for industry representation, and excluding companies incorporated outside the US.

Weighting

The index was previously market-value weighted; that is, movements in price of companies whose total market valuation (share price times the number of outstanding shares) is larger will have a greater effect on the index than companies whose market valuation is smaller.

The index has since been converted to float weighted; that is, only shares which Standard & Poor's determines are available for public trading ("float") are counted. The transition was made in two tranches, the first on March 18, 2005 and the second on September 16, 2005. (For example, only the Class A shares of Google ("GOOG") are publicly traded; thus, of the 207,096,000 Class A shares outstanding as of March 2006, only 199,570,000 shares were considered float, so only the value of the latter number of shares was used to incorporate Google into the S&P 500 on March 31, 2006.) Only a minority of companies in the index have this sort of public float lower than their total capitalization; for most companies in the index S&P considers all shares to be part of the public float and thus the capitalization used in the index calculation equals the market capitalization for those companies.

Investing

Apart from purchasing the individual stocks in the S&P 500, investors may also purchase shares of an exchange-traded fund (ETF) which represents ownership in a portfolio of the equity securities that comprise the Standard & Poor's 500 Index. One of these ETF's is called the Standard & Poor's Depositary Receipts (SPDRs, pronounced "spiders"), and the ticker symbol is SPY. Typical volume for the SPDR is over 42 million shares per day, second only to QQQQ. There is also the smaller, newer iShares S&P 500 (Symbol:IVV), which has a slightly lower expense ratio, but is otherwise identical to the SPDRs. Rydex also offers an ETF, Rydex S&P Equal Weight (Symbol:RSP), which provides equal exposure to all the companies in the S&P 500.

The relatively compact units of these ETFs represent an opportunity for the smaller investor to achieve a performance close to the S&P 500 Index (minus fees and expenses). They trade like any other stock on the American Stock Exchange, so they can be bought on margin, sold short, or held for the long term.

NASDAQ (originally an acronym for National Association of Securities Dealers Automated Quotations system) is an American electronic stock exchange. It was founded in 1971 by the National Association of Securities Dealers (NASD), who divested it in a series of sales in 2000 and 2001. It is owned and operated by The Nasdaq Stock Market, Inc. (NASDAQ: NDAQ) the stock of which was listed on its own stock exchange in 2002. NASDAQ is the largest electronic screen-based equity securities market in the United States. With approximately 3,200 companies, it lists more companies and, on average, trades more shares per day than any other U.S. market. The current chief executive officer is Robert Greifeld.

History

When it began trading on February 8, 1971, it was the world's first electronic stock market. At first, it was merely a computer bulletin board system and did not actually connect buyers and sellers. The NASDAQ helped lower the spread (the difference between the bid price and the ask price of the stock) but somewhat paradoxically was unpopular among brokerages because they made much of their money on the spread. Over the years, NASDAQ became more of a stock market by adding trade and volume reporting and automated trading systems. NASDAQ was also the first stock market to advertise to the general public, highlighting NASDAQ-traded companies (usually in technology) and closing with the declaration that NASDAQ is "the stock market for the next hundred years."

Until 1987, most trading occurred via the telephone, but during the October 1987 stock market crash, market makers often didn't answer their phones. To counteract this, the Small Order Execution System (SOES) was established, which provides an electronic method for dealers to enter their trades. NASDAQ requires market makers to honor trades over SOES.

On July 17, 1995, the NASDAQ Composite index closed above the 1,000 mark for the first time. The index peaked at an intra-day high of 5,132.52 on March 10, 2000, which signaled the beginning of the end of the dot-com stock market bubble. The index declined to half its value within a year, and finally found a bear market bottom at its intra-day low of 1,108.49 on October 10, 2002. While the index has gradually recovered since then, reaching a six-year monthly closing high above the 2,400 level on November 30, 2006, it is still (as of early 2007) trading for less than half of its peak value.

Merger attempt with London Stock Exchange

In December of 2005, the London Stock Exchange (LSE) rejected a £1.6 billion takeover offer from Macquarie Bank. The LSE described the offer as "derisory." It then received a bid in March of 2006 for £2.4 billion from NASDAQ, which was also rejected by the LSE. NASDAQ later pulled its bid, and less than two weeks later on April 11, 2006, struck a deal with LSE's largest shareholder, Ameriprise Financial's Threadneedle Asset Management unit, to acquire all of that firm's stake, consisting of 35.4 million shares, at £11.75 per share. NASDAQ also purchased 2.69 million additional shares, resulting in a total stake of 15%. While the seller of those shares was undisclosed, it occurred simultaneously with a sale by Scottish Widows of 2.69 million shares. The move was seen as an effort to force LSE to negotiate either a partnership or eventual merger, as well as to block other suitors such as NYSE Group, owner of the New York Stock Exchange.

Subsequent purchases increased NASDAQ's stake to 29%, holding off competing bids for several months. However only a further 0.4% of shareholders accepted the offer by the deadline and therefore the offer was rejected on February 10, 2007.

Business

NASDAQ allows multiple market participants to trade through its Electronic Communication Networks (ECNs) structure, increasing competition. The Small Order Execution System (SOES) is another NASDAQ feature, introduced in 1987, to ensure that in 'turbulent' market conditions small market orders are not forgotten but are automatically processed. With approximately 3,200 companies, it lists more companies and, on average, trades more shares per day than any other stock exchange in the world. It is home to companies that are leaders across all areas of business including technology, retail, communications, financial services, digging, transportation, media and biotechnology. NASDAQ is the primary market for trading NASDAQ-listed stocks.

Quote availability

NASDAQ quotes are available at three levels. Level I shows the highest bid and lowest offer — the inside quote. Level II shows all public quotes of market makers together with information of market makers wishing to sell or buy stock and recently executed orders. Level III is used by the market makers and allows them to enter their quotes and execute orders.

Indices

		NASDAQ-100
		NASDAQ Biotechnology Index

Markets

		NASDAQ Global Select Market
		NASDAQ Global Market
		NASDAQ Capital Market

NASD, Inc. (formerly known as the National Association of Securities Dealers) is the primary Self Regulatory Organization (SRO) responsible for the regulation of persons and companies involved in the securities industry in the United States, with delegated authority from the Securities and Exchange Commission. It was founded in 1936.

The NASD Board of Governors consists of two staff members (the CEO and the President of one of NASD's divisions), seven individuals representing the industry, seven individuals representing the public, and two individuals categorized as "non-public".

Functions: Regulation and licensure

NASD regulates trading in equities, corporate bonds, securities futures and options, with authority over the activities of more than 5,025 brokerage firms, approximately 169,470 branch offices, and more than 658,170 registered securities representatives. All firms dealing in securities that are not regulated by another SRO, such as by the Municipal Securities Rulemaking Board ("MSRB"), are required to be member firms of the NASD.

NASD licenses individuals and admits firms to the industry, writes rules to govern their behavior, examines them for regulatory compliance, and is sanctioned by the U.S. Securities and Exchange Commission ("SEC") to discipline registered representatives and member firms that fail to comply with federal securities laws and NASD's rules and regulations. It provides education and qualification examinations to industry professionals. It also sells outsourced regulatory products and services to a number of stock markets and exchanges (e.g. American Stock Exchange ("AMEX") and the International Securities Exchange ("ISE").

NASD founded the NASDAQ ("National Association of Securities Dealers Automated Quotations") stock market in 1971. In 2006, NASD demutualized from NASDAQ by selling its ownership interest.

Size

NASD has a staff of nearly 2,000 and an annual budget of more than $500 million. The NASD is funded primarily by assessments of member firms' registered representatives and applicants, annual fees paid by members, and by fines that it levies. The annual fee that each member pays includes a basic membership fee, an assessment based on gross income, a fee for each principal and registered representative, and charge for each branch office.

Criticism

The securities market has become increasingly "retail"; with a majority of American's owning stock through work and personal investing. Some members of the securities industry have criticized the NASD for purportedly pursuing minor rule violations. In the past, some claimed that the NASD turned a blind eye to alleged abuses on the NASDAQ market of the late 1990's. Some investors lost money from their investments during the volatility experienced during this period, bringing into question whether the NASD carried out is duty to protect the individual investor. Today, NASD, in conjunction with the SEC, and various state attorney general offices' have vigorously worked to ensure the integrity of the market place for the investing public.

Arbitration

The NASD operates the nation's largest arbitration forum for the resolution of disputes between customers and member firms, as well as between brokerage firm employees and their firms. As of June 2005, the pool of arbitrators consisted of 3,700 individuals classified as representing the public and 2,700 individuals considered industry panelists.

In 1987, in Shearson/American Express v. McMahon, the Supreme Court ruled that account forms signed by customers requiring arbitration for disputes were enforceable contracts. Brokerage firms now require all customers to sign such documents, requiring binding arbitration.

For disputes between customers and member firms, the panel that decides the case consists of three arbitrators, one representing the securities industry and two designated as public investor representatives. For a given case, the two sides are provided separate lists by NASD of local, available arbitrators, from which they chose. If one side rejects all listed arbitrators, NASD names the arbitrators who will serve; these can be rejected only for biases, misclassification, conflicts, or undisclosed material information, and biases or conflicts must be identified prior to the beginning of hearings. For an overview of the Securities Arbitration process, see Introduction to Securities Arbitration.

According to NASD, there were 6,074 cases for arbitration filed in 2005, a decrease from the peak of 8,945 cases filed in 2003. The average time to complete a case has risen from 10.5 months in 1995 to 14.3 months in 2005, a decrease from 2004 when it was 15.4 months. The percentage of cases where customers are awarded damages has fallen from slightly above 50% in the 2000-2002 period to slightly above 40% in 2005.

NASD rules do not require parties to be represented by attorneys. A party may appear pro se, or be represented by a non-attorney in arbitration. However, representation by a non-attorney is not advised since this may be the unauthorized practice of law. Brokerage firms routinely hire attorneys, so a customer who does not can be at a serious disadvantage. One organization whose members specialize in representing customers against brokerage firms in NASD and NYSE arbitration is the Public Investors Arbitration Bar Association ("PIABA").

In June 2006, Lewis D. Lowenfels, an expert in securities law at a New York law firm, said of the NASD arbitration process: "What started out as a relatively swift and economical process for a public customer claimant to seek justice has evolved into a costly extended adversarial proceeding dominated by trial lawyers and the usual litigation tactics."

Value investing is a style of investment strategy from the so-called "Graham & Dodd" School. Followers of this style, known as value investors, generally buy companies whose shares appear underpriced by some forms of fundamental analysis; these may include shares that are trading at, for example, high dividend yields or low price-to-earning or price-to-book ratios.

The main proponents of value investing, such as Benjamin Graham and Warren Buffett have argued that the essence of value investing is buying stocks at less than their intrinsic value. The discount of the market price to the intrinsic value is what Benjamin Graham called the "margin of safety". The intrinsic value is the discounted value of all future distributions.

However, the future distributions and the appropriate discount rate can only be assumptions. Warren Buffett has taken the value investing concept even further as his thinking has evolved to where for the last 25 years or so his focus has been on "finding an outstanding company at a sensible price" rather than generic companies at a bargain price.

History

Value investing was established by Benjamin Graham and David Dodd, both professors at Columbia University and teachers of many famous investors. In Graham's book The Intelligent Investor, he advocated the important concept of margin of safety — first introduced in Security Analysis, a 1934 book he coauthored with David Dodd — which calls for a cautionary approach to investing. In terms of picking stocks, he recommended defensive investment in stocks trading not far from their tangible book value as a safeguard to adverse future developments often encountered in the stock market.

Further evolution

However, the concept of value (as well as "book value") has evolved significantly since the 1970s. Book value is meaningful only in some traditional stable industries where the value of an asset is well defined. When an industry is going through fast technological advancements, the value of its assets is not easily estimated. Sometimes, the production power of an asset can be significantly reduced due to competitive disruptive innovation and therefore its value can suffer permanent impairment. One good example of decreasing asset value is a personal computer. An example of where book value does not mean much is the service and retail sectors. One modern model of calculating value is the discounted cash flow model (DCF). The value of an asset is the sum of its future cash flows, discounted back to the present.

Performance, value strategies

Value investing has proved to be a successful investment strategy. There are several ways to evaluate its success. One way is to examine the performance of simple value strategies, such as buying low PE ratio stocks, low price-to-cash-flow ratio stocks, or low price-to-book ratio stocks. Numerous academics have published studies investigating the effects of buying value stocks. These studies have consistently found that value stocks outperform growth stocks and the market as a whole.

Performance, value investors

Another way to examine the performance of value investing strategies is to examine the investing performance of well-known value investors. Simply examining the performance of the best known value investors would not be instructive, because investors do not become well known unless they are successful. This introduces a selection bias. A better way to investigate the performance of a group of value investors was suggested by Warren Buffett, in his May 17, 1984 speech that was published as The SuperInvestors of Graham and Doddsville. In this speech, Buffett examined the performance of those investors who worked at Graham-Newman Corporation and were thus most influenced by Benjamin Graham. Buffett's conclusion is identical to that of the academic research on simple value investing strategies--value investing is, on average, successful in the long run.

Well Known Value Investors

Benjamin Graham is regarded by many to be the father of value investing. Along with David Dodd, he wrote Security Analysis, first published in 1934. The most lasting contribution of this book to the field of security analysis was to emphasize the quantifiable aspects of security analysis (such as the evaluations of earnings and book value) while minimizing the importance of more qualitative factors such as the quality of a company's management. Graham later wrote The Intelligent Investor, a book that brought value investing to individual investors. Many of Graham's students, such as William J. Ruane, Irving Kahn, Walter Schloss, and Charles Brandes went on to become successful investors in their own right.

Graham's most famous student, however, was Warren Buffett, who ran successful investing partnerships before closing them in 1969 to focus on running Berkshire Hathaway. Charlie Munger joined Buffett at Berkshire Hathaway in the 1970s and has since worked as Vice Chairman of the company. Buffett has credited Munger with encouraging him to focus on long-term sustainable growth rather than on simply the valuation of current cash flows or assets.

Another famous value investor is John Templeton. He first achieved investing success by buying shares of a number of companies in the aftermath of the stock market crash of 1929. He went on to become famous for investing in global equity markets.

Many successful value investors have gained fame recently. Joel Greenblatt is widely renowned for achieving annual returns at the hedge fund Gotham Capital of over 50% per year for 10 years from 1985 to 1995 before closing the fund and returning his investors' money. He is known for investing in special situations such as spin-offs, mergers, and divestitures. Edward Lampert is the chief of ESL Investments. He is best known for buying large stakes in Sears and Kmart and then merging the two companies.

Fundamental analysis

Fundamental analysis of a business involves analyzing its financial statements and health, its management and competitive advantages, and its competitors and markets.

The objectives of the analysis may be to calculate credit risk, to evaluate management and make internal business decisions, or to determine the value of a company's stock and its probable future. The analysis is performed on historical and present data, but the objective is to predict future stock or business performance.

Two analytical models

When the objective of the analysis is to determine what stock to buy and at what price, there are two basic methodologies.

Investors can use both these different but somewhat complementary methods for stock picking. Many fundamental investors use technicals for deciding entry and exit points. Many technical investors use fundamentals to limit their universe of possible stock to 'good' companies.

The choice of stock analysis is determined by the investor's belief in the different paradigms for "how the stock market works". See the discussions at efficient market hypothesis , random walk hypothesis, Capital Asset Pricing Model, Fed model Theory of Equity Valuation, and behavioral finance.

Use by different portfolio styles

Investors may use fundamental analysis within different portfolio management styles.

		Buy and hold investors believe that latching onto good businesses allows the investor's asset to grow with the business. Fundamental analysis lets them find 'good' companies, so they lower their risk and probability of wipe-out.
		Managers may use fundamental analysis to correctly value 'good' and 'bad' companies. Even 'bad' company's stock goes up and down, creating opportunities for profits.
		Contrarian investors distinguish "in the short run, the market is a voting machine, not a weighing machine". Fundamental analysis allows you to make your own decision on value, and ignore the market.
		Value investors restrict their attention to lower valued companies, believing that 'it's hard to fall out of a ditch'. The value comes from fundamental analysis.
		Managers may use fundamental analysis to determine future growth rates for buying high priced growth stocks.
		Managers may also include fundamental factors along with technical factors into computer models (quantitative analysis).

Top-down and Bottom-up

Investors can use either a top-down or bottom-up approach.

		The top-down investor starts his analysis with global economics, including both international and national economic indicators, such as GDP growth rates, inflation, interest rates, exchange rates, productivity, and energy prices. He narrows his search down to regional/industry analysis of total sales, price levels, the effects of competing products, foreign competition, and entry or exit from the industry. Only then does he narrow his search to the best business in that area.
		The bottom-up investor starts with specific businesses, regardless of their industry/region.

Procedures

The analysis of a business' health starts with financial statement analysis that includes ratios. It looks at dividends paid, operating cash flow, new equity issues and capital financing. The earnings estimates and growth rate projections published widely by Thomson Financial and others can be considered either 'fundamental' (they are facts) or 'technical' (they are investor sentiment) based on your perception of their validity.

The determined growth rates (of income and cash) and risk levels (to determine the discount rate) are used in various valuation models. The foremost is the discounted cash flow model, which calculates the present value of the future

		dividends received by the investor, along with the eventual sale price. (Gordon model)
		earnings of the company, or
		cash flows of the company.

The simple model commonly used is the Price/Earnings ratio. Implicit in this model of a perpetual annuity (Time value of money) is that the 'flip' of the P/E is the discount rate appropriate to the risk of the business. The multiple accepted is adjusted for expected growth (that is not built into the model).

Growth estimates are incorporated into the PEG ratio but the math does not hold up to analysis. Its validity depends on the length of time you think the growth will continue.

Computer modeling of stock prices has now replaced much of the subjective interpretation of fundamental data (along with technical data) in the industry. Since about year 2000, with the power of computers to crunch vast quantities of data, a new career has been invented. At some funds the manager's decisions have been replaced by proprietary mathematical models.

A shareholder or stockholder is an individual or company (including a corporation) that legally owns one or more shares of stock in a joint stock company. Companies listed at the stock market strive to enhance shareholder value.

Stockholders are granted special privileges depending on the class of stock, including the right to vote (usually one vote per share owned) on matters such as elections to the board of directors, the right to share in distributions of the company's income, the right to purchase new shares issued by the company, and the right to a company's assets during a liquidation of the company. However, stockholder's rights to a company's assets are subordinate to the rights of the company's creditors. This means that stockholders typically receive nothing if a company is liquidated after bankruptcy (if the company had had enough to pay its creditors, it would not have entered bankruptcy), although a stock may have value after a bankruptcy if there is the possibility that the debts of the company will be restructured.

Stockholders or shareholders are considered by some to be a partial subset of stakeholders, which may include anyone who has a direct or indirect equity interest in the business entity or someone with even a non-pecuniary interest in a non-profit organization. Thus it might be common to call volunteer contributors to an association stakeholders, even though they are not shareholders.

Although directors and officers of a company are bound by fiduciary duties to act in the best interest of the shareholders, the shareholders themselves normally do not have such duties towards each other.

However, in a few unusual cases, some courts have been willing to imply such a duty between shareholders. For example, in California, majority shareholders of closely held corporations have a duty to not destroy the value of the shares held by minority shareholders.

The largest shareholders (in terms of percentages of companies owned) are often mutual funds, and especially passively managed exchange-traded funds.

The following reports on economic indicators are reported by United States government agencies:

Business activity           Wholesale Inventories      Industrial Production (Federal Reserve)          Capacity Utilization      Regional Manufacturing Surveys (Purchasing managers' organizations and Federal Reserve banks)          Philadelphia Fed Index (Federal Reserve Bank of Philadelphia)      Construction Spending (U.S. Census Bureau)   Business Inventory      Business Inventories (U.S. Census Bureau)   International      International trade (U.S. Census Bureau and the Bureau of Economic Analysis)          Trade balance          Export prices      International Capital Flows (U.S. Treasury Department)          Treasury International Capital (TICs)   Sales      Auto and Truck Sales (U.S. Department of Commerce)          Auto Sales          Truck Sales      Retail Sales (U.S. Census Bureau)   Orders      Durable Goods Orders (U.S. Census Bureau)      Factory Orders (U.S. Census Bureau)   Real Estate      Housing Starts and Building Permits (U.S. Census Bureau)          Building permits          Housing starts      New Home Sales (U.S. Census Bureau)   Production      GDP (Gross Domestic Product) (Bureau of Economic Analysis)      Productivity and Costs (Bureau of Labor Statistics)   Consumer      Consumer Credit (Federal Reserve)      Employment Cost Index (U.S. Department of Labor)      Personal Income and Consumption (Bureau of Economic Analysis)          Personal Income   Employment      The Employment Report (Bureau of Labor Statistics)          Hourly Earnings          Nonfarm Payrolls      Initial Claims   Price increase ("inflation")      CPI (Consumer Price Index) (Bureau of Labor Statistics)      PPI (Producer Price Index) (Bureau of Labor Statistics)   Government      Treasury Budget (U.S. Treasury Department)   Monetary      M2 (Federal Reserve Board)   Initial Public Offering (IPO) An initial public offering (IPO) is the first sale of a corporation's common shares to investors on a public stock exchange. The main purpose of an IPO is to raise capital for the corporation. While IPOs are effective at raising capital, they also impose heavy regulatory compliance and reporting requirements. The term only refers to the first public issuance of a company's shares; any later public issuance of shares is referred to as a secondary market offering or a rights issue. A shareholder selling his existing shares (rather than shares newly issued to raise capital) on the Primary Market is an offer for sale, but if the company is being newly listed this is still considered to fall under the "IPO" umbrella. Reasons for listing When a company lists its shares on a public exchange it will almost invariably look to issue additional new shares in order to raise extra capital at the same time. The money paid by investors for the newly-issued shares goes directly to the company (in contrast to a later trade of shares on the exchange, where the money passes between investors). An IPO therefore allows a company to tap a wide pool of stock market investors to provide it with large volumes of capital for future growth. The company is never required to repay the capital, but instead the new shareholders have a right to future profits distributed by the company. The existing shareholders will see their shareholdings diluted as a proportion of the company's shares. However, they hope that the capital investment will make their shareholdings more valuable in absolute terms. In addition, once a company is listed it will be able to issue further shares via a rights issue, thereby again providing itself with capital for expansion without incurring any debt. This regular ability to raise large amounts of capital from the general market, rather than having to seek and negotiate with individual investors, is a key incentive for many companies seeking to list. Procedure IPOs generally involve one or more investment banks as "underwriters." The company offering its shares, called the "issuer," enters a contract with a lead underwriter to sell its shares to the public. The underwriter then approaches investors with offers to sell these shares. The sale (that is, the allocation and pricing) of shares in an IPO may take several forms. Common methods include:              Dutch auction Firm commitment Best efforts Bought deal Self Distribution of Stock A large IPO is usually underwritten by a "syndicate" of investment banks led by one or more major investment banks (lead underwriter). Upon selling the shares, the underwriters keep a commission based on a percentage of the value of the shares sold. Usually, the lead underwriters, i.e. the underwriters selling the largest proportions of the IPO, take the highest commissions—up to 8% in some cases. Multinational IPOs may have as many as three syndicates to deal with differing legal requirements in both the issuer's domestic market and other regions. (e.g., an issuer based in the E.U. may be represented by the main selling syndicate in its domestic market, Europe, in addition to separate syndicates or selling groups for US/Canada and for Asia. Usually the lead underwriter in the main selling group is also the lead bank in the other selling groups.) Because of the wide array of legal requirements, IPOs typically involve one or more law firms with major practices in securities law, such as the Magic Circle firms of London and the white shoe firms of New York City. Usually the offering will include the issuance of new shares, intended to raise new capital, as well the secondary sale of existing shares. However, certain regulatory restrictions and restrictions imposed by the lead underwriter are often placed on the sale of existing shares. Public offerings are primarily sold to institutional investors, but some shares are also allocated to the underwriters' retail investors. A broker selling shares of a public offering to his clients is paid through a sales credit instead of a commission. The client pays no commission to purchase the shares of a public offering, the purchase price simply includes the built in sales credit. The issuer usually allows the underwriters an option to increase the size of the offering by up to 15% under certain circumstance known as the greenshoe or over-allotment option. Business cycle In the United States, during the dot-com bubble of the late 1990s, many venture capital driven companies were started, and seeking to cash in on the bull market, quickly offered IPOs. Usually, stock price spiraled upwards as soon as a company went public, as investors sought to get in at the ground-level of the next potential Microsoft and Netscape. Initial founders could often become overnight millionaires, and due to generous stock options, employees could make a great deal of money as well. The majority of IPOs could be found on the Nasdaq stock exchange, which is laden with companies related to computer and information technology. This phenomenon was not limited to the United States. In Japan, for example, a similar situation occurred. Some companies were operated in a similar way in that their only goal was to have an IPO. Some stock exchanges were set up for those companies, such as Nasdaq Japan. Perhaps the clearest bubbles in the history of hot IPO markets were in 1929, when closed-end fund IPOs sold at enormous premiums to net asset value, and in 1989, when closed-end country fund IPOs sold at enormous premiums to net asset value. What makes these bubbles so clear is the ability to compare market prices for shares in the closed-end funds to the value of the shares in the funds' portfolios. When market prices are multiples of the underlying value, bubbles are clearly occurring. Auction A venture capitalist named Bill Hambrecht has attempted to devise a method that can reduce the inefficient process. He devised a way to issue shares through a Dutch auction as an attempt to minimize the extreme underpricing that underwriters were nurturing. Underwriters, however, have not taken to this strategy very well. Though not the first company to use Dutch auction, Google is one established company that went public through the use of auction. Google's share price rose 17% in its first day of trading despite the auction method. Perception of IPOs can be controversial. For those who view a successful IPO to be one that raises as much money as possible, the IPO was a total failure. For those who view a successful IPO from the kind of investors that eventually gained from the underpricing, the IPO was a complete success. It's important to note that different sets of investors bid in auctions versus the open market - more institutions bid, fewer private individuals bid. Google may be a special case, however, as many individual investors bought the stock based on long-term valuation shortly after it launched its IPO, driving it beyond institutional valuation. Pricing Historically, IPOs both globally and in the US have been underpriced. The effect of underpricing an IPO is to generate additional interest in the stock when it first becomes publicly traded. This can lead to significant gains for investors who have been allocated shares of the IPO at the offering price. However, underpricing an IPO results in "money left on the table," lost capital that could have been raised for the company had the stock been offered at a higher price. The danger of overpricing is also an important consideration. If a stock is offered to the public at a higher price than what the market will pay, the underwriters may have trouble meeting their commitments to sell shares. Even if they sell all of the issued shares, if the stock falls in value on the first day of trading, it may lose its marketability and hence even more of its value. Investment banks therefore take many factors into consideration when pricing an IPO, and attempt to reach an offering price that is low enough to stimulate interest in the stock, but high enough to raise an adequate amount of capital for the company. The process of determining an optimal price usually involves the underwriters ("syndicate") arranging share purchase commitments from lead institutional investors. Note: Not all IPOs are eligible for delivery settlement through the DTC system, which would then either require the physical delivery of the stock certificates to the clearing agent bank's custodian, or a delivery versus payment ("DVP") arrangement with the selling group brokerage firm. Quiet Period After the newly public company has its IPO, it enters a "quiet period." During this time, the insiders, and any underwriters involved in the IPO, are restricted from issuing any earnings forecasts or research reports for the company. The quiet period is in effect for 40 calendar days following the first trading day. Regulatory changes by the United States Securities and Exchange Commission, changed the quiet period of 25 days, to 40 days on July 9, 2002. When the quiet period is over, generally the lead underwriters will initiate research coverage on the firm.   What is a Commodity? Commodity is a term with distinct meanings in both business and in Marxian political economy. For the former, it is a largely homogeneous product, traded solely on the basis of price, whereas for the latter, it refers to wares offered for exchange. Linguistically, the word commodity came into use in English in the 15th century, being derived from the French word "commodité", meaning today's (2000) "convenience" in term of quality of services. The Latin root meaning is commoditas, referring variously to the appropriate measure of something; a fitting state, time or condition; a good quality; efficaciousness or propriety; and advantage, or benefit. The German equivalent is die Ware, i.e. wares or goods offered for sale. The French equivalent is "produit de base" like energy, goods, industrial raw materials. Business usage In the world of business, a commodity is an undifferentiated product, good or service that is traded based solely on its price, rather than quality and features. Examples include: electricity (most users of electric power are only concerned with energy consumption; only a minority of users are concerned with the quality and technical details of voltage and frequency deviations, phase imbalance, "stability" as guaranteed by backup equipment, etc.), wheat, bulk chemicals such as sulfuric acid, base and other metals, and even pork-bellies and orange juice. More modern commodities include bandwidth, RAM chips and (experimentally) computer processor cycles, and negative commodity units like emissions credits. In the original and simplified sense, commodities were things of value, of uniform quality, that were produced in large quantities by many different producers; the items from each different producer are considered equivalent. It is the contract and this underlying standard that define the commodity, not any quality inherent in the product. One can reasonably say that food commodities, for example, are defined by the fact that they substitute for each other in recipes, and that one can use the food without having to look at it too closely. Commodities exchanges include:              Chicago Board of Trade Euronext.liffe London Metal Exchange New York Mercantile Exchange Microeconomists also include labor, and currency as commodities that can be bought and sold. Examples Wheat is an example of a soft commodity. Wheat from many different farms is pooled. Generally, it is all traded at the same price; wheat from farm A is not differentiated from wheat from farm B. Some uniform standard of quality must necessarily be assumed. There may be various standards leading to different pools: one say for genetically modified wheat, and one for unmodified wheat. Failures to match the consumer's assessment of risk and usefulness for some purpose, can lead to lower prices or the necessity of dividing the market into different pools - a very major issue in agricultural policy. Markets for trading commodities can be very efficient, particularly if the division into pools matches demand segments. These markets will quickly respond to changes in supply and demand to find an equilibrium price and quantity. Commodities and Marxism In classical political economy and especially Karl Marx's critique of political economy, a commodity is simply any good or service offered as a product for sale on the market. Some items are also seen as being treated as if they were commodities, e.g. human labor or labor power, works of art and natural resources, even though they may not be produced specifically for the market, or be non-reproducible goods. Marx's analysis of the commodity is intended to help solve the problem of what establishes the economic value of goods, using the labor theory of value. This problem was extensively debated by Adam Smith, David Ricardo and Karl Rodbertus-Jagetzow among others. Value and price are not equivalent terms in economics, and theorizing the specific relationship of value to market price has been a challenge for both liberal and Marxist economists. Characteristics of commodity In Marx's theory, a commodity has value, which represents a quantity of human labor. The fact that it has value implies straightaway that people try to economize its use. A commodity also has a use value, an exchange value and a price.              It has a use value because, by its intrinsic characteristics, it can satisfy some human need or want, physical or ideal. By nature this is a social use value, i.e. the object is useful not just to the producer but has a use for others generally. It has an exchange value, meaning that a commodity can be traded for other commodities, and thus give its owner the benefit of others' labor (the labor done to produce the purchased commodity). Price is then the monetary expression of exchange-value (but exchange value could also be expressed as a direct trading ratio between two commodities without using money). According to the labor theory of value, product-values in an open market are regulated by the average socially necessary labor time required to produce them, and price relativities are ultimately governed by the law of value. Illustration To understand the concept of a commodity, consider a chair. It is a commodity if the chair is a tradeable product of human work possessing a social use-value. By contrast, a fallen log of deadwood sat upon in the forest is not a commodity, as it was not produced by human work for the purpose of trade. A chair created by a hobbyist as a gift to someone is not a commodity. Nor is a chair a commodity (as a chair) if its only use would be as scrap firewood (unless one purchases a chair specifically to chop it up for fire wood). A chair that nobody could sit on has no use-value, and cannot be a commodity (unless it has an ornamental value, e.g. in a doll's house).      Click here for a List of Traded Commodities, from Wikipedia Commodity Markets Commodity markets are markets where raw or primary products are exchanged. These raw commodities are traded on regulated commodities exchanges, in which they are bought and sold in standardized Contracts. This article focuses on the history and current debates regarding global commodity markets. It covers physical product (food, metals, electricity) markets but not the ways that services, including those of governments, nor investment, nor debt, can be seen as a commodity. Articles on reinsurance markets, stock markets, bond markets and currency markets cover those concerns separately and in more depth. One focus of this article is the relationship between simple commodity money and the more complex instruments offered in the commodity markets. History The modern commodity markets have their roots in the trading of agricultural products. While wheat and corn, cattle and pigs, were widely traded using standard instruments in the 19th century in the United States, other basic foodstuffs such as soybeans were only added quite recently in most markets. For a commodity market to be established, there must be very broad consensus on the variations in the product that make it acceptable for one purpose or another. The economic impact of the development of commodity markets is hard to over-estimate. Through the 19th century "the exchanges became effective spokesmen for, and innovators of, improvements in transportation, warehousing, and financing, which paved the way to expanded interstate and international trade." Early history of commodity markets Historically, dating from ancient Sumerian use of sheep or goats, or other peoples using pigs, rare seashells, or other items as commodity money, people have sought ways to standardize and trade contracts in the delivery of such items, to render trade itself more smooth and predictable. Commodity money and commodity markets in a crude early form are believed to have originated in Sumer where small baked clay tokens in the shape of sheep or goats were used in trade. Sealed in clay vessels with a certain number of such tokens, with that number written on the outside, they represented a promise to deliver that number. This made them a form of commodity money - more than an "I.O.U." but less than a guarantee by a nation-state or bank. However, they were also known to contain promises of time and date of delivery - this made them like a modern futures contract. Regardless of the details, it was only possible to verify the number of tokens inside by shaking the vessel or by breaking it, at which point the number or terms written on the outside became subject to doubt. Eventually the tokens disappeared, but the contracts remained on flat tablets. This represented the first system of commodity accounting. However, the Commodity status of living things is always subject to doubt - it was hard to validate the health or existence of sheep or goats. Excuses for non-delivery were not unknown, and there are recovered Sumerian letters that complain of sickly goats, sheep that had already been fleeced, etc. If a seller's reputation was good, individual "backers" or "bankers" could decide to take the risk of "clearing" a trade. The observation that trust is always required between market participants later led to credit money. But until relatively modern times, communication and credit were primitive. Classical civilizations built complex global markets trading gold or silver for spices, cloth, wood and weapons, most of which had standards of quality and timeliness. Considering the many hazards of climate, piracy, theft and abuse of military fiat by rulers of kingdoms along the trade routes, it was a major focus of these civilizations to keep markets open and trading in these scarce commodities. Reputation and clearing became central concerns, and the states which could handle them most effectively became very powerful empires, trusted by many peoples to manage and mediate trade and commerce. Forward contracts Commodity and Futures contracts are based on what’s termed "Forward" Contracts. Early on these "forward" contracts (agreements to buy now, pay and deliver later) were used as a way of getting products from producer to the consumer. These typically were only for food and agricultural products. Forward contracts have evolved and have been standardized into what we know today as futures contracts. Although more complex today, early "Forward" contracts for example, were used for rice in seventeenth century Japan. Modern "forward", or futures agreements, began in Chicago in the 1840s, with the appearance of the railroads. Chicago, being centrally located, emerged as the hub between Midwestern farmers and producers and the east coast consumer population centers. Hedging "Hedging", a common (and sometimes mandatory) practice of farming cooperatives, insures against a poor harvest by purchasing futures contracts in the same commodity. If the cooperative has significantly less of its product to sell due to weather or insects, it makes up for that loss with a profit on the markets, since the overall supply of the crop is short everywhere that suffered the same conditions. Whole developing nations may be especially vulnerable, and even their currency tends to be tied to the price of those particular commodity items until it manages to be a fully developed nation. For example, one could see the nominally fiat money of Cuba as being tied to sugar prices, since a lack of hard currency paying for sugar means less foreign goods per peso in Cuba itself. In effect, Cuba needs a hedge against a drop in sugar prices, if it wishes to maintain a stable quality of life for its citizens. Delivery and condition guarantees In addition, delivery day, method of settlement and delivery point must all be specified. Typically, trading must end two (or more) business days prior to the delivery day, so that the routing of the shipment (which for soybeans is 30,000 kilograms or 1,102 bushels) can be finalized via ship or rail, and payment can be settled when the contract arrives at any delivery point. Standardization U.S. soybean futures, for example, are of standard grade if they are "GMO or a mixture of GMO and Non-GMO No. 2 yellow soybeans of Indiana, Ohio and Michigan origin produced in the U.S.A. (Non-screened, stored in silo)," and of deliverable grade if they are "GMO or a mixture of GMO and Non-GMO No. 2 yellow soybeans of Iowa, Illinois and Wisconsin origin produced in the U.S.A. (Non-screened, stored in silo)." Note the distinction between states, and the need to clearly mention their status as "GMO" ("Genetically Modified Organism") which makes them unacceptable to most "organic" food buyers. Similar specifications apply for orange juice, cocoa, sugar, wheat, corn, barley, pork bellies, milk, feedstuffs, fruits, vegetables, other grains, other beans, hay, other livestock, meats, poultry, eggs, or any other commodity which is so traded. The concept of an interchangeable deliverable or guaranteed delivery is always to some degree a fiction. Trade in commodities is like trade in any other physical product or service. No magic of the commodity contract itself makes "units" of the product totally uniform nor gets it to the delivery point safely and on time. Regulation of commodity markets Cotton, kilowatt-hours of electricity, board feet of wood, long distance minutes, royalty payments due on artists' works, and other products and services have been traded on markets of varying scale, with varying degrees of success. One issue that presents major difficulty for creators of such instruments is the liability accruing to the purchaser: Unless the product or service can be guaranteed or insured to be free of liability based on where it came from and how it got to market, e.g. kilowatts must come to market free from legitimate claims for smog death from coal burning plants, wood must be free from claims that it comes from protected forests, royalty payments must be free of claims of plagiarism or piracy, it becomes impossible for sellers to guarantee a uniform delivery. Generally, governments must provide a common regulatory or insurance standard and some release of liability, or at least a backing of the insurers, before a commodity market can begin trading. This is a major source of controversy in for instance the energy market, where desirability of different kinds of power generation varies drastically. In some markets, e.g. Toronto, Canada, surveys established that customers would pay 10-15% more for energy that was not from coal or nuclear, but strictly from renewable sources such as wind. Proliferation of contracts, terms, and derivatives However, if there are two or more standards of risk or quality, as there seem to be for electricity or soybeans, it is relatively easy to establish two different contracts to trade in the more and less desirable deliverable separately. If the consumer acceptance and liability problems can be solved, the product can be made interchangeable, and trading in such units can begin. Since the detailed concerns of industrial and consumer markets vary widely, so do the contracts, and "grades" tend to vary significantly from country to country. A proliferation of contract units, terms, and futures contracts have evolved, combined into an extremely sophisticated range of financial instruments. These are more than one-to-one representations of units of a given type of commodity, and represent more than simple futures contracts for future deliveries. These serve a variety of purposes from simple gambling to price insurance. The underlying of futures contracts are no longer restricted to commodities. Oil and fiat Building on the infrastructure and credit and settlement networks established for food and precious metals, many such markets have proliferated drastically in the late 20th century. Oil was the first form of energy so widely traded, and the fluctuations in the oil markets are of particular political interest. Some commodity market speculation is directly related to the stability of certain states, e.g. during the Gulf War, speculation on the survival of the regime of Saddam Hussein in Iraq. Similar political stability concerns have from time to time driven the price of oil. Some argue that this is not so much a commodity market but more of an assassination market speculating on the survival (or not) of Saddam or other leaders whose personal decisions may cause oil supply to fluctuate by military action. The oil market is, however, an exception. Most markets are not so tied to the politics of volatile regions - even natural gas tends to be more stable, as it is not traded across oceans by tanker as extensively. Commodity markets and protectionism Developing countries (Democratic or not) have been moved to harden their currencies, accept IMF rules, join the WTO, and submit to a broad regime of reforms that amount to a "hedge" against being isolated. China's entry into the WTO signaled the end of truly isolated nations entirely managing their own currency and affairs. The need for stable currency and predictable clearing and rules-based handling of trade disputes, has led to a global trade hegemony - many nations "hedging" on a global scale against each other's anticipated "protectionism", were they to fail to join the WTO. There are signs, however, that this regime is far from perfect. U.S. trade sanctions against Canadian softwood lumber (within NAFTA) and foreign steel (except for NAFTA partners Canada and Mexico) in 2002 signaled a shift in policy towards a tougher regime perhaps more driven by political concerns - jobs, industrial policy, even sustainable forestry and logging practices. Commodity thinking is undergoing a more direct revival thanks to the theorists of "natural capital" whose products, some economists argue, are the only genuine commodities - air, water, and calories we consume being mostly interchangeable when they are free of pollution or disease. Whether we wish to think of these things as tradeable commodities rather than birthrights has been a major source of controversy in many nations. Most types of environmental economics consider the shift to measuring them inevitable, arguing that reframing political economy to consider the flow of these basic commodities first and foremost, helps avoids use of any military fiat except to protect "natural capital" itself, and basing credit-worthiness more strictly on commitment to preserving biodiversity aligns the long-term interests of ecoregions, societies, and individuals. They seek relatively conservative sustainable development schemes that would be amenable to measuring well-being over long periods of time, typically "seven generations", in line with Native American thought. Weather trading However, this is not the only way in which commodity thinking interacts with ecologists' thinking. Hedging began as a way to escape the consequences of damage done by natural conditions. It has matured not only into a system of interlocking guarantees, but also into a system of indirectly trading on the actual damage done by weather, using "weather derivatives". For a price, this relieves the purchaser of the following types of concerns: "Will a freeze hurt the Brazilian coffee crop? Will there be a drought in the U.S. Corn Belt? What are the chances that we will have a cold winter, driving natural gas prices higher and creating havoc in Florida orange areas? What is the status of El Niño?" Emissions trading Weather trading is just one example of "negative commodities", units of which represent harm rather than good. "Economy is three fifths of ecology" argues Mike Nickerson, one of many economic theorists who holds that nature's productive services and waste disposal services are poorly accounted for. One way to fairly allocate the waste disposal capacity of nature is "cap and trade" market structure that is used to trade toxic emissions rights in the United States, e.g. SO2. This is in effect a "negative commodity", a right to throw something away. In this market, the atmosphere's capacity to absorb certain amounts of pollutants is measured, divided into units, and traded amongst various market players. Those who emit more SO2 must pay those who emit less. Critics of such schemes argue that unauthorized or unregulated emissions still happen, and that "grandfathering" schemes often permit major polluters, such as the state governments' own agencies, or poorer countries, to expand emissions and take jobs, while the SO2 output still floats over the border and causes death. In practice, political pressure has overcome most such concerns and it is questionable whether this is a capacity that depends on U.S. clout: The Kyoto Protocol established a similar market in global greenhouse gas emissions without U.S. support. Community as commodity? This highlights one of the major issues with global commodity markets of either the positive or negative kind. A community must somehow believe that the commodity instrument is real, enforceable, and well worth paying for. A very substantial part of the anti-globalization movement opposes the commodification of currency, national sovereignty, and traditional cultures. The capacity to repay debt, as in the current global credit money regime anchored by the Bank for International Settlements, does not in their view correspond to measurable benefits to human well-being worldwide. They seek a fairer way for societies to compete in the global markets that will not require conversion of natural capital to natural resources, nor human capital to move to developed nations in order to find work. Some economic systems by green economists would replace the "gold standard" with a "biodiversity standard". It remains to be seen if such plans have any merit other than as political ways to draw attention to the way capitalism itself interacts with life. Is human life a commodity? While classical, neoclassical, and Marxist approaches to economics tend to treat labor differently, they are united in treating nature as a resource. The green economists and the more conservative environmental economics argue that not only natural ecologies, but also the life of the individual human being is treated as a commodity by the global markets. A good example is the IPCC calculations cited by the Global Commons Institute as placing a value on a human life in the developed world "15x higher" than in the developing world, based solely on the ability to pay to prevent climate change. Is free time a commodity? Accepting this result, some argue that to put a price on both is the most reasonable way to proceed to optimize and increase that value relative to other goods or services. This has led to efforts in measuring well-being, to assign a commercial "value of life", and to the theory of Natural Capitalism - fusions of green and neoclassical approaches - which focus predictably on energy and material efficiency, i.e. using far less of any given commodity input to achieve the same service outputs as a result. Indian economist Amartya Sen, applying this thinking to human freedom itself, argued in his 1999 book "Development as Freedom" that human free time was the only real service, and that sustainable development was best defined as freeing human time. Sen won The Bank of Sweden Prize in Economic Sciences in Memory of Alfred Nobel in 1999 (sometimes incorrectly called the "Nobel Prize in Economics") and based his book on invited lectures he gave at the World Bank. Commodity money Commodity money is money whose value comes from a commodity out of which it is made. Examples of commodities that have been used as mediums of exchange include gold, silver, copper, salt, peppercorns, large stones, decorated belts, shells, cigarettes, and candy. Commodity money is to be distinguished from representative money which is a certificate or token which can be exchanged for the underlying commodity. A key feature of commodity money is that the value is directly perceived by the users of this money, who recognize the utility or beauty of the tokens as they would recognize the goods themselves. That is, the effect of holding a token for a barrel of oil must be the same economically as actually having the barrel at hand. This thinking guides the modern commodity markets, although they use a sophisticated range of financial instruments that are more than one-to-one representations of units of a given type of commodity. In situations where the commodity is metal, typically gold or silver, a government mint will often coin money by placing a mark on the metal that serves as a guarantee of the weight and purity of the metal. In doing so, the government will often impose a fee which is known as seigniorage. The role of a mint and of coin is different between commodity money and fiat money. In situations where there is commodity money, the coin retains its value if it is melted and physically altered, while in fiat money it does not. Commodity money often comes into being in situations where other forms of money are not available or not trusted. Various commodities were used in pre-Revolutionary America including wampum, maize, iron nails, beaver pelts, and tobacco. In post-war Germany, cigarettes became used as a form of commodity money in some areas. Cigarettes are still used as a form of commodity money in prisons. Although commodity money is more convenient than barter, it can be inconvenient to use as a medium of exchange or a standard of deferred payment due to the transport and storage concerns. The cost of such storage is often referred to as Demurrage (currency) and is in some instances regarded as a positive influence on the overlying financial system. Accordingly, notes began to circulate that a government or other trusted entity (e.g. the Knights Templar in Europe in the 13th century) would guarantee as representing a certain stored value on account. This creates a form of money known as representative money - the beginning of a long slow shift to credit money. Historically gold was by far the most widely recognized commodity out of which to make money: gold was compact, easy to work into more beautiful jewelry, had decorative and functional utility as a finely strung wire or thin foil leaf, and most importantly, could always be traded for other metals to make weapons with. A state could be described as a political enterprise with sufficient land, gold and reputation for protecting both, e.g. the Fort Knox gold repository long maintained by the United States, could reliably issue certificates to substitute for the gold and be trusted to actually have it. Between 1933 and 1970, one U.S. dollar was technically worth exactly 1/35 of a troy ounce (889 mg) of gold. However, actual trade in gold as a precious metal within the United States was banned - presumably to prevent anyone from actually going up to Fort Knox and asking for their gold. This was a fairly typical transition from commodity to representative to fiat money, with people trading in other goods being forced to trade in gold, then to receive paper money that purported to be as good as gold, and then ultimately see this currency "float" on commodity markets. However, commodity money remained active in the background in some form or another, and seems to have been revived thanks to global capitalism, wherein a currency is widely traded as a commodity. One way to view such trade is that currency of resource-rich nations tends to be tied to the price of those particular commodity items until it becomes a "developed nation". Thus, one could see the nominally fiat money of say Cuba as being tied to the commodity "sugar" globally, rather than to the military power of Cuba that holds within its own borders. Also, commodity supplies and protections of supplies by states' military fiat remain critical to trade, and there are active commodity market speculations on the stability of certain states, e.g. speculation on the survival of the regime of Saddam Hussein in Iraq has from time to time driven the price of oil. Some argue that this is not so much a commodity market but more of an assassination market speculating on the survival (or not) of Saddam himself. Finally, commodity money is undergoing a more direct revival thanks to theorists of green economics and natural capitalism, some of whom suggest a form of money based on ecological yield. They argue that the outputs of "natural capital" are the only genuine commodities - air, water, and renewable energy we consume being mostly interchangeable when they are free of pollution or disease. However, such goods cannot be held directly, and so it is common to suggest that representative money be issued based on enhancing and extending nature's services, giving one the right to receive the yield as benefit. They argue that reframing political economy to consider the flow of these basic commodities first and foremost, avoiding use of military fiat except to protect "natural capital" itself, and basing credit-worthiness more strictly on commitment to preserving biodiversity rather than repayment of debt, as in the current global credit money regime anchored by the Bank for International Settlements, would provide measurable benefits to human well-being worldwide. Critics of this type of proposal often note that, as with other transitions from commodity to representative money, inadequate substitutes will be made on a "just trust me" basis - as per Gresham's Law which states that bad money drives out good. Other proposals, such as time-based money, rely on the availability of human labor as a commodity, especially within a community, which is presumably harder to guarantee access to, but also harder to steal. Still others deny the utility of commodifying labor as such, and suggest making free time the standard, since physical capital used for leisure, sport, art, theatre, and other forms of play is commodifiable and possible to control. Some, in environmental economics, argue that the life of the individual human being and the natural ecologies are already both treated as commodities in global markets. They argue that to put a price on both is the most reasonable way to proceed to optimize and increase that value relative to other goods or services. This has led to efforts in measuring well-being, to assign a commercial "value of life", and to the theory of Natural Capitalism - which focuses predictably on energy and material efficiency, i.e. using far less of any given commodity input to achieve the same service outputs as a result. An extreme example of this view is held by Indian economist Amartya Sen, who discussed the relationship between access to commodities, labor, and "the right to live as we would like" in his 1999 book "Development as Freedom", arguing that human free time was the only real service, and that sustainable development was best defined as freeing human time. Sen's views are relatively mainstream - he won the 1999 Bank of Sweden Prize in Economic Sciences in Memory of Alfred Nobel (sometimes incorrectly called the "Nobel Prize in Economics"). In 1996, digital gold currency was launched by e-gold as a form of commodity money, which uses a long established medium of exchange, namely gold.   What is a Futures Contract? In finance, a futures contract is a standardized contract, traded on a futures exchange, to buy or sell a certain underlying instrument at a certain date in the future, at a specified price. The future date is called the delivery date or final settlement date. The pre-set price is called the futures price. The price of the underlying asset on the delivery date is called the settlement price. The settlement price, normally, converges towards the futures price on the delivery date. A futures contract gives the holder the obligation to buy or sell, which differs from an options contract, which gives the holder the right, but not the obligation. In other words, the owner of an options contract may exercise the contract. If it is an American-style option, it can be exercised on or before the expiration date; a European option can only be exercised at expiration. Thus, a Futures contract is more like a European option. Both parties of a "futures contract" must fulfill the contract on the settlement date. The seller delivers the commodity to the buyer, or, if it is a cash-settled future, then cash is transferred from the futures trader who sustained a loss to the one who made a profit. To exit the commitment prior to the settlement date, the holder of a futures position has to offset his position by either selling a long position or buying back a short position, effectively closing out the futures position and its contract obligations. Futures contracts, or simply futures, are exchange traded derivatives. The exchange's clearinghouse acts as counterparty on all contracts, sets margin requirements, etc. Futures vs. Forwards While futures and forward contracts are both a contract to deliver a commodity on a future date, key differences include:              Futures are always traded on an exchange, whereas forwards always trade over-the-counter, or can simply be a signed contract between two parties. Futures are highly standardized, whereas each forward is unique. The price at which the contract is finally settled is different: Futures are settled at the settlement price fixed on the last trading date of the contract (i.e. at the end). Forwards are settled by the delivery of the commodity at the specified contract price. The credit risk of futures is much lower than that of forwards: Traders are not subject to credit risk because the clearinghouse always takes the other side of the trade. The day's profit or loss on a futures position is marked-to-market in the trader's account. If the mark to market results in a balance that is less than the margin requirement, then the trader is issued a margin call. The risk of a forward contract is that the supplier will be unable to deliver the grade and quantity of the commodity, or the buyer may be unable to pay for it on the delivery day. In case of physical delivery, the forward contract specifies to whom to make the delivery. The counterparty on a futures contract is chosen randomly by the exchange. In a forward there are no cash flows until delivery, whereas in futures there are margin requirements and a daily mark to market of the traders' accounts. Standardization Futures contracts ensure their liquidity by being highly standardized, usually by specifying:              The underlying asset or instrument. This could be anything from a barrel of crude oil to a short term interest rate. The type of settlement, either cash settlement or physical settlement. The amount and units of the underlying asset per contract. This can be the notional amount of bonds, a fixed number of barrels of oil, units of foreign currency, the notional amount of the deposit over which the short term interest rate is traded, etc. The currency in which the futures contract is quoted. The grade of the deliverable. In the case of bonds, this specifies which bonds can be delivered. In the case of physical commodities, this specifies not only the quality of the underlying goods but also the manner and location of delivery. For example, the NYMEX Light Sweet Crude Oil contract specifies the acceptable sulfur content and API specific gravity, as well as the location where delivery must be made. The delivery month. The last trading date. Other details such as the commodity tick, the minimum permissible price fluctuation. Margin To minimize credit risk to the exchange, traders must post margin or a performance bond, typically 5%-15% of the contract's value. Margin requirements are waived or reduced in some cases for hedgers who have physical ownership of the covered commodity or spread traders who have offsetting contracts balancing the position. Initial margin is paid by both buyer and seller. It represents the loss on that contract, as determined by historical price changes, that is not likely to be exceeded on a usual day's trading. A futures account is marked to market daily. If the margin drops below the margin maintenance requirement established by the exchange listing the futures, a margin call will be issued to bring the account back up to the required level. Margin-equity ratio is a term used by speculators, representing the amount of their trading capital that is being held as margin at any particular time. The low margin requirements of futures results in substantial leverage of the investment. However, the exchanges require a minimum amount that varies depending on the contract and the trader. The broker may set the requirement higher, but may not set it lower. A trader, of course, can set it above that, if he doesn't want to be subject to margin calls. Return on margin (ROM) is often used to judge performance because it represents the gain or loss compared to the exchange’s perceived risk as reflected in required margin. ROM may be calculated (realized return) / (initial margin). The Annualized ROM is equal to (ROM+1)(year/trade duration)-1. For example if a trader earns 10% on margin in two months, that would be about 77% annualized. Settlement Settlement is the act of consummating the contract, and can be done in one of two ways, as specified per type of futures contract:              Physical delivery - the amount specified of the underlying asset of the contract is delivered by the seller of the contract to the exchange, and by the exchange to the buyers of the contract. Physical delivery is common with commodities and bonds. In practice, it occurs only on a minority of contracts. Most are cancelled out by purchasing a covering position - that is, buying a contract to cancel out an earlier sale (covering a short), or selling a contract to liquidate an earlier purchase (covering a long). The Nymex crude futures contract uses this method of settlement upon expiration. Cash settlement - a cash payment is made based on the underlying reference rate, such as a short term interest rate index such as Euribor, or the closing value of a stock market index. A futures contract might also opt to settle against an index based on trade in a related spot market. Ice Brent futures use this method. Expiry is the time when the final prices of the future is determined. For many equity index and interest rate futures contracts (as well as for most equity options), this happens on the third Friday of certain trading month. On this day the t+1 futures contract becomes the t forward contract. For example, for most CME and CBOT contracts, at the expiry on December, the March futures become the nearest contract. This is an exciting time for arbitrage desks, as they will try to make rapid gains during the short period (normally 30 minutes) where the final prices are averaged from. At this moment the futures and the underlying assets are extremely liquid and any mispricing between an index and an underlying asset is quickly traded by arbitrageurs. At this moment also, the increase in volume is caused by traders rolling over positions to the next contract or, in the case of equity index futures, purchasing underlying components of those indexes to hedge against current index positions. On the expiry date, a European equity arbitrage trading desk in London or Frankfurt will see positions expire in as many as eight major markets almost every half an hour. Pricing The situation where the price of a commodity for future delivery is higher than the spot price, or where a far future delivery price is higher than a nearer future delivery, is known as contango. The reverse, where the price of a commodity for future delivery is lower than the spot price, or where a far future delivery price is lower than a nearer future delivery, is known as backwardation. When the deliverable asset exists in plentiful supply, or may be freely created, then the price of a future is determined via arbitrage arguments. The forward price represents the expected future value of the underlying discounted at the risk free rate—as any deviation from the theoretical price will afford investors a riskless profit opportunity and should be arbitraged away; see rational pricing of futures. Thus, for a simple, non-dividend paying asset, the value of the future/forward, F(t), will be found by compounding the present value S(t) at time t to maturity T by the rate of risk-free return r. or, with continuous compounding This relationship may be modified for storage costs, dividends, dividend yields, and convenience yields. In a perfect market the relationship between futures and spot prices depends only on the above variables; in practice there are various market imperfections (transaction costs, differential borrowing and lending rates, restrictions on short selling) that prevent complete arbitrage. Thus, the futures price in fact varies within arbitrage boundaries around the theoretical price. The above relationship, therefore, is typical for stock index futures, treasury bond futures, and futures on physical commodities when they are in supply (e.g. on corn after the harvest). However, when the deliverable commodity is not in plentiful supply or when it does not yet exist, for example on wheat before the harvest or on Eurodollar Futures or Federal Funds Rate futures (in which the supposed underlying instrument is to be created upon the delivery date), the futures price cannot be fixed by arbitrage. In this scenario there is only one force setting the price, which is simple supply and demand for the future asset, as expressed by supply and demand for the futures contract. In a deep and liquid market, this supply and demand would be expected to balance out at a price which represents an unbiased expectation of the future price of the actual asset and so be given by the simple relationship With this pricing rule, a speculator is expected to break even when the futures market fairly prices the deliverable commodity. In a shallow and illiquid market, or in a market in which large quantities of the deliverable asset have been deliberately withheld from market participants (an illegal action known as cornering the market), the market clearing price for the future may still represent the balance between supply and demand but the relationship between this price and the expected future price of the asset can break down. Futures contracts and exchanges There are many different kinds of futures contract, reflecting the many different kinds of tradable assets of which they are derivatives:              Foreign exchange market Money market Bond market Equity index market Soft Commodities market Trading on commodities began in Japan in the 18th century with the trading of rice and silk, and similarly in Holland with tulip bulbs. Trading in the US began in the mid 19th century, when central grain markets were established and a marketplace was created for farmers to bring their commodities and sell them either for immediate delivery (also called spot or cash market) or for forward delivery. These forward contracts were private contracts between buyers and sellers and became the forerunner to today's exchange-traded futures contracts. Although contract trading began with traditional commodities such grains, meat and livestock, exchange trading has expanded to include metals, energy, currency and currency indexes, equities and equity indexes, government interest rates and private interest rates. Contracts on financial instruments was introduced in the 1970s by the Chicago Mercantile Exchange (CME) and these instruments became hugely successful and quickly overtook commodities futures in terms of trading volume and global accessibility to the markets. This innovation led to the introduction of many new futures exchanges worldwide, such as the London International Financial Futures Exchange in 1982 (now Euronext.liffe), Deutsche Terminbörse (now Eurex) and the Tokyo Commodity Exchange (TOCOM). Today, there are more than 75 futures and futures options exchanges worldwide trading to include:              Chicago Board of Trade (CBOT) -- Interest Rate derivatives (US Bonds); Agricultural (Corn, Soybeans, Soy Products, Wheat); Index (Dow Jones Industrial Average); Metals (Gold, Silver) Chicago Mercantile Exchange -- Currencies, Agricultural (Pork, Cattle, Butter, Milk); Index (NASDAQ, S&P, etc); Various Interest Rate Products ICE Futures - the International Petroleum Exchange trades energy including crude oil, heating oil, natural gas and unleaded gas and merged with IntercontinentalExchange (ICE) to form ICE Futures. Euronext.liffe Sydney Futures Exchange London Commodity Exchange - softs: grains and meats. Inactive market in Baltic Exchange shipping. Tokyo Commodity Exchange TOCOM Intrade (unregulated) London Metal Exchange - metals: copper, aluminum, lead, zinc, nickel and tin. New York Board of Trade - softs: cocoa, coffee, cotton, orange juice, sugar New York Mercantile Exchange - energy and metals: crude oil, gasoline, heating oil, natural gas, coal, propane, gold, silver, platinum, copper, aluminum and palladium Futures exchange Who trades futures? Futures traders are traditionally placed in one of two groups: hedgers, who have an interest in the underlying commodity and are seeking to hedge out the risk of price changes; and speculators, who seek to make a profit by predicting market moves and buying a commodity "on paper" for which they have no practical use. Hedgers typically include producers and consumers of a commodity. For example, in traditional commodities markets farmers often sell futures contracts for the crops and livestock they produce to guarantee a certain price, making it easier for them to plan. Similarly, livestock producers often purchase futures to cover their feed costs, so that they can plan on a fixed cost for feed. In modern (financial) markets, "producers" of interest rate swaps or equity derivative products will use financial futures or equity index futures to reduce or remove the risk on the swap. The social utility of futures markets is considered to be mainly in the transfer of risk, and increase liquidity between traders with different risk and time preferences, from a hedger to a speculator for example. Options on futures In many cases, options are traded on futures. A put is the option to sell a futures contract, and a call is the option to buy a futures contract. For both, the option strike price is the specified futures price at which the future is traded if the option is exercised. See the Black model, which is the most popular method for pricing these option contracts. Futures Contract Regulations All futures transactions in the United States are regulated by the Commodity Futures Trading Commission (CFTC), an independent agency of the United States Government. The Commission has the right to hand out fines and other punishments for an individual or company who breaks any rule. Although by law the commission regulates all transactions, each exchange can have its own rule, and under contract can fine companies for different things or extend the fine that the CFTC hands out. The CFTC publishes weekly reports containing details of the open interest of market participants for each market-segment, which has more than 20 participants. These reports are released every Friday (including data from the previous Tuesday) and contain data on open interest split by reportable and non-reportable open interest as well as commercial and non-commercial open interest. This type of report is referred to as 'Commitments-Of-Traders'-Report, COT-Report or simply COTR. What is a Hedge? In finance, a hedge is an investment that is taken out specifically to reduce or cancel out the risk in another investment. Hedging is a strategy designed to minimize exposure to an unwanted business risk, while still allowing the business to profit from an investment activity. Typically, a hedger might invest in a security that he believes is under-priced relative to its "fair value" (for example a mortgage loan that he is then making), and combine this with a short sale of a related security or securities. Thus the hedger doesn't care whether the market as a whole goes up or down in value, only whether the under-priced security appreciates relative to the hedge. Holbrook Working, a pioneer in hedging theory, called this strategy "speculation in the basis," where the basis is the difference between the 's theoretical value and its actual value (or between spot and futures prices in Working's time). Some form of risk taking is inherent to any business activity. Some risks are considered to be "natural" to specific businesses, such as the risk of oil prices increasing or decreasing is natural to oil drilling and refining firms. Other forms of risk are not wanted, but cannot be avoided without hedging. Someone who has a shop, for example, can take care of natural risks such as the risk of competition, of poor or unpopular products, and so on. The risk of the shopkeeper's inventory being destroyed by fire is unwanted, however, and can be hedged via a fire insurance contract. Not all hedges are financial instruments: a producer that exports to another country, for example, may hedge its currency risk when selling by linking its expenses to the desired currency. Example hedge A stock trader believes that the stock price of FOO, Inc., will rise over the next month, due to this company's new and efficient method of producing widgets. He wants to buy FOO shares to profit from their expected price increase. But FOO is part of the highly volatile widget industry. If the trader simply bought the shares based on his belief that the FOO shares were underpriced, the trade would be a speculation. Since the trader is interested in the company, rather than the industry, he wants to hedge out the industry risk by short selling an equal value (number of shares x price) of the shares of FOO's direct competitor, BAR. If the trader were able to short sell an asset whose price had a mathematically defined relation with FOO's stock price (for example a call option on FOO shares) the trade might be essentially riskless and be called an arbitrage. But since some risk remains in the trade, it is said to be "hedged." The first day the trader's portfolio is:              Long 1000 shares of FOO at $1 each Short 500 shares of BAR at $2 each (Notice that the trader has sold short the same value of shares). On the second day, a favorable news story about the widgets industry is published and the value of all widgets stock goes up. FOO, however, because it is a stronger company, goes up by 10%, while BAR goes up by just 5%:              Long 1000 shares of FOO at $1.10 each — $100 profit Short 500 shares of BAR at $2.10 each — $50 loss (In a short position, the investor loses money when the price goes up) The trader might regret the hedge on day two, since it reduced the profits on the FOO position. But on the third day, an unfavorable news story is published about the health effects of widgets, and all widgets stocks crash -- 50% is wiped off the value of the widgets industry in the course of a few hours. Nevertheless, since FOO is the better company, it suffers less than BAR: Value of long position:              Day 1 — $1000 Day 2 — $1100 Day 3 — $550 => $450 loss Value of short position:              Day 1 — $1000 Day 2 — $1050 Day 3 — $525 => $475 profit Without the hedge, the trader would have lost $450. But the hedge - the short sale of BAR - gives a profit of $475, for a net profit of $25 during a dramatic market collapse. Types of hedging The example above is a "classic" sort of hedge, known in the industry as a "pairs trade" due to the trading on a pair of related securities. As investors became more sophisticated, along with the mathematical tools used to calculate values, known as models, the types of hedges have increased greatly. In general, however, all hedge strategies look for a "spread" between market value and theoretical or "true" value, and attempt to extract profits when the values diverge. Natural hedges Many hedges do not involve exotic financial instruments or derivatives. A natural hedge is an investment that reduces the undesired risk by matching cash flows, (for example) revenues and expenses. For example, an exporter to the United States faces a risk of changes in the value of the U.S. dollar, and could choose to open a production facility in that market to match its expected sales revenue to its cost structure. Another example is a company that opens a subsidiary in another country and borrows in the local currency to finance its operations, even though the local interest rate may be more expensive than in its home country: by matching the debt payments to expected revenues in the local currency, the parent company has reduced its foreign currency exposure. Similarly, an oil producer may expect to receive its revenues in U.S. dollars, but face costs in a different currency; it would be applying a natural hedge if it agreed to, for example, pay bonuses to employees in U.S. dollars. One of the oldest means of hedging against risk is the purchase of protection against accidental property damage or loss, personal injury, or loss of life. See Insurance. Contract for differences A Contract for Differences (CfD) is a two way hedge or swap contract that allows the seller and purchaser to fix the price of a volatile commodity. For instance, consider a deal between an electricity producer and an electricity retailer who both trade through an electricity market pool. If the producer and the retailer agree to a strike price of $50 per MWh, for 1 MWh in a trading period, and if the actual pool price is $70, then the producer gets $70 from the pool but has to rebate $20 (the "difference" between the strike price and the pool price) to the retailer. Conversely, the retailer pays the difference to the producer if the pool price is lower than the agreed upon contractual strike price. In effect, the pool volatility is nullified and the parties pay and receive $50 per MWh. However, the party who pays the difference is "out of the money" because without the hedge they would have received the benefit of the pool price. Categories of hedgeable risk For the following categories of the risk, for exporters, that the value of their accounting currency will fall against the value of the importers, also known as volatility risk.              Interest rate – the risk, for those who borrow, that interest rates will rise, (or for those who lend, that they fall) Equity – the risk, for those whose assets are equity holdings, that the value of the equity falls Futures contracts and forward contracts are a means of hedging against the risk of adverse market movements. These originally developed out of commodity markets in the nineteenth century, but over the last fifty years there has developed a huge global market in products to hedge financial market risk. One of the oldest means of hedging against risk is the purchase of protection against accidental property damage or loss, personal injury, or loss of life. Hedging credit risk Credit risk is the risk that money owing will not be paid by an obligor. Since credit risk is the natural business of banks, but an unwanted risk for commercial traders, naturally an early market developed between banks and traders: that involving selling obligations at a discounted rate. See for example forfeiting, bill of lading, or discounted bill. More recent forms of hedging have become available in the credit derivatives market. Hedging currency risk (a.k.a. Foreign Exchange Risk, or FX Risk) Currency hedging is used both by financial investors to parse out the risks they encounter when investing overseas, as well as by non-financial actors in the global economy for whom multi-currency activities is a necessary evil rather than a desired state of exposure. For example, cost of labor variables dictate that much of the simple commoditized manufacturing in the global economy today goes on in China and south-east Asia (Taiwan, Philippines, Vietnam, Indonesia, etc.). The cost benefit of moving manufacturing to outsource providers outweighs the uncertainties of never having done business in foreign countries, so many businesses are jumping into the fray and becoming part of the globalization trend of moving manufacturing operations overseas. The benefits of doing this however, come with numerous risks that were never a problem when manufacturing was done at home--among them currency risk. If your cost of manufacturing goods in another country is denominated in a currency other than the one that you sell the finished goods in, there is the risk that the currency "volatility" alone may destroy the margin between what you pay to produce your product, and what you collect when you sell it (note you may be selling your product in a foreign country too, so you can hedge against the currency risk on this side as well!). So when you convert all costs on the production side, and all sales receipts from the retail side, back into your home currency, you may be alarmed to find that your profits have diminished significantly, or disappeared altogether. That's currency risk-- it is germane to doing business globally, but entirely independent of your specific business or products. Currency hedging then, is the insurance you can purchase to limit the impact this unpredictable risk has on your business, the same way Fire or Hurricane insurance protects your physical premises from unexpected events beyond your control. Currency hedging is not always available, but is readily found at least in the major currencies of the world economy, the growing list of which qualify as major liquid markets beginning with the "Major Eight" (USD, GBP, EUR, JPY, CHF, HKD, AUD, CAD), which are also called the "Benchmark Currencies", and expands to include several others by virtue of liquidity. The currencies beyond the Major 8 can most reliably be identified by checking to see which are included within the "Continuous-Linked Settlement Bank" "(CLS Bank)", which handles a growing percentage of the globe's daily settlement volume between currencies. Currency hedging, like many other forms of financial hedging, can be done in two primary ways, with standardized contracts, or with customized contracts (also known as over-the-counter or OTC). The financial investor may be a hedge fund that decides to invest in a company in, for example, Brazil, but does not want to necessarily invest in the Brazilian currency. The hedge fund can separate out the credit risk (i.e. the risk of the Company defaulting), from the currency risk of the Brazilian Real by "hedging" out the currency risk. In effect, this means that the investment is effectively a USD investment, in Brazil. Hedging allows the investor to transfer the currency risk to someone else who does want a position in the currency. The hedge fund has to pay this other investor to take on the currency exposure, similar to insuring against other types of events. As with other types of financial products, hedging may allow economic activity to take place that would otherwise not have been possible (as a loan, for example, may allow an individual to purchase a home that would be "too expensive". The increased investment is assumed in this way to raise economic efficiency. Related concepts Forwards A contracted agreement specifying an amount of currency to be delivered, at an exchange rate decided on the date of contract. Forward Rate Agreement A contract agreement specifying an interest rate amount to be settled, at a pre-determined interest rate on the date of the contract. This is also known as FRAs. Currency option A contract that gives the owner the right but not the obligation to take (call option) or deliver (put option) a specified amount of currency, at an exchange rate decided at the date of purchase. Non-Deliverable Forwards (NDF) A strictly risk-transfer financial product similar to a Forward Rate Agreement, but only used where monetary policy restrictions on the currency in question limit the free flow and conversion of capital. NDFs are, as the name suggests, not delivered, but rather, these are settled in a reference currency, usually USD or EUR, where the parties exchange the gain or loss that the NDF instrument yields, and if the buyer of the controlled currency truly needs that hard currency, he can take the reference payout and go to the government in question and convert the USD or EUR payout. The insurance effect is the same, it's just that the supply of insured currency is restricted and controlled by government. See Capital Control. The simple concept that two similar investments in two different currencies, ought to yield the same return. If the two similar investments are not at face value offering the same interest rate return, the difference should conceptually be made up by changes in the exchange rate over the life of the investment. IRP basically gives you the math to calculate a projected or implied forward rate of exchange. This calculated rate is not and cannot be considered a prediction or forecast, but rather is the arbitrage-free calculation for what the exchange rate is implied to be in order for it to be impossible to make a free profit by converting money to one currency, investing it for a period, then converting back and making more money than if you had invested in the same opportunity in the original currency. Hedging equity & equity futures Equity in a portfolio can be hedged by taking an opposite position in futures. To protect your stock picking against systematic market risk, you short futures when you buy equity. Or long futures when you short stock. There are many ways to hedge, and one is the market neutral approach. In this approach, an equivalent dollar amount in the stock trade is taken in futures. Buy 10000 GBP worth of Vodafone and short 10000 worth of FTSE futures. Another method to hedge is the beta neutral. Beta is the historical correlation between a stock and an index. If the beta of a Vodafone is 2, then for a 10000 GBP long position in Vodafone you will hedge with a 20000 GBP equivalent short position in the FTSE futures. Futures hedging If you primarily trade in futures, you hedge your futures against synthetic futures. A synthetic in this case is a synthetic future comprising a call and a put position. Long synthetic futures means long call and short put at the same expiry price. So if you are long futures in your trade you can hedge by shorting synthetics, and vice versa. Gold as an Investment Gold was in use as a form of money, in one form or another, at least from 560 BC until the end of the Bretton Woods system in 1971. It was used as a store of value both by individuals and countries for much of that period. Since the end of the Bretton Woods system in 1971, gold has largely lost its role as a form of currency. It is still considered by many as a store of value and a safe haven in times of crisis. Gold as a financial asset Gold and other precious metals are assets that are both tangible and liquid (i.e. easily traded), unlike real estate which is tangible but not liquid, or company shares and bonds which are liquid but not tangible. Considering its high density and high value per unit mass, storing and transporting gold is very easy. Gold also does not corrode. Historically, it was also very easy to verify that an offered coin had the density of gold through the use of Archimedes' principle. Today, however, some metals are denser than gold yet cheaper. While some think gold deserves special treatment based on its cultural value and use as money, others consider gold a commodity, like copper or lead. Buying physical gold Some people, sometimes referred to as gold bugs, buy gold which they retain in their physical possession in the belief that should the monetary and financial system collapse, gold would still be considered valuable. Other reasons for doing so include the ease of hiding the gold from others, such as family members or tax authorities. Buying gold for the gold price Some people buy gold not in their physical possession, but stored for them by a bank, through a gold exchange-traded fund, or in the form of a gold certificate; their motivations also apply to those who hold gold physically. Some asset allocation strategies use exposure to gold as a form of diversification, though the inclusion of gold in model portfolios created by major financial advisory companies is no longer common. Gold may be included in portfolios as an insurance against unforeseen calamities which may affect the price of other investments negatively. From the perspective of a currency trader, one can view gold as simply another form of currency and that buying gold is a process analogous to currency speculation. For example, when it is expected that the dollar will soon decline against other currencies, for an investor who normally covers his expenses in dollars, buying gold or other currency before the decline and selling it afterwards could realize a profit. Additionally speculators attempt to make a profit by predicting the gold price, and detecting market trends they believe will show them the future price direction. For centuries gold has been used as a store of value. When viewed from the historical perspective of a multicentury time frame, no other investment has the wealth preserving power of gold. Other assets are dependent upon a certain government or political climate to retain value, appreciate, and not be excessively taxed, but gold is largely independent of political climate (with the exception of laws specifically confiscating gold as Franklin Roosevelt did). Gold investors believe that political and economic turmoil may have a negative influence on the value of their other investments, but the opposite effect on the value of gold. Types of gold investor Investors may buy gold as an investment because they are either one of, or a combination of, the following: Asset allocator Gold, a popular investment and part of many asset allocation models in the 1970s, has largely been abandoned since the 1980s. However, some asset allocators and investment advisors are again advocating it. Cacheurs (people hiding wealth) Physical gold can be anonymous. Gold is a very soft metal, meaning that (assuming the gold is in the physical possession of the owner) the bar's serial number can be altered or obliterated with a hammer and chisel. If the bullion's ownership is not recorded anywhere the gold can become untraceable. Cacheurs seek to hide part of their wealth from their spouse, family, tax authorities, creditors, thieves, invaders or others. The density of gold allows them to store a large value in a very small space, without fear of depreciation or erosion over a long period of time. Central banks Although central banks as a whole have been net sellers of gold over the last few years, some have been buyers. A central bank may invest in gold in order to ensure that part of its reserves are held in a liquid and tangible form which could be used quickly in times of crisis. Most central banks keep the majority of their reserves in USD, but like any other investor diversification makes sense. The dollar is a liability of the United States of America. Its value thus depends on the USA honoring it in exchange for goods or services. Central banks may fear that in a time of crisis, or if there were a USD crisis, dollars may not prove to be useful. This might happen if sanctions or exchange controls exist. The banking system may make it hard to move USD if restrictions were imposed. Currency speculator Since the main gold market is priced in US dollars, speculators who believe the dollar will decline may buy gold. They think that if the dollar declines, the gold price will remain constant in other currencies, thus rising in terms of the U.S. dollar. Gold may also be bought if they feel that a different currency will decline, since they expect the dollar price to be stable, but the foreign currency price to rise. Financial institutions Banks and funds may invest in gold to protect themselves against potential loss on gold linked products that they have issued. These may include gold certificates, options, forward contracts, gold linked notes and other products containing a derivative feature linked to the gold price. Gold bug Gold bugs, in the traditional sense, believe in, fear, or even hope for another Great Depression or Armageddon, and believe that by holding gold they will survive and prosper. Hoarder Some investors consider gold as a long-term store of value and invest in it to maintain their purchasing power. By buying gold and hanging on for the long term, they believe they can keep their wealth intact. Libertarian Libertarians may use privately issued digital gold currency, in preference to fiat currency, for reasons such as lack of trust in fractional-reserve banking or monetary policy. Petroleum speculator Some have speculated that there is a correlation between the price of oil and the price of gold. The general rule is that the price of an ounce of gold is 10 times the price of a barrel of oil. This is in part because mining gold is an energy intensive process, the cost to mine an ounce of gold will increase as the price of oil increases and in part because they are both commodities and often affected by the same economic stimuli. Buying gold is one way for a speculator to bet on the price of oil going up. Portfolio hedger Similar to asset allocators, except the purpose of the investment is to hedge against rapid inflation or unforeseen calamities which may affect other investments negatively. These individuals believe that certain events, if they occur (e.g. war or economic crisis), may have a negative influence on the value of their other investments, but the opposite effect on the value of their gold. Speculator Speculators attempt to make a profit by predicting the gold price. They may think that macroeconomics are affecting the demand for gold, or believe they have detected a market trend showing them the future price direction. Espionage The survival kit issued to US and British Fighter Pilots includes gold soverigns to help bribe local officials independent of local currencies. In the James Bond books by Ian Fleming, James regularly traveled wearing a belt containing 20 gold sovereigns. Gold price The usual benchmark for the price of gold is known as the London Gold Fixing, a twice-daily (telephone) meeting of representatives from five bullion-trading firms. Furthermore, there is active gold trading based on the intra-day spot price, derived from gold-trading markets around the world as they open and close throughout the day. Factors influencing the gold price Today, like all investments and commodities, the price of gold is ultimately driven by supply and demand, including hoarding and dis-hoarding. Unlike most other commodities, the hoarding and dis-hoarding plays a much bigger role in affecting the price, since almost all the gold ever mined still exists and is potentially able to come on to the market at the right price. Given the huge quantity of above ground hoarded gold, compared to the annual production, the price of gold is mainly affected by changes in sentiment, rather than changes in annual production or gold jewelry demand. Central banks and the International Monetary Fund play an important role in the gold price. At the end of 2004 central banks and official organizations held 19 percent of all above ground gold as official gold reserves . The Washington Agreement on Gold (WAG) which dates from September 1999, limits gold sales by its members (Europe, United States, Japan, Australia, Bank for International Settlements and the International Monetary Fund) to less than 400 tons a year. European central banks, such as the Bank of England and Swiss National Bank, have been key sellers of gold over this period. In November 2005, Russia, Argentina and South Africa expressed interest in increasing their gold holdings. Other than Russia, these are not viewed as significant central banks, but any move by Japan, China or South Korea to do the same would be seen as significant. Currently the United States Federal Reserve has 16% of its assets in gold, whereas China holds approximately 1% in gold. Although central banks do not generally announce gold purchases in advance, some such as Russia have expressed interest in growing their gold reserves again as of late 2005. In early 2006, China, who only holds 1.3% of its reserves in gold, announced that it was looking for ways to improve the returns on its official reserves. Many bulls took this as a thinly veiled signal that gold would play a larger role in China's reserves, which they hope will push up the price of gold. Inflation fears have also been influential in the past. The October 2005 consumer price index level of 199.2 (1982-84=100) was 4.3 percent higher than in October 2004. During the first ten months of 2005, the CPI-U rose at a 4.9 percent seasonally adjusted annual rate (SAAR). This compares with an increase of 3.3 percent for all of 2004. Bank failures When dollars were fully convertible into gold, both were regarded as money. However, most people preferred to carry around paper banknotes rather than the somewhat heavier and less divisible gold coins. If people feared their bank would fail, a bank run might have been the result. This is what happened in the USA during the Great Depression of the 1930s, leading President Roosevelt to impose a national emergency and to outlaw the holding of gold by US citizens. Inflation Paper currencies pose a risk of being inflated, possibly to the point of hyperinflation. Historically, currencies have lost their value in this way over time. In times of inflation, people seek to protect their savings by purchasing liquid, tangible assets that are valued for some other purpose. Gold is in this respect a good candidate, since producing more is far more difficult than issuing new fiat currency, and its value does not rely on any particular government's health. Low or negative real interest rates Gold has a long history of being an inflation proof investment. During times of low or negative real interest rates when significant inflation is present and interest rates are relatively low investors seek the safe haven of gold to protect their capital. A prime example of this is the period of Stagflation that occurred during the 1970s and which led to an economic bubble forming in precious metals. In times of national crisis, people fear that their assets may be seized, and the currency may become worthless. They see gold as a solid asset which will always buy food or transportation. Thus in times of great uncertainty, particularly when war is feared, the demand for gold rises. Production According to the World Gold Council, annual gold production over the last few years has been close to 2,500 tons. However, the effects of official gold sales (500 tons), scrap sales (850 tons), and producer hedging activities take the annual gold supply to around 3,500 tons. Demand About 3,000 tons goes into jewelry or industrial/dental production, and around 500 tons goes to retail investors and exchange traded gold funds. Some investors consider that supply and demand factors are less relevant than with other commodities since most of the gold ever mined is still above ground and available for sale at a price. However, supply and demand do play a role. According to the World Gold Council, gold demand rose 29% in the first half of 2005. The increase came mainly from the launch of a gold exchange-traded fund, but also from jewelry. Gold demand was at an all time record. Demand from the electronics industry is rising by 11% a year, jewelry by 19%, and industrial and dental by 21%. Methods of investing in gold Investment in gold can be done directly through ownership, or indirectly through certificates, accounts, shares, futures etc. Other than storing gold in one's own safe deposit box at a bank, gold can also be placed in allocated (also known as non-fungible), or unallocated (fungible or pooled) storage with a bank or dealer. In the case of the latter going bankrupt, the client will be unable to claim the gold and would become a general creditor, whereas gold held in allocated storage should be returned to the client in full. However even with gold held in allocated storage, many gold bugs would still choose their storage provider carefully, making sure of high net worth, with some preferring an offshore bank or storage facility. Gold bar The most traditional way of investing in gold is by buying bullion gold bars. In some countries, like Austria, Liechtenstein and Switzerland, these can easily be bought or sold "over the counter" of the major banks. Alternatively, there are bullion dealers which provide the same service. Bars are available in various sizes, for example in Europe these would typically be in 12.5kg or 1kg bars (1kg = 32.15072 Troy ounces), although many other weights exist, such as the Tael, the 10oz or 1oz bar. Gold coin Buying gold coins is a popular way of holding gold. Typically bullion coins are priced according to their weight, with little or no premium above the gold price. Amongst the most popular bullion gold coins are the South African Krugerrand, the Canadian Gold Maple Leaf, the American Gold Eagle, the American Gold Buffalo, and the Australian Gold Nugget, all of which contain exactly one troy ounce of gold each. Other popular one ounce bullion coins include the Chinese Panda, and the Austrian Philharmonic. Gold coins which are used as bullion coins include the British gold sovereign and the Swiss Vreneli, but these are much lighter than one ounce. Again the large Swiss and Liechtenstein banks will buy and sell these coins over the counter. Also available is the gold dinar which has Islamic significance. Gold certificate A certificate of ownership can be held by gold investors, instead of storing the actual gold bullion. Gold certificates allow investors to buy and sell the security without the hassles associated with the transfer of actual physical gold. The Perth Mint Certificate Program (PMCP) is the only government guaranteed gold certificate program in the world. Some argue that it is not the same as owning the real thing, as a certificate is just a piece of paper, especially in a war, crisis, or credit collapse. Most Swiss banks offer gold accounts where gold can be instantly bought or sold just like any foreign currency. Digital gold currency accounts and the BullionVault gold exchange work on a similar principle. Gold accounts are typically backed through unallocated or allocated gold storage. Different accounts impose varying levels of intermediation between the client and their gold, for example through bailment or within a trust. Bailment is the legal action of a client entrusting their physical property to another party for safekeeping, and paying for the service. Gold exchange-traded fund Gold exchange-traded funds (or GETFs) are traded like shares on the major stock exchanges including London, New York and Sydney. The first gold ETF, Gold Bullion Securities (ticker symbol "GOLD"), was launched in March 2003 on the Australian Stock Exchange, and originally represented exactly one-tenth of an ounce of gold. Due to costs, the amount of gold in each certificate is now slightly less. They are fully backed by gold which is both deposited and insured. The inventory of gold is managed by buying and selling gold on the open market. Gold ETFs represent an easy way to gain exposure to the gold price, without the hassle of buying gold directly. Typically a small commission is charged for trading in gold ETFs and a small annual storage fee is charged. The annual expenses of the fund such as storage, insurance, and management fees are charged by selling a small amount of gold represented by each certificate, so the amount of gold in each certificate will gradually decline over time. In some countries, gold ETFs represent a way to avoid the sales tax or the VAT which would apply to physical gold coins and bars. Economies of scale, liquidity, and ease of purchase and sale make ETFs an increasingly popular method of investing in gold. Gold mining companies These do not represent gold at all, but rather are shares in gold mining companies. If the gold price rises, the profits of the gold mining company could be expected to rise and as a result the share price may rise. However, there are many factors to take into account and it is not always the case that a share price will rise when the gold price increases. Some of the following questions might be relevant before investing in the shares of a gold mining company: Has the company hedged the gold price i.e. already sold part of its future gold production through forward sales? Is the company already producing gold, or is it mainly exploring for gold? Does the company make a profit? How many years of ore reserves are left in the mines before they have to be closed down? What P/E ratio and dividend yield does the company have now and in the following years? Are the mines subject to political or economic risks? Unlike gold bullion, which is regarded as a safe haven asset, gold shares or funds are regarded as high risk and extremely volatile. This volatility is due to the inherent leverage in the mining sector. For example, if you own a share in a gold mine where the costs of production are $300 per ounce and the price of gold is $600, the mine's profit margin will be $300. A 10% increase in the gold price to $660 per ounce will push that margin up to $360, which actually represents a 20% increase in the mine's profitability, and potentially a 20% increase in the share price. Conversely, a 10% fall in the gold price to $540 will decrease that margin to $240, which actually represents a 20% fall in the mine's profitability, and potentially a 20% decrease in the share price. The amplification of gold mining profits during periods of rising prices can cause a gold rush. In order to reduce this volatility many gold mining companies hedge the gold price up to 18 months in advance. This provides the mining company and investor with less exposure to short term gold price fluctuations, but reduces potential returns when the gold price is rising. The AMEX Gold BUGS Index is comprised of the largest unhedged gold stocks listed on AMEX (BUGS - Basket of Unhedged Gold Stocks). As of January 2007, the two largest stocks listed in the index were Goldcorp and Newmont Mining. The AMEX Gold BUGS Index (ticker symbol "HUI") has outperformed general gold mining stocks, represented by the Philadelphia Gold and Silver Index ("XAU"), over recent years. Instead of personally selecting individual companies, some investors prefer spreading their risk by investing in gold mining mutual funds such as the Gold & General Fund by Merrill Lynch, or exchange-traded funds such as the Market Vectors Gold Miners ETF (NYSE: GDX) by Van Eck Global which tracks the Amex Gold Miners Index ("GDM"). Spread betting Firms such as Cantor Index and IG Index, both from the UK, offer the ability to take a bet on the price of gold through what is known as a spread bet. Say the price of December gold was quoted at $475.10 to $476.10 per troy ounce. An investor who thought the price would go down would "sell" at $475.10. The minimum bet is $2 per point, (i.e. equivalent to 200 ounces). If the price of gold finished at $480.10 when the seller closed their bet, the loss would be 500 points multiplied by the bet of $2 making a loss of $1000 in total. No commissions or taxes are levied in the UK on spread betting. Derivatives Derivatives, such as gold forwards, futures and options, currently trade on various exchanges around the world and over-the-counter (OTC) directly in the private market. In the U.S., gold futures are primarily traded on the New York Commodities Exchange (COMEX), a division of the New York Mercantile Exchange (NYMEX), and Chicago Board of Trade (CBOT). In November 2006, the National Commodity and Derivatives Exchange (NCDEX) in India introduced 100 gram gold futures. Fundamental analysis Investors may base their investment decisions on fundamental analysis. These investors analyze the macroeconomic situation, which includes international economic indicators, such as GDP growth rates, inflation, interest rates, productivity, and energy prices. They would also analyze the total global gold supply versus demand. Over 2005 the World Gold Council estimated total global gold supply to be 3,859 tons and demand to be 3,754 tons, giving a surplus of 105 tons. Others point out that total mine production is only about 2500 tons each year, leaving a 1300 ton deficit that must be made up by central bank or private sales. While gold production is unlikely to change in the near future, supply and demand due to private ownership is highly liquid and subject to rapid changes. This makes gold very different from almost every other commodity. Technical analysis Investors may base their investment decisions solely on, or partly on, technical analysis. Typically this involves analyzing past price patterns and market trends, in order to speculate on the future price. Some investors try to predict the future gold price by tracking the ratio between the Dow Jones 30 and the gold price. The Dow/gold ratio has fluctuated from a low of 1.0 in 1980 (i.e. the Dow and gold price were the same) to a high of 43.7 in 1999 (i.e. the Dow was 43.7 times the gold price). Using leverage Bullish investors may choose to leverage their position by borrowing money against their existing gold assets and then purchasing more gold on account with the loaned funds. In order to keep the cost of debt to a minimum, these individuals would normally seek a loan in the currency with the lowest LIBOR, which as of April 2006 was the Japanese yen. This technique is referred to as a "yen-gold carry trade". Leverage is also an integral part of buying gold derivatives. Leverage may increase investment gains but also increases risk, as if the gold price decreases the investor may be subject to a margin call. Historically increases in the supply of paper money or fiat currency through increased money supply would cause the demand for gold to increase. There was a time when gold was money and vice versa. If citizens felt that there may be insufficient gold to cover the paper money in circulation, they would queue up at the bank to change their paper currency back into gold. However, since the gold standard was ended on August 15, 1971, governments have been free to print as much money as they choose, without fear that their populations will come knocking on the central bank's door demanding to change their paper money back into gold. In January 1959 US M3 money supply was $288.8 billion, and the official gold reserves of the United States was then 17,335.1 tons, or 557,336,000 ounces (there are 32,150.7 troy ounces in a ton). That means that in 1959, there were $518 in circulation for every ounce of gold reserves held by the USA. Although the theoretical price should then have been $518 per ounce, the actual price, as fixed under the gold standard was only $35 an ounce. By August 2005, the US M3 money supply had risen to $9,873.9 billion, whilst at the same time the Official Gold Holdings of the United States had fallen to just 8,133.5 tons, or 261.50 million Troy Ounces. This means that today, in 2005, there are $37,831 in circulation for every troy ounce of gold held by the United States. However, this increase of 75 times in the ratio of central bank gold holdings to debt does not allow for the fact that the gold standard was abandoned in 1971 and gold holdings have been deliberately and considerably reduced. Another far less dramatic way of looking at the same figures is this: In 1959 US government debt valued in gold was 8 billion Troy ounces, in 2005 US government debt was 20 billion oz gold - an increase of only 2.5 times. The above numbers show the falling influence of gold in today's monetary system. Gold bugs believe, or hope, that one day gold's importance will return as the printing of paper money gets out of control and we end in a hyper-inflationary fiat money collapse. The US Federal Reserve ceased publishing M3 data on 23 March 2006, with the last published data indicating a year-on-year growth rate of 8.23%. Central banks may see this as a reason to limit further increases in their reserves of dollars, and thus alternatives such as gold or the euro might be considered. Jon Nadler, an analyst at Kitco Bullion Dealers, said gold was still benefiting from August 30, 2006 release of the minutes to the last rate-setting meeting of the US Federal Reserve. The minutes to the August 8, 2006 meeting, at which the Federal Open Market Committee kept short-term interest rates unchanged for the first time since 2004, supported the view that US borrowing costs have peaked. Supply In 2001, it was estimated that all the gold ever mined totaled 145,000 tons, which would form a rectangular pyramid slightly less than 29m on a side. Global gold mine production is between 2,500 to 3,000 tons per year, which would mean that about 155,000 tons of gold would have been mined as of 2006, with a total value of $3.2 trillion at June 2006 prices. Bulls versus bears Many argue that gold's role in the world's monetary system has ended, and that it will never again represent the store of value that it once was. The gold price peaked at around $850/oz t ($27,300,000 per ton) in 1980, and in real terms is still well below that. However, since April 2001 the gold price has more than doubled in value against the US dollar, speculation circulates that this long secular bear market (or the Great Commodities Depression) has ended and a bull market has returned . Taxation Gold maintains a special position in the market with many tax regimes. For example, in the European Union the trading of recognized gold coins and bullion products is free of VAT. Silver, and other precious metals or commodities, do not have the same allowance. Other taxes such as capital gains tax may still apply for individuals, according to their jurisdiction. There is no capital gains tax in Switzerland. Scams and frauds Gold attracts its fair share of fraudulent activity. Some of the most common to be aware of are:              High Yield Investment Programs - HYIPs are usually just pyramid schemes dressed up with no real value underneath. Using gold in their prospectus makes them seem more solid and trustworthy. Metric Ton gold deals - Many emails circulate on the Internet for buyers or sellers of up to 10,000 MT. This is more gold than the US Federal Reserve owns. Often naive middlemen are drafted in as hopeful brokers, and usually mention mythical terms like 'Swiss Procedure' or 'FCO' (Full Corporate Offer). The end-game of these scams is unknown, but they probably just attempt to extract a small 'validation' sum out of the innocent buyer/seller from their hope of getting the big deal. See Advance fee fraud. Gold dust sellers - This scam persuades an investor there is real gold with a trial quantity, then eventually delivers brass filings or similar. Counterfeit gold coins. Shares in scam mining companies with no gold reserves, or potential of finding gold, as per the old saying "A gold mine is a hole in the ground with a liar on top."

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