CHAPTER - in REVIEW of LITERATURE

CHAPTER - in REVIEW OF LITERATURE Introduction Conceptual Framework Securities Initial Public Offering Right Share Issue, Cash Dividend and Stock Dividend Stock Valuation Models Approaches of Security Price Analysis Return and Risk of Investment Capital Market Efficiency Anomalies of Efficient Capital Market Hypothesis Evidence Supporting the Efficient Market Hypothesis Conclusion 3.1 Introduction 3.1.1 Many general investors are confused about the stock market prices in the market. The investor's main dilemma is that whether or not to invest in the particular asset/ assets, so that they can get better sustainable and fair return of their investment with bearing minimum/zero risk. In this point of view, many people have been studying the way security price fluctuate for over a century. In 1841, Charles Mackay assembled a book of readings about Tulip-mania and some equally famous market "bubbles" which had a self-explanatory title: Extraordinary Popular Delusions and the Madness of Crowds.' In contrast to Mackey's astonishing stories, in 1900 a French mathematician named Louis Bachelier set a forth formal models in which security prices were random outcomes that had probabilities attached to them.^ The mathematician Bachelier was one of the first who studied security price movement mathematically. 3.1.2 After that, in 1936 the famous economist John Maynard Keynes suggested, "most of these persons are, in fact, largely concerned, not with making superior long-range forecasts of the probable yield of an investment over its valuation a short time ahead of the general public. They are concerned, not with what an investment is really worth to a man who buys it "for keeps," but with what the market will value it at, under the influence of mass psychology, three month or a year hence... Thus the professional investors are forced to concern him with the anticipation of impending changes, in the atmosphere, of the kind by which experience shows that the mass psychology of the market is most influenced."^ On the other hand, during the 1950s when an econometrician named Holboork Working and his colleagues articulated the notion that security prices fluctuated around their intrinsic values.* ' Charles Mackay, Extraordinary Popular Delusions and the Madness of Crowd, Richard Bentley, London, UK, 1841. Reprinted by Harmony Books, a division of Crown Books, New York, USA, 1980. ^ Paul H. Cootner, 'The Random Character of Stock Market Prices," Cambridge, Mass: M.I.T. Press, 1964. ' John Maynard Keyness, "The General Theory of Employment, Interest and Money," Harcourt Brace Jovanovich, New York, USA, 1936, pp. 154-155 '' Holbrook Working, " A Theory of Anticipatory Prices," American Economic Review, May 1958, pp. 188-199 3.1.3 The main concern of this study primarily is to focus on what are the out of sight motivating factors behind stock market price, investor's risk-return analysis and their value of the investment in common stock. The stock market price, their return and linked risk has the remarkable deliberation in modem economics and financial management. This chapter highlights on the literature that is available in this area. The first section of this chapter explains about the meaning of the securities and stock market prices. The second section is confined to review of those literature carried out previously. 3.2 Conceptual Framework While touching into the main subject mater of the stock market price, the study has also dealt with investor's risk-return analysis and their value of investment in the common stock market. It is imperative to be familiar with the general concepts of the securities and related areas under study as well. Following sub section to this section would be explaining the conceptual matters of the common stock in the capital market under study. 3.3 Securities The oxford dictionary defines security as documents providing that some body is the owner of shares, etc. in a particular company.^ Securities can be defined as financial instruments which give the owner specific rights of ownership. In board sense William F. Sharpe, Gordon J Alexander and Jeffery V Baily have defined that, "in general, only piece of paper represents the investor's rights to certain prospects of property and the conditions under which he or she may exercise those rights. The piece of paper, serving as evidence of property rights has called a security. It may be transferred to another investor, and with it will go all its rights and conditions."* The term securities are ' A. S. Hornby, Oxford Advanced Learner's Dictionary of Current English, 7"" ed., Oxford University Press, New Delhi, India, 2005, p. 1372 * William F. Sharpe, Gordon J Alexander and Jeffery V Baily, Investments.S"" ed., Prentice Hall of India, New Delhi, India, June, 2000, p. 3 46 generally, stand for instruments of ownership like common stock, preference shares, bonds, treasury bills, debenture etc., which have publicly issued. 3.3.1 Common Stock The common stock investment stands for ownership of a company with full involvement in its gain or losses of return on investment. The William F. Sharpe et al. clearly elaborates that, "Common stock represents equity, or an ownership j>osition in a corporation. It is a residual claim, in the sense that creditors and preferred stockholders must be paid as scheduled before common stockholders can receive any payments. In bankruptcy, common stockholders are in principle entitled to any value remaining after all other claimants have been satisfied. (However, in practice, courts sometimes violate this principle) The great advantage of the corporate form of organization is the limited liability of its owners. Common stockholders are generally 'fully paid and non assessable,' meaning that common stockholders may lose their initial investment, but not more. That is, if the corporation fails to meet its obligations, the stockholders will not force to give the corporation the funds that have needed to pay off the obligation. However, as a result of such a failure, it is possible that the value of corporation's shares will be negligible. This will result in the stockholder's is having lost and amount equal to the price previously paid to buy the shares."' 3.3.2 Stock Certificate Share certificate is a documentary evidence of the ownership of number of company's shares. Dr. Avtar Singh has defined in the legal point of view that an allottee of shares is entitled to have from the company a document, called share certificate, certifying that he is the holder of the specified number of shares in the company.^ Similarly, William F. Sharpe et al. has stated that, "The ownership of a firm's stock has typically been represented by a single certificate, with number of shares held by the particular investor noted on it. Such a stock certificate is usually registered, with the name, address, and ^ ibid., p. 501 * Avtar Singh, Company Law, IS"" ed.. Eastern Book Company, Lucknow, India, 2003, p. 133 47 holding of the investor included on the corporation's books. Dividend payments, voting material, annual and quarterly reports and other mailings are then sent directly to the investor, taking into account the size of his or holdings. Shares of stock held by an investor may be transferred to a new owner with the assistance of either the issuing corporation or, more commonly, its designed transfer agent. This agent will cancel the old stock certificate and issue a new one in its place, made out to the new owner. Subsequently, registrar will make sure that this canceling and issuing of certificate has been done properly."^ 3.4 Initial PubUc OfTering 3.4.1 Initial Public Offering (IPO) means that the initial public offer of securities by a company in the primary market to raise funds from the general investors. In brief, Tadashi Endo has defined that, "Shares are first issued to promoters (founders) of a company. Subsequently, the company's securities, including shares, may be privately issued to promoters' relatives, friends, business associates, including directors and employees of the company, the company's vendors and customers, banks and financial institution, mutual, pension or investment fiinds, and so on. Such investors are specific and limited in number. As a company grows further, it may need to publicly raise additional capital from investors beyond the original specific and limited number of investors. A public issue or an issue to the public is an issue of new securities to unspecific and many investors, or the public. It is followed by listing of the company's shares on a stock exchange for secondary trading. The first issue to the public by an unlisted company is specifically called and initial public offering (IPO)."'° 3.4.2 "Section 20(1) of the Nepal's Companies Act 1997, states that a public company should publish prospectus approved by the Company Registrar's Office before issuing the securities. Section 21 of the Act mentions that the contents of the prospectus while section 23 states that the directors who sign the prospectus are accountable to its ' ibid., p.502 '" Tadashi Endo, The Indian Securities Maricet, Vision Books Pvt. Ltd., New Delhi, India, 1998, pp. 222- 223 48 contents."" Furthermore, Companies Act clearly states that the provisions regarding the restrictions of issuing securities at discount and allowing the issuance of securities at premium, prerequisite to issue different securities instruments, holding of AGM and reporting requirements. As per the SEBO/N's provision of section 2(10) Securities Registration and Issue Approval Guideline, 2000, evidently defines that the disclosure of economic, physical, managerial and trading aspects of the issuer company to be based on fact and the financial forecasting of the company should be realistic. Similarly, Section 6.2(f) states that the prospectus should contain the forecast figures of net worth, profit and loss account and balance sheet for the following three year.

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