FRAM Unit 2 Part 1

Unit 2
HOW TO THINK AND REASON IN FINANCIAL MANAGEMENT
UNIT OUTCOMES:
At the end of this learning unit, the student demonstrates knowledge, understanding and
application of:
• the reasons for the development of a financial market;

• the role of a financial market;
• basic terminology involved in the equity market;
• a JSE report in the financial press;
• the calculation and interpretation of various ratios and percentages from a JSE report;
• the role of indices;
• the calculation of various index relatives and weighted indices; and
• introduction to foreign trade.
INTRODUCING FINANCIAL MARKETS
What is a market? A regular gathering of people for the purchase and sale of provisions, livestock,
and other commodities.
Financial Markets
• A market can be defined as a place where commodities (e.g. steel,

potatoes, fish and gold) or financial instruments (e.g. ordinary shares and
currencies) are traded between willing buyers and willing sellers i.e. it is a
get-together of buyers and sellers of goods.
• The trading takes place by exchanging commodities or financial instruments
for money, or exchanging them for other commodities or financial
instruments.
• Does a market have to be a physical place?

• Often, trading of these items takes place via the Internet.
• Known as virtual market, which is a market not confined to a specific
place or business hours (i.e., 24-hour trading takes place).
• What is available on financial markets?

• Commodities (precious metals, agricultural goods, etc.)
• Securities (shares, bonds, etc.)
• Foreign Exchange (for your next trip to NY)
THE DEVELOPMENT OF FINANCIAL MARKETS
• stock market (a.k.a bourse= mechanism that enables the trading of

company stocks (i.e. shares), other securities and derivatives.
• Can be a physical market or a virtual market
• Today, most stock markets are virtual

Bulls and Bears
If the trend in the market is upwards = bull market

If the trend in the market is downwards = bear market
Physical exchanges
• The New York Stock Exchange (NYSE) is a physical exchange.

• Orders enter by way of brokerage firms that are members of the exchange and flow
down to floor brokers who go to a specific spot on the floor where the stock trades.
• At this location, known as the trading post, there is a specific person known as the
specialist whose job is to match buy orders and sell orders.
• Prices are determined using an auction method known as ‘open outcry’. The current
bid price is the highest amount any buyer is willing to pay and the current ask price is
the lowest price at which someone is willing to sell.
• For a trade to take place, there must be a matching bid and ask price. If there is a
spread, no trade takes place. If a spread exists, the specialist is supposed to use his
own resources of money or stock to close the difference, after some time.
• Once a trade has been made, the details are reported on the tape and sent back to
the brokerage firm, who then notifies the investor who placed the order. Although
there is a significant amount of direct human contact in this process, computers do
play a huge role in the process, especially for so-called ‘program trading’.
Virtual exchanges
• The Nasdaq is an example virtual (listed) exchange, where all of the trading
is done over a computer network.
• The process is similar to the physical in that the seller provides an asking
price and the buyer provides a bidding price. However, buyers and sellers
are electronically matched.
• Now that computers have eliminated the need for trading floors, the balance
of power in equity markets is shifting.
Factors that affect a share price
• The following are also seen as factors that may affect a share price:
• Future cash flows (earnings)
• Dividends
• Net asset value
• Analysts’ recommendations
• Interest rates
• Bond returns
• General economic conditions
• Fads
The Johannesburg Stock Exchange
The Johannesburg Stock Exchange
• The JSE Limited or JSE (previously called the JSE Securities Exchange
and Johannesburg Stock Exchange) is licensed as an exchange under the
Securities Services Act No. 36 of 2004 and is the largest stock exchange in
Africa.
• It is situated at the corner of Maude Street and Gwen Lane in Sandton,
South Africa.
• Currently, the JSE had an over 400 listed companies and a market
capitalisation of US$951 billion (€866 billion) as well as an average monthly
traded value of US$27.6 (€25.5 billion).
More about the JSE
• Role of the JSE

• The JSE provides a market where securities can by traded freely under
a regulated procedure. It not only channels funds into the economy, but
also provides investors with returns on investments in the form of
dividends.
• Function of the JSE
• The exchange successfully fulfils its main function - the raising of
primary capital or equity - by rechannelling cash resources into
productive economic activity, thus building the economy while
enhancing job opportunities and wealth creation.
How to list on the JSE
What is listing?
Listing, also known as an initial public offer (IPO), is the process by

which the company enters the equity market and sells its shares to
the public through for example the JSE.
The reason for listings could be:

• company requiring additional capital
• to increase the liquidity of the shares held by individuals (thereby
increasing their ability to sell their shares for cash)
• company may want to use the shares to pay for the purchase of
another company or to compensate employees.
• Listing could also be a vehicle through which privatisation takes
place (e.g. Telkom).
Listing requirements
Main board requirements

• The principal requirements for a Main Board listing include:
• a subscribed capital of at least R25 million in the form of not less than 25
million equity shares in issue;
• a satisfactory profit history for the preceding three years, the last of which
must have reported an audited profit before taxation of at least R8 million;
• a minimum of 20% of each class of equity shares to be held by the public
• a minimum of 300 public shareholders for equity shares;
• a minimum of 50 public shareholders for preference shares; and
• a minimum of 25 public shareholders for debentures.
Listing requirements
ALTX requirements
• In addition to the requirements set out above, an issuer wishing to apply for
a listing on AltX must comply with the following requirements.
• the applicant must have share capital of at least R2 000 000;
• the public must hold a minimum of 10% of each class of equity securities
and the number of public shareholders shall be at least 100;
• the applicant must appoint an executive financial director and submit
confirmation in writing to the JSE that the financial director has the
appropriate expertise and experience to fulfil his/her role
• the applicant's auditors or attorneys must hold in trust 50% of the
shareholding of each director; and
• at least 25% of the directors must be non-executive.
SECTORS ON THE JSE
• JSE reports are grouped into different sectors. A sector basically refers to
the type of business the company does. For example, companies listed
under the transport sector, will obviously be involved in transport or related
business.
• Some of the sectors on the JSE are:
• Chemicals
• Forestry and paper
• Retail
• Finance
• Mining
• Oil and gas producers
• Companies within a certain sector will obviously be compared to find the

best buy in the specific sector.
INTERPRETATION OF THE JSE REPORTS IN THE FINANCIAL PRESS
How to interpret
• The first column provides the name of the share.

• An asterisk (*) indicates that trade in a share has been suspended (e.g. see
TIWHEEL).
• The next five columns provide information about the price of the share on a daily
basis.
• The first of these columns (Close) provides the price (in cents) of the share at
the close of trading (the closing price).
• The next two columns both provide information about the movement in the share
price – the first of these (Day move (cents)) indicates by how much the share
increased or decreased in value during that particular day of trading. The next
(Day move (%)) indicates the percentage increase or decrease.
• These columns are now followed by the day’s highest (High) and lowest (Low)
price in cents.
• The next column (Volume trade (000)), indicates the volume of shares traded
during the day, in thousands of shares.
How to interpret (2)
• The following five columns indicate information about the share on an

annual basis.
• The first of these columns (12m %) indicates the price percentage
movement in the share price over the past 12 months.
• This is then followed in the next two columns by both the highest (12m
high) and lowest (12m low) trade price over the past 12 months.
• The next column (DY) reports the dividend yield percentage, which is
calculated by dividing the total dividend paid during the past year by the
ruling price.
• The last column (PE, i.e. price/earnings or P/E ratio), is the closing
price of 16 575 cents divided by the past year’s diluted headline
earnings per share. In the jargon of the market, we might say that “SAB
‘sells’ for 19,26 times profit”. PE ratio will be discussed in more detail
below.
• A bold entry signifies that the share price has changed since the previous
closing price.
P/E ratio?
• The price/earnings (PE) ratio may be the best-known statistic used to

assess the value of equities.
• The ratio, also known as the PE multiple, is obtained by dividing the current
share price by reported earnings per share.
• Price/earnings(PE)=Market price per share (MPS) / Reported earnings

per share (EPS)
• The inverse (i.e. 1/PE) of the PE ratio is called the Earnings Yield or EY%.
P/E ratio?
• The PE ratio is often used to identify companies whose shares seem under-
or over-valued relative to the market as a whole. The PE is typically an
indication of:
• the growth potential of the company, as perceived by the market; and
• the risk perception of the company by the market.
• Low growth companies tend to trade at lower PEs, while high growth
companies (e.g. IT companies) trade at higher PEs (sometimes even at no
PE or a negative PE).
• No or negative PEs refer to situations where the company is either at break-
even or making losses.
• Higher risk companies will trade at lower PEs than low risk companies.

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Unit 2

HOW TO THINK AND REASON IN FINANCIAL MANAGEMENT

• the reasons for the development of a financial market;

• A market can be defined as a place where commodities (e.g. steel,

• Does a market have to be a physical place?

• What is available on financial markets?

• stock market (a.k.a bourse= mechanism that enables the trading of

• Today, most stock markets are virtual

If the trend in the market is upwards = bull market

• The New York Stock Exchange (NYSE) is a physical exchange.

• Role of the JSE

Listing, also known as an initial public offer (IPO), is the process by

The reason for listings could be:

Main board requirements

• Companies within a certain sector will obviously be compared to find the

• The first column provides the name of the share.

• The following five columns indicate information about the share on an

• The price/earnings (PE) ratio may be the best-known statistic used to

• Price/earnings(PE)=Market price per share (MPS) / Reported earnings

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