Pricing of Securities

By: EconomyWatch Content   Date: 23 February 2010

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Pricing of securities is done after considering several factors such as the fundamentals of the issuer, the quality of assets being used as collateral, the purpose of raising the funds and the industry fundamentals. The expected demand for the security and the prices of securities of other players in the industry are also considered in fixing the price of a new security.

Pricing of Securities: Types

Securities can be debt, equity, or hybrid with some features of both equity and debt. Fresh or new securities are issued through the primary market, the purchase and sale of old securities is done in the secondary markets. Most of the debt instruments are traded over-the-counter, rather than through stock exchanges.

The issuers of new securities along with their advisors or bankers fix the price of the security according to the risk and returns accompanying it. In the case of securities traded in the secondary market, prices are driven by the market demand for them, the industry fundamentals, the interest rates and the prices of securities of competing firms.

Securities issued by government agencies carry a lower rate of return than those of private companies due to lower risk accompanying the former. The value of a bond depends on the issuer’s credit standing, its features such as the existence of call and put options, convertibility and guarantees. 

Factors Determining the Pricing of Securities

Several factors determine the price of a new security.

ü      The industry in which the issuer operates and its fundamentals

ü      The fundamentals and the credit rating of the issuer company

ü      The type of security, equity, debt or hybrid

ü      The features of the security being issued

ü      The duration for which the security is issued

ü      The quality of assets backing a security

ü      The various risks, such as the prepayment risk associated with mortgage and other loans

ü      Whether the security is guaranteed by any organization

ü      Whether the security’s performance is linked to an index

ü      The prevailing interest rates

Pricing of securities is not an easy task and requires a thorough analysis of all the factors affecting the performance of the security.


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