How Does the Stock Market Work: Guide for Beginners

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The stock market is a general term given to global markets where investors can buy and sell different assets, most commonly stocks, which are shares in publicly held and traded companies.

Compared to other types of investments, the stock market offers relatively safe investment options, but it’s not without its risks. The better you understand what the stock market is and how it works, the more prepared you will be to avoid stock trading scams.

What Is a Stock?

When a company goes public, they offer up a number of shares of ownership in the company to anyone who wants to invest in the company in order to raise capital to fund the company further. Companies also commonly promise shares to early investors in exchange for seed capital. These shares in a company are known as stocks, but can also be referred to as equities.

Stocks are assets that rise and fall in value based on a company’s financial performance and other factors. Stock market traders aim to make investments based on predicted rises in market values in order to make a profit.

Market Values

The market value of a stock is the current value at which a stock is being traded. In other words, it is what it costs to buy a specific stock at a certain time, or how much you make if you sell the stock.

Trading Volumes

The trading volume of a stock is a measure of how many shares or contracts of that particular stock are being traded during a certain time period. The most common time period for which trading volumes are measured is a trading day or the timeframe during which the stock market is open on a day.

Types of Stocks

There are many different types of stocks, but the most frequently traded are common and preferred stocks.

Common

A common stock is the most basic type of stock issued by publicly traded companies and accounts for the vast majority of stocks available on the market. In business terms, a stock is equal to a vote on a company’s board issues and other matters.

For instance, if a company has 100 shares on the market, and you own 5, you have a 5% share of that company and 5 votes on the board.

Preferred

Preferred stocks are like common stocks, but with the added benefit for shareholders that they payout guaranteed dividends. For example, you might receive a %1.5 annual dividend of the total price of all the preferred shares you own in a company. Preferred stockholders also waive their voting rights in a company they own shares in.

How Does the Stock Market Work: A Basic Understanding

What Is the Stock Market?

The stock market is where public companies issue shares for investors to buy and sell amongst themselves. In other words, when shares are bought and sold on a stock market, investors are actually buying them from or selling them to other investors, rather than dealing with a company directly.

What Is Stock Market Volatility?

Stock market volatility is the rate at which the prices of stocks increase or decrease over certain periods of time. More volatility means more risks, although the nature of the stock market means that there is always some level of volatility.

How Does the Stock Market Price Work?

In general terms, stock market prices are driven by supply and demand — the more demand there is for a stock, the higher its price is, and vice versa. Supply and demand can be affected by many different factors.

For example, if a company announces a successful fiscal quarter and large profits, there may be a rush of investors looking to buy the stock because they see great future potential for the company. This in turn drives up the price of the stock.

How Do Companies Make Money From Stocks?

When a privately-held company decides to go public, they hold an IPO or an initial public offering. When this happens, the company offers up a predetermined number of shares in the business, which are typically backed by banks who arrange for them to be sold on stock exchanges.

In return for offering up shares for sale to public investors, the company receives capital, which they can then reinvest into the business. Periodically, companies will release more stocks onto public stock exchanges to raise more capital as needed.

What Is a Stock Exchange?

Stock exchanges are individual markets on which stocks are bought and sold. There are many major stock exchanges throughout the world, a few of the most active and well-known being the New York Stock Exchange (NYSE), the London Stock Exchange (LSE), and the Tokyo Stock Exchange (TSE).

Over-the-Counter Exchanges

Over-the-counter stock exchanges are smaller markets where stocks are traded for companies that may not meet the requirements to be listed on the big markets, such as the NYSE. Stocks traded OTC are typically bought and sold via broker and dealer networks.

Trading on over-the-counter exchanges is riskier than trading on the big stock exchanges because they are not as governed and regulated.

Why Do Companies Issue Shares?

Raising Capital

As we mentioned above, the main reason that companies issue shares is to raise capital. While early-stage companies can often raise money through private investments, many companies eventually reach a point where they need larger sums of money to continue growing. This is when a business may decide to sell shares in itself on public stock exchanges to raise more capital.

Listing Shares

When a company reaches a point where they cannot raise enough money by issuing more shares and/or getting more private investments, they can go public and start offering their shares on public stock exchanges through an IPO. This process is known as listing shares. When a company goes public and lists its shares, this is when early-stage investors have the option to sell shares they may have received in return for their earlier investments.

How Does Investing in Stocks Work?

In order to actually invest in stocks, you must trade them through a stock trading platform or broker. Traditionally, this was done over the phone or in person, but now there are many online and mobile platforms that make investing in stocks easier than ever.

What Happens When You Buy a Stock?

When you buy a stock, you become a shareholder in the company of that stock. Depending on the type of stock you buy, this gives you certain rights within that company, such as the right to vote on corporate decisions or the right to receive dividend payouts from the business.

Once you own a stock, you also own an asset that changes in value, the same as owning a property or any other physical asset. The difference is that a stock is not something you can touch or see. Stock trading platforms keep track of all the stocks you own and show you their current value to help you make decisions about buying and selling them.

What Happens When You Sell a Stock?

When you sell a stock, you receive a sum of money equal to the market value of the stock at the time you choose to sell it. Ideally, you want to make a profit by selling stocks, although there are some cases in which you might decide to sell stocks that are plummeting in value to avoid even further losses. If you sell all your stocks in a company, you are no longer a shareholder of that business, and thus do not have any shareholder rights.

Stock Trading vs. Options Trading: What’s the Difference?

Whereas stocks represent individual shares in a company, options are contracts with other investors in which you bet on which direction a stock’s price will go in, how high or low it will go from its current price and the timeframe in which all that will happen.

Options trading is much more complex than stock trading, and thus presents more risks, especially for beginners.

Risks With Investing in Stocks: Getting Scammed on Stock Exchanges

Though stock exchanges and stock market trading are regulated and theoretically safe to do (as long as you’re OK with the risk of stocks losing value), there are various stock market scams out there to be aware of.

For example, some companies or individuals spread false information in an effort to artificially inflate stock prices, then sell off all their shares for a profit. This causes the price to drop back down again and new investors typically lose money.

There are also fraudulent investment advisers and brokers out there who charge you fees for bad investment advice, so you lose money both to them and on poor investment decisions.

These are just a couple of examples of the many ways scammers take advantage of stock market investors. In order to avoid stock market scams, there are two general golden rules to follow:

• Always independently verify any information by checking it with a reputable source. This goes for both information about a company or advice from an investment adviser or broker.
• Don’t believe anything that sounds too good to be true, because it probably is. The stock market is not a place to “get rich quick,” and anyone claiming they can tell you how to do so is probably lying.

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PayBack are experts in getting money back from stock exchange scams. Should you find you fell into a trap and you have been completely ripped off, all is not lost. Contact us today to learn how we can help you retrieve your money from a stock exchange scam.