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A fuller description of equity can be found in section 4.3. For now we will consider an equity trade, which is depicted in Figure 3.9. The purchase of an equity (or share or stock) in a company entitles the buyer to partial ownership of that company. However we need to distinguish from whom we are buying.

Figure 3.9 Cashflows on equity spot trade

If we buy equity directly from the issuing company when it is first issued, we pay cash and receive goods (that is, a share certificate proving the equity entitlement). This is a regular spot trade with the extra consideration of dividends. If the company makes profits, it may decide to distribute them to its shareholders. The time of dividend payments is regular and predictable; the size of the payment is unknown and could sometimes be zero, so we depict it as a dotted line. Note that equity ownership has no maturity. Therefore the potential to receive dividends is everlasting unless the company closes or the shares are sold.

If, on the other hand, we buy equity from a secondary source (such as somebody who bought it directly from the issuing company), the trade is a simple spot trade. Once we have done the trade, our counterparty has no further obligations. It is the purchaser's responsibility to inform the issuing company to transfer ownership in order to attend and vote at shareholder meetings and be able to claim dividends.

There are a standard set of financial transactions where the underlying entity is equity. So we can buy futures, options and swaps on equities. These are described in this chapter for those products. The fact that the underlying entity is equity does not change the cashflows of these trades. The only difference is that at the end of, say, a physical equity option, one may be left holding equity and at that point the dividend cashflows will apply. Whereas, had the option been on silver, one may be left holding silver and there would not be any dividends.