How the Stock Market Works – The Basics

How the Stock Market Works – The Basics

The Stock Market can be hard to understand, but it does not need to be difficult. 

Here is an overview of the stock market.  This blog is an introduction.  It discusses stocks, the stock market, how it works, how you buy and sell stocks, and who are the players.  It is an overview.  For more information, please visit my other blogs, and of course, any questions, please drop me a comment!  

NYSE

What is a Stock?

A stock (or share, same thing) represents a piece of ownership in a company.  When you own one share, you own a piece of the company.   

Authorized Shares

When a company is initially formed, it authorizes a number of shares in its Certificate of Incorporation that it can use to sell, gift, transfer, etc.   So, if a company authorizes 10,000,000 shares, it can then sell, or issue (a fancy word for sell), up to 10,000,000 shares or its authorized shares.  

Purchase

Just like anything else in life, if you want something, you typically have to pay for it.  The same applies here to stock.  If you want to own a stock, then you typically have to buy it.   Some other ways to own stock is through stock options, warrants and gifting of shares.  

Issued and Outstanding Shares

The shares that are sold to you are called “issued and outstanding”.  The total amount of shares that have been sold by a company are called the “total amount of shares issued and outstanding”.   Issued stock is different than outstanding stock.  To learn more about the differences, visit Difference between Issued and Outstanding Shares.

How much do you own?

If there are 100,000 shares issued, and you own 10,000 shares, then you own 10% of the company.  The percentage of stock you own is calculated by taking the total amount of shares issued and outstanding and dividing it by the total amount of shares you own =>  total/yours.

Common Stock v. Preferred Stock

Just like there is gold and silver, there is preferred and common stock.  The preferred shares typically rank higher than common shares, meaning, if there is a bankruptcy, or dissolution of the company, the preferred shares typically get paid first, ahead of the common shares.  

Preferred Shares

As such, the preferred shares are usually more expensive.  Preferred shares also carry additional terms and conditions.  Sophisticated methods can be used with preferred shares by companies to avoid losing control of their business.  Learn How to Protect Yourself from Losing Control of Your Company

stock market paper

What is the Stock Market?

Just like eBay, Craigslist, and Facebook Marketplace, the stock market is a place where you can “buy” and “sell” your common shares to others.  It’s a platform, in essence, for selling and buying common shares (and other securities as well, such as derivatives, stock options, warrants, and bonds).  

Initial Public Offering (IPO)

In addition, the stock market is a platform for companies to raise money and sell their shares to the public, which is called an Initial Public Offering (IPO).   In an IPO, the company will sell a certain amount of shares to the public in the stock market, for you to buy.  You purchase the shares from the company, pay them “x” amount of dollars and you receive IPO shares and the company receives “x” amount of dollars.

Open an Account

Ok, so how do you go about purchasing shares?  First, before you can buy and/or sell your shares in the stock market, you need to open an account, a brokerage account.  There is a process and an application, etc., to set up a brokerage account and typically most people go through their stock broker or through an online trading platform (day trading, typically left to people with thick skin!).  

Check FINRA

Be sure to check out the online brokerage firm to ensure they are registered with the Financial Industry Regulatory Authority (FINRA), the regulatory agency that overseas all brokerage firms.  

Brokerage Account

You can set up all different types of brokerage accounts depending on your needs, such as, individual, company, trust, etc.

Once your account is set up, it works somewhat like a bank account.  Just like a bank, you make deposits and withdrawals.  In your brokerage account, you deposit your shares and then you transfer your shares when you sell them in the stock market.

Online Trading Platform

Most people use a broker to buy and sell shares, or if you know what you are doing, you can buy and sell shares by yourself through an online trading platforms, such as, TD AmeritradeInteractive Brokers, and Ally Invest.

In addition, Bankrate addresses common inquiries like how to get started with penny stocks and the outlook on potential returns.  Bankrate also will lay out what to look for when investing in a penny stock and the types you should avoid.

Here is a link to their guide: https://www.bankrate.com/investing/penny-stocks/

Bankrate.com is the trusted source of financial data for outlets such as The Wall Street Journal, The New York Times, and CNBC.

Equity v. Debt

Common stock is an equity.  A bond (or loan) is a debt.  If you buy common stock, the company sells you the stock free and clear; the company does not owe you anything in return, just the stock.  However, if you buy a bond, the company sells you a type of loan that says the company owes you the money back, plus interest.  

Loans

When you loan your money to the company, the company pays you back the original amount of money you loaned, plus interest.  With a bond, you don’t “own” any part of the company.  With a common share, you own a piece of the company.

Stock market hands

What is a Stock Exchange?

There are thousands of stock exchanges around the world.  Two famous ones are the NY Stock Exchange and NASDAQ.  

A stock exchange is a market where stocks and other securities are bought and sold.  It’s no different than going to the clothing market to buy clothes, or the spice market to buy spices, or the gold market to buy gold.  Most markets require a vendor to buy a permit, and also demonstrate to the person(s) or organization running the market that they are a reputable supplier and seller.  The vendor pays for the permit, it sets up shop, the doors open, and the buyers (hopefully) come and buy.

Rules and Regulations of Exchanges

The same or similar concept applies to a stock exchange; it’s a type of market.  Each exchange gets to set its own rules and requirements, fees, etc. for companies (i.e. vendors) that want to sell their shares on their exchange; not only does the company get the benefit of selling its shares on the exchange, but you do too!  

Each exchange has qualifying terms, such as the number of shareholders in the company, the company revenue, the minimum share price, the number of market makers in the stock, and various other terms.  There are initial listing requirements and then there are ongoing requirements for companies to meet that enable them to stay and remain on the exchange.  If a company fails to meet the ongoing listing requirements, the company and its stock get “delisted” or removed from the exchange.  

Exchange or No Exchange

Not many companies qualify to trade their shares in the Top 4 Stock Exchanges in the World.  But, even if a company doesn’t trade on one of the top 4 stock exchanges, does not mean the stock is not worth something, or is of no value.  It’s always best to speak with an experienced stock broker or adviser prior to buying any stock.

The OTC (Over the Counter) Bulletin Board or OTCBB

The OTCBB is not an exchange, but rather an inter dealer quotation system used by market makers.  The OTCBB also has listing requirements and maintenance requirements and in order for a company to trade its stock on the OTCBB, it must meet those requirements.

How do I buy Shares?

There are many theories, ideas, algorithms, etc., that people use to figure out what shares to buy.  Certainly if anyone could figure it out, there probably wouldn’t be a stock market any longer.  There are a lot of factors that go in to choosing one stock over another, but this blog is not about “what” stocks to buy, but rather about “how to” buy them.

Shares are purchased by you through your broker, or through an online trading platform.  Most brokers cannot recommend any shares for you to buy, but rather, will take your order and process it.  That’s it in a nutshell.

How do I find a Buyer for my Shares?

Most shares are sold in the open market, meaning the stock market.  As with buying your shares, the same process is used in selling your shares.

Stock Market Players

Here is a list of the key players in the stock market.

 
 
BizandTravelBlog.com is published by Virginia K. Sourlis, an attorney licensed in the state of New Jersey. This site does not provide legal advice and it does not create an attorney-client relationship with anyone. This should not be considered legal advice. You should seek an attorney for your own situation. This website is for informational purposes only. Any and all views and opinions expressed on this site are solely those of the author and do not reflect the views of Virginia’s law firm. BizandTravelBlog.com is not associated with any organization, group or institution, unless otherwise specifically noted.
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