Securities Markets and Products
Securities Markets and Products
This domain tests product mechanics and market structure: how instruments are issued, traded, and priced, and what risks they carry. Expect questions that compare products rather than ask for sales pitches.
Market structure
- Primary market: the issuer raises capital through an IPO or bond issuance. Secondary market: investors trade existing securities.
- Exchange vs. OTC: exchanges centralize price discovery; OTC markets are dealer networks with bid-ask spreads.
- Orders: market orders prioritize execution; limit orders prioritize price. Margin amplifies gains and losses; short selling has unlimited loss potential.
- Settlement: know the local cycle; failed settlement creates counterparty and liquidity risk.
Product families
- Equities: residual claim, dividends, voting rights, and market risk.
- Fixed income: coupon versus yield, the inverse price-yield relationship, duration, and credit risk.
- Funds: open-end funds trade at NAV; ETFs trade intraday and may trade at a premium or discount; closed-end funds can trade away from NAV.
- Derivatives: futures, options, and swaps; leverage, counterparty risk, and margin calls.
Worked example
A bond pays a 4% coupon on $1,000 par and trades at $950. Current yield = $40 / $950 = 4.21%. If market yields rise to 5%, the bond's price must fall so its yield matches the market. The adviser should explain that 4.21% is not a locked total return if the bond is sold before maturity.
Traps
- Calling the coupon the yield.
- Assuming ETFs always trade exactly at NAV.
- Ignoring leverage and counterparty risk in derivatives.
- Confusing a fund distribution with total return.