The average person’s interest in the stock markets has been growing steadily over the last few decades. And thanks to the advances in trading technology, markets that were once thought of as the exclusive domain of the rich and powerful, have opened up to such an extent that almost anyone can own and trade in stocks. The average person now has access to information on how to trade in the stock market not to mention the various brokers and companies that offer to help people invest their money wisely. Before you even think about investing, you should look at a decent economic calendar, like this one here from Louis Harris.
Yet despite its popularity, a lot of ‘normal people’ don’t really understand enough about how the stock market works. They hear stories about how someone they know ‘made a killing’ on the markets last year, or they listen to a colleague at work spouting ‘hot tips’ about which stocks to buy. Or from another colleague they’ll hear about a distant cousin who ‘lost his entire life’s savings’ in some windy financial deal. Chances are that neither of those colleagues have a clue what they’re talking about.
These examples are why we have put together this short guide to the stock market. Our goal is to provide you with enough information in order for you to make an informed decision if you want to invest in stock. We will explain what a stock is, talk about the different types of stocks, where they are traded, and what causes their value to go up and down. But before we start, here’s a little tip; whether we say stock, shares or equity—it makes no difference—they all mean the same thing.
What is stock?
Put simply, a stock is a share in a company. Try to think of it as a claim on the company’s profits and assets. The more stock you own the larger your stake in that company. As soon as you purchase a stock you become a part-owner of the company—what is known as a shareholder—and yes, that part is usually very small, but it does entitle you to a portion of everything the company owns. And as an owner you are also given the right to vote in matters that could affect the value of the stock. Who would have thought that you, the average person, could be part owner in a billion dollar business – That is the excitement of owning stock in a company.
What are the different types of stock?
Stock comes in two main types; preferred and common. The preferred stock usually comes with a fixed dividend that is guaranteed by the company more or less forever. Preferred stock is also ‘callable’ which means that the company can recall that stock whenever they like. When this happens, the preferred stock holder is usually paid a higher price for his stock than the price he paid.
Common stock, on the other hand, never comes at a fixed rate. It is the change in value of these stocks that make the markets fluctuate. Seen long term, common stock offers higher profits (yields) than almost any either kind of investment. But they also carry the highest risk. Should your company go bankrupt, you will find yourself last in line to receive your money, behind bondholders, creditors and even preferred stock holders. This is where the example of the cousin who lost their life savings in the stock markets comes in. If you invest in something that goes bankrupt you could lose everything.
A stock exchange is basically a physical market where buyers and sellers meet to decide the value of stock. We have all seen those pictures of the trading floor where traders shout and wave their arms around—but nowadays we also have virtual stock exchanges which consist entirely of a network of computers. People trade stocks completely online.
It is worthwhile here to distinguish between primary and secondary stock markets. A primary market creates securities, and the secondary market is where these securities are traded. In other words, primary stock is traded between company and buyer while the secondary stocks are traded through a third party. It is this secondary market that most people mean when they talk about the stock market.
Why does the value of stock rise and fall?
Hardly a day goes by without the price of stock changing. This is a result of what is known as ‘market forces’ which usually translates to supply and demand. The more people wanting to buy a specific stock will drive the cost up which then makes the price of that particular stock higher; while if there is less interest in a particular stock the price will go down. This is what causes the ups and downs of the stock market prices. Buy low sell high is the general rule of thumb when investing in the stock market. It is important to o your research and ask questions from those who have experience in buying, selling and trading in the stock market.
These constant changes are what make the stock market so difficult for most people to understand. Often the price is determined by positive or negative news about a company, but generally speaking, there is no real reason why some traders like a particular stock but dislike another. Undoubtedly you have heard many different theories about why stock markets move the way they do—unfortunately, no one can say for sure which theory is right.
The stock markets can be a great experience or a negative one. It is important to do research on various companies before investing money. There is no guarantee when investing money in the stocks. The company that was once on top and making money hand over foot one day could be bankrupt the next. The news and people’s opinions factor into how the stocks rise and fall which is why investing money is so confusing and exciting all at the same time. Many people invest their money in several different companies to try and ensure they do not lose everything. Is this strategy right for you? Only you can be the judge of that.