Equities and Equity-Linked Products
What a candidate must understand
Equities represent residual ownership: dividends are discretionary, and shareholders rank last on liquidation but typically hold voting rights. Understand ordinary vs preference shares, cumulative and participating preferences, treasury shares, and rights and bonus issues (rights raise cash and dilute; bonuses capitalise reserves with no cash). Know dividend mechanics: declaration, ex-dividend date, record date, payment date, and that buying on or after the ex-date forfeits the upcoming dividend. Cover valuation basics: P/E, dividend yield, price-to-book, EV/EBITDA, and the dividend discount/Gordon growth model where price = D1 / (r − g). Equity-linked products include convertible bonds (bond plus call on equity), preference shares, depositary receipts (ADRs/GDRs) and warrants. Understand corporate actions (splits, consolidations, scrip dividends) and their price-adjustment effects.
Traps that appear in questions
- Assuming dividends are contractual; only preference dividends may be fixed, and even then may be omitted unless cumulative.
- Forgetting that a 2-for-1 split halves the price and doubles the share count, leaving value unchanged.
- Applying Gordon growth with g ≥ r, which produces nonsense; the model requires r > g.
- Treating a convertible's value as purely equity-linked; it has a bond floor.
- Confusing ex-dividend date with record date.
Worked example / rule of thumb
A stock pays a 2.00 dividend next year, required return 10%, growth 4%. Value = 2.00 / (0.10 − 0.04) = 33.33. Rule of thumb: equity holders are paid last and only if the board declares; preference holders sit ahead of ordinary holders but behind creditors.