Investment Company and Variable Contracts Products Representative (Series 6)Practice Exam

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What is the main role of a stabilizing bid in the context of a new issue's price?

To raise the price significantly
To prevent the price from falling
To enhance the value of existing shares
To provide shares to institutional investors

The correct answer is: To prevent the price from falling

The main role of a stabilizing bid is to prevent the price of a new issue from falling below its offering level. When a security is newly issued, it can be subject to price volatility as it begins trading in the market. Stabilizing bids are typically made by the underwriter or other market makers to support the price during the initial trading period. This activity helps to create a more orderly market and instills confidence in both investors and the issuer by ensuring that the price remains stable or does not decline significantly right after the issuance. This mechanism plays a crucial role in maintaining the integrity of the new issue, as a substantial drop in price immediately following the offering can discourage potential investors and damage the issuer's reputation. Therefore, the stabilizing bid serves to absorb some of the selling pressure, contributing to a smoother transition for the newly issued security as it finds its market equilibrium.