An "Option" Illustrated

A firm of contractors undertakes to build a railway in some foreign and partially developed State, and the principal contingency to be provided against is default or failure of credit on the part of the State. The contractors accordingly, while on the one hand undertaking the construction, may acquire the option (or right) from dealers on the Stock Exchange to deliver an adequate amount of the Government stock issued by that State at a fixed price and at a specified date in consideration of an immediate payment. Thus if the contract be estimated to cost £100,000, and the stock of that State now stand at 70, the option to sell £100,000 of it at 70 to the dealers may perhaps be purchasable, the delivery to take place when the contract is completed. If the State pay the contractors in full, their protective right to sell the stock need not be exercised: if the State, through an impoverished exchequer or bad faith, discharge only £70,000 of the contract price, the loss involved would be £30,000; but this failure in fulfilment of the State obligation would, in all probability, form part of the State's diminished credit, with a consequent fall in the value of their securities generally: hence the contractors might possibly be able to purchase the £100,000 of the stock at 60 which they had engaged to deliver; sell it to the dealers by exercise of the option at the agreed price of £70,000; and consequently the profit of £10,000 with the portion (£70,000) of the contracted agreement would reduce the ultimate loss from £30,000 to £20,000.

The Stock Exchange List

I proceed to explain the meaning of the principal columns of the Official List of Securities quoted on the Exchange. The list is published, under the authority of the Committee of the Stock Exchange, twice a day; and before a company or institution issuing stocks and shares can procure a quotation certain conditions and regulations must be fulfilled to the satisfaction of the Committee.

The list does not express or imply to the public that the Committee pronounce any judgment upon the solvency or financial worth of the companies whose names appear; their inclusion simply proves that specified conditions for admission have been complied with. To assume that the insertion of a company's issues in the list should involve an opinion upon its stability would be to suppose a function which would not simply be utterly impracticable, but also entirely valueless. It would, at the best, be merely the judgment of a few men who might not be qualified to decide; and, however stable an institution might be on admission, it is clear that in the lapse of time virtual bankruptcy might succeed to the highest financial soundness. Besides, the Stock Exchange is an instrument for ensuring the facility and honourable conduct of bargains: it is in no sense a court of judgment upon credit.1

Inclusion of any security in the list not a guarantee of its financial worth.

Value Of The Stock Exchange List

The value of an authorised list of this kind cannot well be over-estimated in the interests of the public, for the prices there quoted enable an investor to compare the price at which he has recently bought or sold, and thus within reasonable limits (since prices are always in process of variation) perceive that he has obtained the current market value. He can also at once himself discover - without the delay and precariousness of vagrant inquiries, which may for various reasons be delusive or misleading - the price he is likely to realise or be required to pay.

The Various Columns Of The List

Without describing each column in the list we note that one column is headed "Interest due," that is, the dates when the interest upon any particular stock becomes payable in the year. The succeeding column bears the important title

"When x d or x in." This, on account of its apparent difficulty and significance to the investor, will be explained at sufficient length at a later stage. The rate of interest, when the rate is a fixed percentage, or the last rate of dividend (when the return is of the nature of dividend and, therefore, sometimes variable) of the security follows; then a column entitled "Quotations," and finally a column of "Business done." The column of "quotations " (being the prices prevailing at the close of business, and hence usually termed "Closing quotations") - expressed, for example, as 70-70½ - are not authoritative, that is to say, they are not the statements of the responsible officials of the House. They are simply valuations; the publisher of the list here inserts merely the values of the several stocks and shares at such amounts as the dealers in the different markets advise him to be fair estimates at the close of the day. In respect of securities which constantly or frequently form the subjects of purchase and sale, these quotations may be accepted as trustworthy indications of the actual values; but where dealings are not numerous in any security the closing quotation expresses only an expert's judgment upon the price at which business might possibly be done. The extent of the difference expressed in these quotations for any stock indicates, by their closeness or width, to the public the condition of the market - whether transactions have been brisk or less frequent, and whether, accordingly, he can promptly, or after some delay and difficulty, effect a purchase or sale. The quotations may thus, on the whole, be regarded as a genuine guide to the investor. The final column, "Business done," is a record of the prices at which sales and purchases have actually occurred during the day in question. This record does possess official authority as a presentation of facts. When a broker concludes a bargain for his client, either he or the jobber with whom he has dealt may, if he please, require it to be "marked" - that is to say, he may request that the price should be registered on a board (devoted to this purpose in the House) so that it may appear in the next edition of the official list as evidence to the public concerned of the price which has passed. But it is not customary or obligatory to mark every dealing. Indeed it is obvious - especially in a market where, under excitement or depression, favourable or adverse prospects and judgments, a multitude of transactions have occurred during the day - the space would be entirely inadequate for the record; and it does not appear that any really useful purpose would be served. For the records of prices at which business has been completed follow each other heterogeneously: thus we may perceive a closing quotation of 86¾-87, and a record in the following order of business done at 86¾, ⅞,¾,11/16, and so on, where it is impossible, except by vague conjecture, to decipher whether any particular price expressed a sale or a purchase; we simply are sure that every sale necessarily implies a purchase; still, the series of prices affords guidance.

1 The rale of the Stock Exchange simply states that the committee may order the quotation in the list of any security of "sufficient magnitude and importance."