Equity Securities: Chapter Overview
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Questions and Answers

What defines the bid-ask spread in securities trading?

  • The difference between the ask price and bid price of a security. (correct)
  • The difference between the highest and lowest prices a security has traded at.
  • The average price at which a security trades over a day.
  • The commission charged by brokerages for executing a trade.

    • In what scenarios are market orders considered most effective?

  • In a liquid market where the bid/ask spread is tight. (correct)
  • When a specific price target must be reached for execution.
  • When trading in thinly traded securities with high liquidity risk.
  • When the market is volatile and prices fluctuate often.

    • What is the primary risk associated with placing a market order?

  • Market orders can take longer to execute than limit orders.
  • Sellers may back out of transactions initiated by market orders.
  • The buyer may not be able to purchase stocks at the market price.
  • The execution price may not be favorable due to market fluctuations. (correct)

    • Which type of order explicitly indicates the price at which a buyer will purchase securities?

    <p>Limit Order</p> Signup and view all the answers

    How does the bid price in securities trading relate to the ask price?

    <p>The bid price is the highest price a buyer is willing to pay.</p> Signup and view all the answers

    What is a defining characteristic of a margin account compared to a cash account?

    <p>A margin account allows for borrowing against securities.</p> Signup and view all the answers

    Which of the following is NOT a characteristic of a market order?

    <p>It limits the price at which a trade can occur.</p> Signup and view all the answers

    Which of the following best describes the implications of holding a long margin position?

    <p>The investor must maintain a minimum balance to avoid margin calls.</p> Signup and view all the answers

    What is the primary risk associated with short selling in margin accounts?

    <p>The potential for unlimited losses if the stock price increases.</p> Signup and view all the answers

    Which order type allows an investor to set a maximum price for buying a security?

    <p>Limit order</p> Signup and view all the answers

    In margin account transactions, what typically happens during a margin call?

    <p>The investor is required to deposit additional funds or securities.</p> Signup and view all the answers

    What is the effect of price changes on long margin requirements?

    <p>Initial margin requirements are unaffected by price changes.</p> Signup and view all the answers

    Which of the following is NOT a method for executing trades in equity transactions?

    <p>Options trading</p> Signup and view all the answers

    What distinguishes a sell order from a buy order?

    <p>A buy order is executed at market value regardless of price.</p> Signup and view all the answers

    Which statement correctly defines short positions in margin trading?

    <p>Short positions involve borrowing shares to sell them in anticipation of price declines.</p> Signup and view all the answers

    What is the maximum loan amount a dealer can provide when shares trade at $1.85 per share?

    <p>40% of the market value</p> Signup and view all the answers

    If an investor purchases shares at $1.55 per share, what is the investor's required margin?

    <p>80% of the market value</p> Signup and view all the answers

    What does the term 'margin' refer to in a long position?

    <p>The amount put up by the client</p> Signup and view all the answers

    What happens when the price of a security falls after establishing a long position?

    <p>The client must deposit additional funds</p> Signup and view all the answers

    What is required after a price drop that leads to a margin call?

    <p>Deposit additional money into the account</p> Signup and view all the answers

    What does 'excess margin' refer to?

    <p>The additional amount accessible due to a price rise</p> Signup and view all the answers

    What is the consequence of a security's price rising after purchasing on margin?

    <p>The client accesses additional funds</p> Signup and view all the answers

    What percentage of the market value can a dealer loan for a security eligible for reduced margin?

    <p>20%</p> Signup and view all the answers

    How is the minimum margin required calculated?

    <p>Initial cost of the transaction minus loan amount</p> Signup and view all the answers

    What criteria does CIRO use to determine eligibility for reduced margin?

    <p>High liquidity and low price volatility</p> Signup and view all the answers

    What is the minimum margin requirement for short sales of securities priced at $1.65?

    <p>80%</p> Signup and view all the answers

    If an investor shorts shares priced at $0.10, what margin must be deposited per share?

    <p>$0.25</p> Signup and view all the answers

    How much total value must an investor have in their account when shorting shares at $2.50?

    <p>150% of market value</p> Signup and view all the answers

    When shorting shares at a price of $1.10, what is the required margin percentage?

    <p>100%</p> Signup and view all the answers

    An investor shorts shares priced at $1.80. How much margin must they deposit?

    <p>60% of market value</p> Signup and view all the answers

    If an investor wishes to short securities that are eligible for reduced margin, what is the margin percentage they need to deposit?

    <p>30%</p> Signup and view all the answers

    When shorting a stock at $1.45, what percent margin is needed?

    <p>100%</p> Signup and view all the answers

    An investor shorts shares priced at $5.25. How much total account value must they maintain?

    <p>150% of market value</p> Signup and view all the answers

    For shares priced at $0.50, what is the required margin percentage?

    <p>100%</p> Signup and view all the answers

    When shorting a stock at a market price of $0.20, what is the required deposit per share?

    <p>$0.25</p> Signup and view all the answers

    What is the new margin requirement after the price increase of the security?

    <p>$10,500</p> Signup and view all the answers

    How much excess margin does the client have in their account after the calculations?

    <p>$2,000</p> Signup and view all the answers

    If the client withdraws the $2,000 excess margin from the account, what will happen to the amount they owe?

    <p>The amount owed will remain unchanged.</p> Signup and view all the answers

    What impact does the increase in collateral value have on the dealer's willingness to lend?

    <p>The dealer is willing to lend more.</p> Signup and view all the answers

    How is the client's original margin deposit factored into the calculations?

    <p>It is subtracted from the original cost to find excess margin.</p> Signup and view all the answers

    What happens to the borrowed amount if the client retains the excess margin in the account?

    <p>It remains at $12,500.</p> Signup and view all the answers

    What can the client do with the excess margin of $2,000?

    <p>Use it as additional margin or withdraw it.</p> Signup and view all the answers

    How is the amount the firm is willing to lend calculated?

    <p>It is 50% of the current market price of the security.</p> Signup and view all the answers

    What is the original cost of the ABC shares considered in this scenario?

    <p>$25,000</p> Signup and view all the answers

    What condition applies when the excess margin is available in the client's account?

    <p>It does not incur any interest charges.</p> Signup and view all the answers

    Study Notes

    Equity Transactions Overview

    • Equity transactions involve understanding cash accounts, margin accounts, long and short positions.
    • Margin account transactions and short selling have specific rules, techniques, and inherent risks.
    • Settlement processes and various order types for buying and selling securities are key components.

    Cash and Margin Accounts

    • Cash Account: Involves purchasing securities outright without borrowing funds.
    • Margin Account: Allows purchasing securities using borrowed money; investors must maintain a minimum margin.

    Margin Account Transactions

    • Margin reflects the client's equity in the account, determined by initial cost minus the loan amount.
    • Margin Call: Occurs when the security price drops, requiring clients to add funds to cover the deficit.
    • Excess Margin: Arises when the security value increases, allowing clients to withdraw or use additional available funds.

    Short Selling Requirements

    • Clients borrow stocks for short selling but are not loaned money; they must deposit additional funds.
    • Minimum margin requirements vary based on the price of the listed equity:
      • $2.00 and above: 50% of market value
      • $1.75 to $1.99: 60% of market value
      • $1.50 to $1.74: 80% of market value
      • $0.25 to $1.49: 100% of market value
      • Below $0.25: $0.25 per share

    Price Dynamics

    • Bid Price: Highest price a buyer is willing to pay for a stock.
    • Ask Price: Lowest price a seller will accept.
    • Bid-Ask Spread: The difference between bid and ask prices, affecting transaction costs.

    Types of Orders

    • Market Order: Executes a buy/sell at the current market price; ensures execution but not price certainty.
    • Limit Order: Sets a specific price for buying/selling, not executed until that price is met.
    • Day Order: Remains valid for a single trading day.
    • Good 'Til Canceled: Remains effective until executed or canceled by the investor.
    • Stop Orders: Trigger execution when the market price breaches a set limit.

    Trading and Settlement Procedures

    • Trades involve negotiation between buyers and sellers using various order types to reach desired prices.
    • Settlement procedures specify how and when securities and payments are exchanged after a trade.

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    Description

    This quiz delves into the essential characteristics of equity transactions. You'll explore the distinctions between cash and margin accounts, along with insights into long and short positions. The focus will also be on margin account transactions, short selling rules, and associated risks.

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