1 Introduction to Securities Domain. 2 Objective Creation of a foundation in Securities Domain Exposure to terminology Understanding of basic products

1

Introduction to Securities Domain

2

Objective

Creation of a foundation in Securities Domain

• Exposure to terminology

• Understanding of basic products

• Understanding of trading markets and regulations

• Understanding of brokerage operations Encourage further exploration of topic areas

Foundation for Domain Certification CourseFoundation for Domain Certification Course

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Part 1a: Introduction to Financial Instruments

• Stocks, Bonds, Derivatives, Packaged Products.

Part 1b: Introduction to Financial Marketplace

• Market Development, Order Types, Stock Markets, Margin Trading.

Part 2: Introduction to Brokerage Operations

• Execution, Settlement, Clearing

Agenda

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Why does an institution need money?

Establish New Business Expand Existing Business Pay off Existing Loans Buy other institutions

The needs for capital are numerous, like those of any individualThe needs for capital are numerous, like those of any individual

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How do one raise capital?

Equity – Share Ownership

Shares / Stocks- High return, Liquidity, Capital appreciation, Limited Liability

Debt – Take Loan

Bond Offerings- Low Risk, Poor Hedge against Inflation,

Fixed Yield

Founders (friends and family)

Banks

Government

Venture Capitalists

Broker Dealers

Founders (friends and family)

Banks

Government

Venture Capitalists

Broker Dealers

Shares and Bonds are fundamental products. Other products are derivedShares and Bonds are fundamental products. Other products are derived

6

Equity – Stock terminology

Authorized stock – Outlined in corporate charter

• Issued Stock (A)– The portion of authorized stock that is actually sold to

investors by a corporation

• Treasury Stock (B)– Stocks that have been bought back by the company that

issued them.

• Outstanding Shares – Stocks remaining with the various investors (A-B)

• Common Stock

• Preferred Stock

Par Value / Face Value- Arbitrary value placed on common stock at the time of its

authorization; Important only for accounting purpose

Market Capitalization- Market value of the company’s stock = Share Price * Number

of shares outstanding (Publicly held)

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Preferred Stock vs. Common Stock Preferred Stock

• Pays a fixed dividend

• Par Value

• No voting rights

• Acts more like bond than a stock

• In U.S. often bought by other corporations

• Has preference over common stock when it comes to Bankruptcy and Dividends

Common Stock• Junior Status

• Ownership

• Ease of Transfer

• Voting rights

• Dividends and /or capital growth

• Issuer gives up control (ownership)

• Investor may receive dividends/appreciation

Common stock - Ownership; Preferred shares – No OwnershipCommon stock - Ownership; Preferred shares – No Ownership

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Sale of stock to public for the first

• Registration statement filed with Securities and Exchange Commission (SEC)

• Underwriting - The investment banker functions as an intermediary

(Underwriter) between the issuing corporation and the investors

• Underwriter offers stocks to the general public and institutions for sale through

selling group members (e.g. CSFBDirect)

• Prospectus Issue - Legal documents explaining the financial facts important

to an offering;must precede or accompany sale of primary offering

• Issue subscribed to by investors

Stock IPO – Primary Markets

IPO – Initial Public OfferingIPO – Initial Public Offering

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How can a company pay its shareholders?

Stock Dividend – Giving more shares for existing shares at a predefined ratio eg. 2:1- Two shares for every one share currently held

Stock Split – Break a share into multiple shares

Cash Dividend – Give cash at a particular percentage of face value – 10% Dividend

Shares Before Split

Type of

Split

Shares After Split

100 2 for 1 200

100 4 for 1 400

100 3 for 2 150

100 1 for 2 50

Objective is to increase liquidity and shareholder valueObjective is to increase liquidity and shareholder value

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American Depository Receipts Foreign country shares traded in US Bank purchases ordinary shares of the company Shares are deposited in a local custodian bank ADR issued by US depositary bank (e.g. BNY) ADR trade on U.S. exchanges.

ADR

Stock

India

US

ADRs - Selling Foreign Shares in America indirectlyADRs - Selling Foreign Shares in America indirectly

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Introduction to Bonds

Bonds are debt securities sold by a company or government to raise

money (Fixed Income Instruments) • Bond holder becomes a Creditor but not owner of bond issuing corporation

• Bond holder receives interest yield in addition to principal amount

• Bonds characterized by finite life span (determined by Maturity period) Issuer is responsible for repayment of principal and interest

Investor Issuer

More Income Greater Safety Known Maturity Not an Owner Poor Inflation Hedge

Control Issues Risk of Default “Leverage” in a

Capital Structure

Bond is the other fundamental product giving fixed returnsBond is the other fundamental product giving fixed returns

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Bond Terminology

Par Value- The value of a bond assigned by the issuer; also called face value.

Coupon - Paper that evidences an issuer's promise to pay interest when due

Coupon rate- The interest as a percent of par paid by a bond

Premium. The amount by which a bond sells above its par value

Maturity date- The date on which a bond is to be redeemed and its principal and

interest returned to the owner

Yield- The rate of return on an investment, described as a percentage of the amount

of the investment

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8% IBMIssuer

$1,000 Face Amount

$80/2= $40 Semi-annual interest

1/15/25

Maturity Date

Interest Payment dates are: 1/15 and 7/15Semi Annual

Bond in a Nutshell

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Bond Categories Issuer Based Categories

• Government Securities- Issued by The U.S. government from the U.S.

Treasury and several government agencies.

• Outstanding securities on 01/19/2005 ---- $7,613,772,338,689.34

• Corporate Bonds- Bonds issues by various corporations to borrow money for

operations

• Municipal Bonds- Bonds issued by states, cities, counties and various districts

to raise money to finance their operations or to pay for infrastructure projects.

Convertible Bonds

• Bonds convertible into common stock

• Generally lower coupons as there is upside for investors

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Derivatives

$1,000Buy

Today

$1,200One Month Later

$ 850One Month Later

Pay $25 and Book TVBuy One Month Later

Pay Today’s Price

$ 175Save

$ 175Lose

There is no deal without a TV here – Fundamental ProductThere is no deal without a TV here – Fundamental Product

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Options

Terminology• Rights and Obligations (to buy or sell)• Specific Stock (Round lot)• Specific Time Frame (Expiration date)• Specific Price (strike)• Premium

Reasons to buy Options• Directional Speculation• Volatility Speculation• Protection of Stock Position• Income Generation

Getting out of options• Liquidate or Buy Back in Market• Exercise• Expiration

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Option Buyer

Option Writer

“I have a Right” (Control) “I have an Obligation”

(No Control)

“I paid $”“I got paid $ ”

Buyers Have rights“are in Charge”

Pay for the privilege

Sellers take on obligations

“Are Passive”Get paid for their

promise

Options Trading

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Call Buyer Call Writer

Right to Buy(Control)

Obligation toSell

(No Control)

BullishBearish

Call Options

Call Option – Right to Buy assumes price would go upCall Option – Right to Buy assumes price would go up

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Put Buyer Put Writer

Right to Sell(Control)

Obligation toBuy

(No Control)

BearishBullish

Put Options

Put Option – Right To Sell, Assumes Price to Go DownPut Option – Right To Sell, Assumes Price to Go Down

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Rights & Warrants Rights

• Securities issued by corporation

• Shareholders maintain percentage ownership

• Rights offering and standby underwriting Warrants

• Right to buy shares of stock at a specific price.

• Warrants are issued by a corporation

• Warrants may be long-term or perpetual.

• Attached to bond or part of unit

• Low cost capital raise

Rights and Warrants - Issued by Corporation , not between two partiesRights and Warrants - Issued by Corporation , not between two parties

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Mutual Funds

Pool of Investors Money Financial Expert Manages

money Buys Multiple Company

Shares Investors own units that are

priced proportionately Value of units change based

on fluctuations in share prices

Dividends and Capital Appreciation

Diversification at low cost

Stock Number Market Price Total Price

IBM 100 $ 20 $ 2,000

MSFT 200 $ 30 $ 6,000

Oracle 500 $10 $ 5,000

Total - - $13,000

No. of Units 1000

Per Unit Price $ 13

Mutual Funds – Owning shares indirectlyMutual Funds – Owning shares indirectly

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Fund Terminology Net Asset Value - The value of a single unit of the fund determined on a daily basis

Management fee - The fee charged to compensate those who run the fund's portfolio;

Approximate around one percent of the fund's assets

Fund Types - Sales Charges i.e. fees payable while buying/redeeming shares in the fund

• Front end load Funds- Charges levied when shares in the fund are purchased

• Back end load Funds- Charges levied when shares in the fund are redeemed

• No load Funds- No sales charge

Fund Types - Continuous / Time Bound

• Open end funds- Issue new units continuously as investors buy them. Investors

redeem their units directly to the fund,

• Closed end funds- Issue a fixed number of units. Fund may redeem only upon

termination of the fund's trust. Unit holders may sell their units to other investors.

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Annuities

Guarantees returns over a period of time, based on initial

investment Monthly income plan, Purchasing power risk Fixed Annuities

Money invested in general account Pays a fixed monthly income at retirement

Variable Annuities Pays variable monthly payment at retirement Investment risk

Immediate or deferred Payout

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Reading Material

http://www.brokerage101.com/ - Section on Marketable Securities http://www.invest-faq.com/ http://www.fool.com http://www.investopedia.com

http://stocks.about.com/ - Equities http://mutualfunds.about.com/ - Mutual Funds http://www.annuityfyi.com – Annuities - Futures and Options http://stocks.about.com/od/bonds/ - Bonds

http://www.brokerage101.com/

http://www.invest-faq.com/

http://www.fool.com/

http://www.investopedia.com/

http://stocks.about.com/

http://mutualfunds.about.com/

http://www.annuityfyi.com/

http://stocks.about.com/od/bonds/

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Financial Marketplace

Development of Trading Markets

Order Types

Secondary Markets• NYSE• NASDAQ

Margin Trading

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Buy 300 shares @ $19.50

Sell 500 shares@ $20.25Potential Buyer

= Bid Potential Seller =Ask

Buyers and Sellers exist like any other market “Bidders” are Buyers “Askers” are Sellers Difference between the Bid and Ask is the Spread

Market Development

Price Differences prevent a dealPrice Differences prevent a deal

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Buy 750 shares @ $20.00

Sell 500 shares@ $20.25Potential Buyer

= Bid Potential Seller =Ask

New bidders and Askers enter Old Bidders and Askers exit Existing Bidders and Askers change price and quantity

Market Development

Prices match ultimately for a deal; Volume Not necessarilyPrices match ultimately for a deal; Volume Not necessarily

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Trading Positions

Long position - Buy Followed by Sale

• Securities owned by an investor

Short Position – Sale Followed by Buy

• Securities not owned by an investor, Relevant only when you sell

Selling Short - The sale of a security that the investor does not own in order to

take advantage of an anticipated decline in the price of the security.

• To sell short, the investor must borrow the security from his broker in order to

make delivery to the buyer

• The short seller will eventually have to buy the security back, or buy to cover,

in order to return it to the broker

In the long run, any investor is expected to close the positionIn the long run, any investor is expected to close the position

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Market Order

CUSTOMER SIZE BIDS (BUYERS)

Hard Line Brokerage 30,000 $ 60.00

Top Notch Advisors 15,000 $59.95

Reckless Securities Inc 25,000 $59.89

Lighting Execution Inc 20,000 $59.81

Rumor Mill Brokerage 10,000 $59.73

HI IQ Capital 30,000 $59.65

Order to buy or sell a stock as soon as possible at the best price availableOrder to buy or sell a stock as soon as possible at the best price available

“Sell 100,000 Shares at the Market”

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“Buy 100,000 Shares at the Market”

CUSTOMER SIZE Offers (Sellers)

Blue-Chip Brokerage 30,000 $60.00

EZ Trade Corporation 15,000 $59.85

Walck Discounters 5,000 $59.80

Klick Quick Trade 35,000 $59.60

Halasy Investors 15,000 $59.55

Murphy Retail Investors 30,000 $59.40

Market Order

Price , Time, Quantity – Order of Preference for any tradePrice , Time, Quantity – Order of Preference for any trade

Order Format - XYZ, Sell, 100

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Limit Orders

Placing a price parameter on order

Not guaranteed execution, but if executed, will receive a better price than the current market price.

Order to buy or sell a stock only at the specified price (the limit price) or better; Safer way for trading

Format for order

• XYZ, Sell, 100, $20.25 $18.50

$18.75

$19.00

$19.50

$20.00

$20.25

$20.50

Current Price

Buy Limit Orders

Sell Limit Orders

Buy limit price < Current market price, Sell limit price > Current market priceBuy limit price < Current market price, Sell limit price > Current market price

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Sell Stop Order

$20

$18 Sell Stop Order(stop-loss order)

Buy @ Market

Used to protect a long position Placed below the market

Two Step Process:

• 1. “Activation price” or “Trigger price”

• 2. Once “activated”, it becomes a market order

Order Format – XYZ, Sell, 100, $18

• Market Price could be $ 20

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1. Buy 100 XYZ @ the market price of $20.00 (long position)2. Places the following order to protect his long position:Sell 100 XYZ $18.00 stop GTC

Three days later the following trades take place:

Activation Price / Execution Price ?

$18.25

Open

$18.15 $18.05 $18.00 $17.90 $17.85 $17.75

Sell Stop Order

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Buy Stop Order

$22

$20 Short Sale

Buy Stop Order

Used to protect a short position Placed above the market

Two Step Process:

• 1. “Activation price” or “Trigger price”

• 2. Once “activated”, it becomes a market order

Order Format – XYZ, Buy, 100, $22

• Market Price could be $ 20

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1. Sell Short 100 XYZ @ the market price of $20.00 (Short position)2. Places the following order to protect short position:Sell 100 XYZ $22.00 Stop GTC

Three days later the following trades take place:

Activation Price / Execution Price ?

$21.75

Open

$21.85 $22.00 $22.10 $22.15 $22.25 $22.30

Buy Stop Order

Stop-Limit Order- Like a stop Order but after activation becomes a limit Order instead of Market Order

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More Order Types All-or-None Order (AON)

• No partial executions

• Broker has all day to execute order (no urgency) Immediate-or-Cancel Order (IOC)

• Partials are acceptable

• Fill immediately (urgency), and cancel unfilled balance

Fill-or-Kill Order (FOK)

• Fill immediately

• No partials

• If entire order cannot be filled immediately, then cancel order

Day Order

• Good for the day

• If not executed within the course of day, order is canceled. GTC Order

• Also known as an “open order”.• Order is in effect until executed or canceled by the customer

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CUSTOMER SIZE Offers (Sellers)

Blue-Chip Brokerage 30,000 $60.00

EZ Trade Corporation 15,000 $59.85

Walck Discounters 5,000 $59.80

Klick Quick Trade 35,000 $59.60

Halasy Investors 15,000 $59.55

Murphy Retail Investors 30,000 $59.40

All Fall in Line

Building Block for a stock exchangeBuilding Block for a stock exchange

Someone records and tracks order information to ensure the best deal for everyone

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Quiz

I placed a sell order for CSCO, even though I never bought any shares of

CSCO. What have I done?

Bought GOOG at $230, am hoping it will go up, but I also want some

protection in case it goes down, what can I do?

If MSFT issues 85 Million shares and decides to buy back 6 Million

shares, how many shares are outstanding in the market?

How many shares of MSFT are authorized in the above case?

What is the market capitalization of MSFT if the market price is $10 per

share?

If MSFT declares a 10% dividend, what amount would I get if I own 2000

shares?

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Securities and Exchange Commission (SEC) www.sec.gov

• Responsible for administering and enforcing the federal securities laws, and

regulating brokerage firms, investment companies and advisers

• Ensures orderly market performance and information availability to investors

• Establish accounting norms for securities transactions

National Association of Securities Dealers (NASD) www.nasd.com

• Works to aid and safeguard investors by regulating markets, formulating

guidelines, facilitating dispute resolution and monitoring member activities

Regulatory Bodies

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Stock Market Players Broker – A person or firm that facilitates trades between customers

• Acts only as an intermediary and does not assume risks for the trade

• Charges commissions

Dealer – A person or firm that buys and sells from his or her own inventory of

securities as well as for others

• Assumes risk for the transactions

• Marks securities up or down to make a profit on their transactions

Registered Representatives – An individual who has passed the NASD's

registration process and is therefore licensed to work in the securities industry

• Follows NASD rules.

• Usually a brokerage firm employee acting as an account executive for clients

• Sell to the public; they do not work on exchange floors

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Secondary Markets - Market for outstanding issues

OTC MarketsExchange Markets

Hybrid Market

Stock Exchange(NYSE, AMEX etc) Private association of brokers Auction type of trading Central meeting place where members trade in listed securities

Over the Counter (OTC)market (NASDAQ)

Negotiated market, without a central trading floor Composed of network of brokers and dealers Bid/ask quotes given by market makers

Market Classification

42

43

Exchange Markets

Auction Markets Specialists Centralized Listing standards NYSE is the model NYSE - SRO

44

The New York Stock Exchange

45

What does the NYSE do? Trading and trading services

• NYSE charges (directly and indirectly) for trades that occur and for software supplied to its members.

Listing• To be listed on the NYSE, a corporation must meet/maintain certain financial

standards and pay listing fees.• An NYSE listing is a certification that enhances a firm’s credibility.

Information• NYSE is (indirectly) an information vendor.

Regulation• NYSE monitors and regulates the trading activity of its members.• Through the listing relationship and the listing standards, it can affect corporate

governance behavior. Other Information

• Traditional Auction Market with 2800 Companies Listed and 460 Non US Listings from 48 countries

• Listings war with NASD / Overseas markets

• Ownership Structure-1366 Seats (constant since 1953)

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Specialist Role The Post

• Each security is assigned a particular spot on the trading floor.

• All activity for each security takes place at the security’s post through open outcry.

The specialist as auctioneer

The specialist may act as either principal or agent Role of the Specialist

• Maintains a fair and orderly market

• Provides liquidity

• Resolves order imbalances Floor Brokers

• Act in an agency capacity

• No risk is assumed on transaction

• Compensation is a commission

47

OTC Markets Transactions that occur off the floor of

an exchange Negotiated Market Market makers Decentralized Nasdaq is the model for OTC markets NASD – SRO Not face to face Bids and offers entered via phone or

computer Market Makers willing to sell or buy

48

NASDAQ

49

NASDAQ ? Electronic communication and execution network

Market Makers post prices to buy and sell

Think of shopping @ 100s of stores

Inventory of stocks

Computer automatically finds the best prices- inside market

Nasdaq is an NASD operated electronic quote system .

Two tiers of Nasdaq:1. Nasdaq National Market (NNM)2. Nasdaq SmallCap

2872 Company Listings 11,000 registered traders with 790 firms 1.2 million terminal users in 82 countries

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Role of the Market Maker

A Dealer Market uses multiple dealers, known as Market Makers.

Compete for investor orders Commit capital Maintain inventories Seek the other side of a trade Trade on both sides of the market Generate investor interest

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Margin Trading

A process whereby a brokerage client uses credit to finance securities

transactions

Allows its clients to buy securities with money borrowed from the broker

Margin requirements can be met by the investor with cash, eligible

securities, or any combination thereof

Governed by regulations of Federal Reserve, NYSE and the brokerage

firm’s internal rules

Not all securities can be traded through margin account-

Federal Reserve Board specifies “Margin securities” i.e. securities eligible

for trading through Margin account

Margin Account - Collateralized loan from a broker-dealer regulated by Reg TMargin Account - Collateralized loan from a broker-dealer regulated by Reg T

52

Customer Broker

Bank

Rehypothecation Hypothecation

Call Loan RateMargin Interest Rate

Margin Trading Process

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Quiz

I placed a market order for AAPL, but my order did not find its way into

the specialists’ book. Why?

If you own a security, would you ask for an ASK or a BID quote?

Name one auction exchange in the US?

Name one OTC exchange in the US?

If a $1000 15-year par value bond paying 6% semi-annual coupon is

selling in the Market at $1007, is the bond selling at a Premium or at a

discount?

In the above case, what is the coupon amount that the investor receives

every 6 months?

If I have a put option on BONY / BK at $29 today and the market price is

$32.20, should I exercise the option?

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Part 2 – Brokerage Operations

Execution Processes Clearing Processes Settlement Processes Post Settlement Processes Benefits of Outsourced Clearing

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Stock Trading : A Client Perspective

What’s so difficult about buying and selling stock?What’s so difficult about buying and selling stock?

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The Reality

Trade processing is complex Many different areas of a firm are involved in a trade Trade processing methodologies grew up in a paper-driven environment. Complex system of checks, double checks and triple checks to safeguard the

firm and client Today: Intermediaries (e.g. Pershing; DTCC)

Brokerage Services is a multi-billion dollar industryBrokerage Services is a multi-billion dollar industry

Old World• Examination of trade processing in

a paper-based environment• Low volume• Trade by trade settlement• Firms deals directly with one-

another• Slower and volume sensitive

Modern World• Examination of trade processing in

an electronic environment

• High volume

• Net settlements

• Firms deal with Centralized Counter party

• Volume insensitive and high speed

57

Life of a Trade

Order SettlementExecution Clearing

58

Pershing’s View

4.Trade Agreement

3.Trade Allocation

2.Trade Processing

1.Order Management

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Order InitiationOrder Initiation

Order Capture

Order Handling

Order Routing

Execution Match and Reporting

Execution Order Creation

Incoming Orders Solicited by RR or at client’s direction

• In person• Phone Call• Internet

Solicitation or Receipt of Customer Orders is Order InitiationSolicitation or Receipt of Customer Orders is Order Initiation

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Order Ticket Information

Purchase or Sale Long sale vs. Short Sale Security Quantity Type of order

(market/limit/stop) Solicited vs. unsolicited RR Identifier GTC or day

Obtaining correct information is critical for execution and other subsequent activitiesObtaining correct information is critical for execution and other subsequent activities

SELL

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Order CaptureOrder Initiation

Order Capture

Order Handling

Order Routing



More Work Prior to placing the Order (System checks & Reviews)

• Internal checking of order

• Is the “ticket” filled out correctly?

• Is all information there?

• Is client cleared to do this type of trading?

• Does the client have sufficient assets ($/securities) in account? (credit limits)

• Shorting? Are securities available?

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Order HandlingOrder Initiation

Order Capture

Order Handling

Order Routing



Order Rooms• Receipt of incoming orders from

RRs

• Branch level or centralized for entire firm

• Organize pending orders based on security type, market, client type, size, etc.

• Determination if trade is internal or goes to the street

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Dealer or Principal CapacitySubject to risk on transaction

Mark-up or markdown

Broker or Agency Capacity No risk on transaction

Commission

64

Order RoutingOrder Initiation

Order Capture

Order Handling

Order Routing



Routing• Client’s preferences?

• Broker Dealer’s preferences? Routing to NYSE floor Regional exchange Relationships with specialists Speed vs. Liquidity vs. Cost Execution occurs at this stage

65

Life of a Trade


66

Execution Match and ReportingOrder Initiation

Order Capture

Order Handling

Order Routing



Internal• Receipt of execution reports from trading venue

• Tie together orders and executions

• Correct security / quantity / client?

• Clean up of execution errors

• Research of un-entered/unexecuted orders SRO

• Report of executions to SRO

• Exchanges have systems to track executions

• SROs looking for violations/patterns Client

• Record executions (partial or full)

• Report executions to RR

• Report NDs to RR

• RR gives verbal/email report to client

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Before We Leave the Order Room • Order – Potential Business

• Execution is contract between the BD and contra firm

• BD-to-client transaction is a separate agreement

• Clients do not transact business on NYSE or NASDAQ!

Order Initiation

Order Capture

Order Handling

Order Routing



68

Life of a Trade


69

Clearing Operations

4.Trade Agreement

3.Trade Allocation

2.Trade Processing

1.Order Management

Recording of executions Computing monetary amounts Comparison of trades with contra broker Confirmation of trade with client Booking

70

Trade Validation

Trade Validation

Trade Enrichment

Street SideSubmission

Trade Matching(Customer and

/or street)

Trade ExceptionHandling

BDs, branches, RRs all given distinct identifiers

Securities have CUSIP #s Think of a CUSIP as a barcode which

contains issuer and issue identifiers Trade itself is given transaction (ID) # Contra-brokers have ids If problem: Exception

71

Trade Enrichment

Trade Validation

Trade Enrichment



/or street)


Adding Information• Commissions/mark-up or mark down

• Sec fees

• Taxes

• Regulatory Disclosures

• The end result is a “fully figured trade”

72

Street Side Submission

Trade Validation

Trade Enrichment



/or street)


Comparing the details• Comparing trades with contra broker

• Old days: trade-by-trade or itemized comparison

• Street acknowledgement of trade

• If OK trade is affirmed or “locked in”

• Details may differ (uncompared)

• Contra broker does not know the trade

• Right security/right contra-party?

73

Trade Matching

Trade Validation

Trade Enrichment


Trade Matching(customer and

street)


Notification-Generating a Customer Confirm

Trade particulars (security price, size, etc)

TD/SD Where / when executed Capacity in which the form acted Cash or Margin SRO Rule: Customer confirms must be

generated by completion of the transaction

74

Trade Exception Handling

Trade Validation

Trade Enrichment



/or street)


Trade Problems • Looking for problems (exceptions)• Wrong stock / Bond ( maturity)/ Quantity• Problem “real” (error) or “typo” (discrepancy)?• Does the problem affect contra-broker?• Can the trade be repaired? • Cancels and re-bills

“As of” Trades and Corrections • Fixing a customer/contra broker problem• Trades mistakenly not entered• Execution problems• Error accounts• Internal corrections and or contra broker

notification• Compliance Notification -

• Is a client being showed favoritism• Does a particular RR/trader/branch exhibit

a pattern?• Is there a system problem?

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Clearing Operations

4.Trade Agreement

3.Trade Allocation

2.Trade Processing

1.Order Management

Block Trades Investment Managers (MFs etc) Individual clients selected A given trade may be split up and

confirmations generated to many clients

76

Clearing Operations

4.Trade Agreement

3.Trade Allocation

2.Trade Processing

1.Order Management

Booking - Everyone agrees the trade is now processed and balanced or booked into the firms records

77

Life of a Trade


78

If Trade Clears: Goal = Settlement

Settling Compared Trades• On settlement date, the selling broker delivers to the buying broker and gets paid

(formerly trade-by-trade)• Firm to Firm transfer• $ vs. securities

79

Can Clients Cause a Failure to Settle? Firms agree on trade particulars Client (seller) does not deliver Client (buyer) does not pay Settlement will still occur…. Contract is between firms!

Analyze reasons for fails Record keeping to age items One “fail” may affect multiple trades Fails cost $ Issue buy-in to client or street Obtain stock from safekeeping or stock loan

80

Post Settlement Events

Cashiering (Cash Management)• Receipt/disbursement of client funds

• Receipt/disbursement of contra broker funds Checks Fed Funds Credits or debits internally Third party payments Accounting

• Keeps track of the cash - daily cash record

• Invoicing and payments

• Trial balance - monthly

• P&L statements

• Balance sheet

• Regulatory reports

81

Post Settlement Events Stock Record

• Record of positions • Tracking movements• Identification/investigation of Breaks • Auditing positions - physical vs. stock Record

Client Records (Customer Reporting) • Statements • Tax reporting• P&L (cost basis etc)

SEC/SRO Records (Regulatory Reporting)• Net capital• Operational Issues• Client extensions• $ Laundering• Complaints

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Corporate Actions

Communications• Receive information from Issuer / DTC etc.

• Review Information (Prospectus / Letter)

• Mailing Announcements

• Communications with depositories or agent banks

Outcomes• Receipt of customer instructions

• Research and reconciliation of exceptions

• Stock record must be consulted

• Crediting/debiting accounts for $/stock

Examples• Mergers, Spin-offs, Splits / Reverse splits

• Cash and stock, Interest allocations, Rights offerings

• Calls, Proxies, Dividends, Voting

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Why Not Self-Clear?

Cost Issues - Inefficient; Cheaper to Outsource Financial Benefits - Cheaper cost of funds (margin), Stock loan opportunities, Reduced

net capital Needs, Reduction of contra party risk, Bulk buying opportunities Reduced Paperwork – Confirms, Statements, Mailings, Proxies, Tax Reports Regulations Concerns / Compliance - Patriot Act /Money Laundering, Trade

Monitoring, Net Capital Issues, 144 Sales/Accounts of Deceased/Accts -Associated Persons Activities, DNC Lists, Archiving Records

Technology Advantages - Access to trading software, Data feeds (News and Quotes), Access to ECNs, Trading Technology/Relationships, Access to risk management software (Trading), Client profiling software (Compliance)

Client Peace of Mind

Why Hire Pershing? (Why Third Party Clearing Services?)

• Saves time and $

• Think of clearing on a unit cost basis

• Permits small firms to focus on what they do best (Sales and/or Trading)

Q&A

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Documents

1 Introduction to Securities Domain. 2 Objective Creation of a foundation in Securities Domain Exposure to terminology Understanding of basic products