How The Stock Market Works: Don’t Be Confused Any Longer!

how stock market worksThe stock market tends to confuse a lot of people, which probably explains why only half of our country’s population is currently invested in it.  Many people believe it is nothing more than legalized gambling, comparing it to the likes of sports betting and blackjack.  However, when you grasp the true understanding of how the stock market works, you’ll see there’s a lot more to it than trying to make 21 with a deck of cards.

Generally speaking, the stock market is in existence to allow companies to offer shares to the public.  A share is  a divided-up unit of the value of a company.  The public can purchase these shares from the stock market, and therefore “owns’ a piece of that company.

Why Should I Purchase Shares of a Stock?

Just because you own stock, it doesn’t technically mean you can partake in all of the decision making for a company.  Some businesses have shareholder meetings though, which allow you to vote on certain issues and ideas that may alter the company’s future outlook.  But is this the main reason to participate in the stock market?

I can speak for almost everyone when I say the answer to that question is simply “no”.  One main reason for purchasing shares it to hope that the company grows over time.  When a company expands and increases its earnings, the overall value of that company rises.  This will result in your shares increasing in price as well.  When this happens, you can sell those shares for more than what you originally paid for them, making your bank account that much bigger.

Another reason to invest is in hope that the shares you own pay a dividend.  A dividend is a quarterly cash payment and is determined by the company.  Mature companies are known for paying out dividends to shareholders, but it usually depends on how well the company did for that quarter.  Good companies tend to increase the dividend slightly on a yearly basis if they have the resources to do so.  Otherwise, they can decline to raise it or even skip it if they choose to.  Dividends provide great returns over time, particularly if they are used to purchase additional shares of that same company stock.

If you want to learn more about purchasing stocks, this course guided by a technitrader around the market will go into further details about how you can do just that as well as teach you about the different types of investing available.

Why Do Companies Sell Stock To The Public?

In order for a private company to enter the stock market, it must “go public”.  This means it has to issue an initial public offering (IPO).  An IPO is a first and one-time only sale of publicly traded stock shares in the company.  Once all the shares of an IPO are sold, the stock then becomes tradable through the stock exchange.  So why would a company want to go through this process?

The main reason almost every company decides to enter the stock market is to raise capital.  Rather than having to borrow from the bank and pay interest back, the company can instantly raise money and use it to expand their locations, pay off debt, increase workforce, or purchase anything necessary for the good of the business.  And if the company ends up failing after a few years, the founders don’t lose all of their money.  Instead, they lose several thousand smaller chunks of other investor’s money.

Some companies, especially in the tech industry, tend to go public for another reason.  They often get their start-up money from venture capitalists instead of shareholders.  The venture capitalists in return are given a percentage ownership in the company.  So when that company decides to go public, the venture capitalists can sell their shares to make profit on their original investment, while the founders of the company can also sell some of their shares and make money without having to give up some of the control of the company.

Lastly, companies can generate publicity and visibility by going public.  From a marketing standpoint, this can be a great strategy.  Public companies are known to receive more attention from newspapers, television networks, and other businesses.  A successful IPO can turn a company around by attracting the attention of potential partners or merger candidates.  The general public is also more aware of the company, which in turn can increase the business’s sales and profit.

All of these benefits unfortunately come with a price tag.  Otherwise, wouldn’t every company want to enter the stock market?  Going public is an expensive, time-consuming process, and it isn’t meant for every business owner.  There are rules and regulations that must comply with the U.S. Securities and Exchange Commission (SEC), meaning you will have to hire specialists to take the company through the process, including attorneys, accountants and advisors.  Along with the expenses are other disadvantages such as equity dilution, loss of management control, and increased liability.  For these reasons, every company must determine whether going public is worth it for them or not.

What Determines The Share Price Of A Company?

When a company first decides to go public through an IPO, an investment bank will evaluate the company’s overall value.  This is usually done by calculating the net present value of the company or by comparing it with another similar company.  Afterwards, the company will divide the number of shares it wants to offer.

The next step is to release the IPO.  From here on out, the price of the stock is dependent mostly on public perception.  If the public thinks the company isn’t doing that well, the demand goes down as well as its value.  Conversely, if the public believes the company is thriving, investors will jump on the stock, making the demand and value rise.

Types of Stock Exchanges

Say you owned a sandwich shop, and you were looking for investors to launch another location.  How would you find these investors?  You could place ads on the internet and newspapers, but that could take some time.  And if you did find investors, and they decided to sell their shares in the future, who would buy them?

The stock exchange (or stock market) is here to help that type of situation.  In the United States, there are three big stock exchanges;  New York Stock Exchange (NYSE), American Stock Exchange (AMEX), and National Association of Securities Dealers (NASDAQ).  Without these exchanges, buying and selling stock would be extremely difficult.  They act the same way as a supermarket does when selling food.  People go to the supermarket because it’s a convenient way to buy a wide range of food and other products.

Learn How To Trade Stocks

Now that you have a clear understanding on how the stock market works, you are ready to start learning how to invest and trade like the pros.  It is important that you learn about investing the right way rather than just picking your favorite company to purchase shares from.  That is usually how a lot of people end up losing money in the stock market.  There are also penny stocks in which you can purchase.  You might assume that there is no money to be made trading penny stocks because of its name, but if you take this course, you will see how Tim Sykes turned $12,415 into $2 million.