Unit 1 : Understanding Equity

Public Equity vs Private Equity

Parameter of Comparison Private Equity Public Equity

Definition Shares or stocks in a private Shares or stocks in a public

company representing your company representing your
ownership. ownership.

Information Privacy Not obligated to publish Stock and financial

information about their stocks information are released for
for the public. the public.

Pressure Investors can work on long Investors work on short term

term prospects. prospects.

Targeted audience Individuals with high net General public who can
worth. => Private equity buy/sell shares
firms

Regulation Less regulated More regulated

Trade of assets Among themselves or to the Trade the assets to the

public only after founder’s general population.
consent.

Private Equity
Investment strategies followed by private equity firms :
 1. Venture Capital (VC) -
a. Identifies potentially profitable startup enterprises.
b. Provides funding to startups and once it has grown significantly, seek to sell their
stake for profit either publicly or privately.
c. Stage of business may range from seed to pre-IPO.
2. Growth Capital -
a. Called in by well established companies with proven business models to spur
growth and profits by deploying financial and organizational expertise.
b. This may be done for a fee as well as a stake in the business.
3. Leveraged/controlled buyout (LBO) -
a. PEF seeks to gain control of a company.
b. Use this control to restructure the business which they sell off for a profit.
c. PEF sometimes purchases listed companies with aim of delisting them, making
them more profitable and then reselling them to the market.

Public Equity
IPO is a process which encompasses :
1. Underwriting - Selecting IB that is willing and able to take on the risk of the share
offering.
2. Regulatory filings - Documenting and reporting all appropriate accounting, legal and
financial data required by the overseeing regulatory body of the relevant exchange.
3. Pricing - Issuing company and the underwriter determine an appropriate trade price.
4. Analyst recommendations - Writing up financial reports disclosing the company’s
potential for future profits.
5. Price stabilizing - Underwriters seek to influence the share price for a set period of time
after the share is issued so as to stabilize the share price.

Primary Market - Market where shares are purchased for the first time(from the issuing
company) and sold to the primary investor.
Secondary Market - Once shares are sold from primary investors to other investors, these
shares then form part of the secondary market. Eg: Stock market.

bid/ask spread - Case where ask price(sell) exceeds the bid price(buy). This indicates the
supply and demand forces at play for a share. The ask price indicates supply and the bid price
indicates demand.
Types of public equity shares :
1. Preference shares -
a. Shares that typically offer the holder first rights to dividend payouts.
b. Have senior claims over common shareholders should the company in question
go bankrupt.
2. Common shares -
a. Shares are riskier as they are last in line to receive payment should the issuing
company go bankrupt.
 b. Are allocated voting rights through their shareholding.

Unit 2 : Money Markets - Equity market Influencers

Bull Market
Period of time in equity markets characterized by market optimism, during which stock prices
increase, trade volumes improve, and general market sentiment is positive.
Informally, a bull market is a 20% upturn in stock or market prices over a period.
A bull market ends when prices plummet more than 20% against their peak.

Bear Market
Opposite of a bull market. Here, stock markets experience downward trending prices. Markets
are more depressed and economic activity becomes stunted. Bear markets can be lengthy, but
historically are shorter than bull markets.

Earnings per share (EPS)

Method of assessing a share’s worth in relation to the company’s earnings. This concept
extrapolates to all shares outstanding(all common shares in circulation) which gives investors
an indication of the company’s value.

EPS = (Net income - preferred stock dividends) / shares outstanding

Price-to-earning ratio (P/E)

Used to determine what investors are willing to pay for a share in relation to the earning accrued
to that share.

P/E = Current share price / company’s EPS

A higher P/E ratio against similar companies indicates that investors are expecting higher
future earnings, and the opposite for a low P/E.

Moving average
Technical way of analyzing the price of a share over a given period of time by comparing its
current price to its trailing average share price. Eg : a 50 day moving average aggregates the
share price over a timeline of 50 trading days and compares that price to the current price of the
share.

Moving average < current price => Sell

Moving average > current price => Buy

Volatility
Statistical measure that investors use to measure a stock’s risk. Standard deviation or variance
in relation to share’s mean price is used to analyse.
Volatility is the measure of rate of price movements a share experiences.
High volatility => Price of a share is more prone to price fluctuation.
This is represented by VIX(volatility index).
Alpha and beta
They are risk measures which seek to gauge a share’s risk according to benchmarked values.

Alpha - Portfolio managers ability/inability to outperform a similar share or benchmarked return.

Eg: Expected return : 5% per annum based on various market risk and share returns 8%, then
alpha = 3% difference between expected and actual returns. This is often a measure of a
portfolio manager’s value add.

Beta - Risk measure which uses a ‘baseline’ of 1 as an indicator of its price in relation to a
benchmark(usually the market).
Eg: If a share’s beta is 1.2 then it means that share has moved 120% in relation to the market's
100% move. Hence it is more volatile than the market average.
A beta of 0.7 => Less volatile.

Fundamental analysis vs Technical analysis

Parameter of Comparison Fundamental Analysis Technical Analysis

(bottom up) (top down)

Definition Practice of analyzing Method of determining the

securities by determining the future price of the stock using
intrinsic value of the stock. charts to identify the patterns
and trends

Relevant for Long term investments Short term investments

Function Investing Trading

Objective To identify the intrinsic value To identify the right time to

of the stock. enter or exit the market.

Decision making On information available and Onn market trends and price
statistics evaluated. of stock.

Focuses on Both past and present data Past data only

Form of data Economic reports, news Chart Analysis

events and industry statistics.

Future prices Predicted on past and Predicted on the basis of

present performance and charts and indicator
profitability of the company

Type of trader Long term position trader Swing trader and short term
day trader
Unit 3 : Trading and Investing
Equity Valuation Techniques
Evaluating how investors decide what a share is worth and therefore what they should buy or
sell it for.
WACC and the cost of equity

Cost of equity
As an investor, cost of equity is the rate of return the issuing entity pays on your equity
investment for the risk that you take by owning that share.
As an issuer, cost of equity is the return market requires on your share and therefore the return
required for the company to raise capital.

Weighted average cost of capital

Represents average cost of raising capital by multiplying the cost of debt and cost of equity by
the weighted proportions of each and summing them.

For an issuer, it shows the minimum value(rate of return) that is required to be earned by them
in order to create value for investors.

For an investor, it shows the rate of return their investment needs to beat in order to continue
creating value in the company

Net present value (NPV)

Used for calculating the value of an investment based on the forecasted future cash flows minus
any cash outflows.
This method uses a time value of money approach which assumes that money is either worth
less (in an inflationary environment) or more(in an deflationary environment) over time.

NPV method is foundational to fundamental analysis as it forms the basis of other

comprehensive valuation techniques such as discounted cash flow modelling.
This is because when valuing a company, the fundamental investor considers the
projected net cash flows of the company and discounts them to a present day value that
they then use to derive an intrinsic company value. This value is then compared to the
company’s share price, which the investor then uses to make a buy/sell decision.

Dividend discount model (Gordon Growth Model)

Method for valuing a share by discounting its forecasted dividend payments to a present day
value. This is essentially NPV method in relation to dividend payouts.

D1 = Estimated value of the next period’s dividend

r = Cost of equity
g = Expected constant dividend growth rate.

Weakness :
1. It assumes a constant dividend which in reality will not be the case.
2. It is very sensitive to the growth rate g chosen.

Discounted cash flow (DCF)

Technique used in deriving the intrinsic value of a business. This model relies on free cash
flows of the business as an indicator for future growth, which is considered more reliable than
balance sheets or a statement of financial position which could be subject to accounting
manipulations.

DCF seeks to value a company by forecasting its future cash flow, then using NPV to discount
them to a present day value.
It takes into factor other variables like :
1. Cost of debt(combined with cost of equity to derive WACC).
2. Risk free rate of return(ie the rate of return on a US Treasury bill).
3. Corporate tax rate
4. Equity beta coefficient.
5. Terminal value.

Unit 4 : Types of Equity Risk Exposure

Managing Risk
As an investor in the equity market, risk management is important. An equity issuer manage risk
from a cost of capital and revenue perspective to ensure that their equity issuances extract the
required funding at an affordable rate.

Rate mitigation strategies from investors perspective are as follows :

Sound valuation processes

Establishing a firm's fair intrinsic worth at a present day price is critical for managing risk. It is a
useful pre-investment activity as investment is not yet locked in. This gives us time to evaluate
company and market data at micro and macro level. This is one of the best way to mitigate risk
as :
1. Understanding the true value of a firm gives an investor confidence to ride out share
price volatility and share price downturns.
2. Understanding micro and macro business environments helps investors understand
which market changes pose serious threats and which do not.
3. A well established valuation process allows investors to shift through a myriad of
companies to find the best, often overlooked opportunities.
 4. Investors find below fair value shares, they can reduce their risk even further by
investing in such shares. The more discounted a stock price is compared to fair value,
the less likely the risk of loss.

Dollar cost averaging

Once an investor has their pick of shares, they can choose an all in approach or a phased
approach to buying them. If the investor expects price volatility in the coming period, or a price
downturn, they may choose a phased approach.
In dollar cost averaging, investors buy more shares when stock prices are downward trending,
and fewer shares when prices are trending upward.
This approach is good for investors with a longer term investment time horizon.

Diversification
Investors seek to minimize risk by buying up different types of stock or other instruments.
Different ways of doing this are as follows :

1. Company diversification - Risk is minimized by buying shares from multiple companies

within the same industry or even with the same beta.
2. Industry diversification - Risk is minimized by buying shares from different industries.
This is to handle cases where industry is hit with negative disruption.
3. Geographic diversification - Risk is minimized by spreading investment across stock
exchanges so that assets aren’t tied up in one country’s stock market.

Hedging
In this, investors buy stocks that perform well when their other stock performs poorly. One can
also hedge by purchasing uncorrelated stock which will reduce the portfolio risk, but not offset it
altogether. Common hedging technique is ‘put options’ to mitigate unrealized profits.
Put option - Contract that gives the buyer the right, but not the obligation to sell the underlying
asset at a specified price at a future time.
In this strategy, the investor buys the put option with a strike price(price at which the put option
can be exercised) near the current price.