How does the Stock Market work?

If I were to ask any of you a good way to start investing your money, you would most likely tell me that the stock market is the place to do it. I have a feeling that many of us young professional don’t have that great of an understanding of the stock market. It is important to realize that although it is possible to make a lot of money on the stock market, it is just as easy, if not easier to lose a whole lot of money.

First of all, what exactly is a “stock”?

A stock is a unit of ownership of a company. Often when starting companies, it is necessary to raise a lot of money. To do this, the founders of the company will sell part of the ownership of the company. They assign the company a certain number of shares to start with and start selling off fractional pieces of ownership in return for money. The number of stocks can range from 1 share all the way up to billions of shares. To own a share of stock means that you are in fact a partial owner. You technically can attend annual meetings and vote for the Board of Directors. You’re also entitled to a dividend (more later).

Where are stocks bought and sold?

Short answer is: stock markets. The big two in the US are the New York Stock Exchange and the NASDAQ. The “market” is open Monday through Friday 9:30-4pm EST and trades upwards of billions of shares daily. Most modern countries today have their own stock exchanges where they trade stock of companies that do business in that country. Formerly it was more manual, stock brokers would be on the floor calling out “buy” or “sell”, nowadays its more automated with computers. Stocks are listed by their ticker name, often an abbreviation.

  • Coke – KO, Apple Computers – AAPL, Google – GOOG

Can I buy stocks?

Absolutely! Anyone can open an account and start trading stocks. Find an online brokerage that suits your needs, I’d recommend checking out Scottrade.com or Etrade.com, both solid options. The good ones won’t ever charge you any fees except to actually trade stocks (buy or sell). I use Scottrade and they charge $7 per trade.

How does one make money off of stocks?

There are two primary ways that investors make money off of stocks:

1) Price appreciation: In theory, over time, good companies that are making money will continue to do so and become more valuable in the eyes of other investors. This should cause the price of the stock to rise (“appreciate”). For example, I bought SiriusXM (SIRI) radio a year or two ago and they have done financially well. I bought my shares at $1.89 and now the stock is worth $3.06 (current as of the writing of this article). That mean’s I’ve made $1.17 per share, multiply that by the number of shares I own…cha-ching!

2) Dividends: As an owner of the company, you are entitled to part of the earnings that a company makes. Part of the profit a company makes (the money left over after paying all the taxes, bills and to actually make the product) belongs to you. Companies that pay dividends often pay them quarterly. That means that 4 times a year, you’ll get that per share dividend * the number of shares you own deposited into your account. For example, I own stock in the Coca-Cola Company (KO) and on April 1st of this year, I will be paid $0.28 per share of stock I own. That’s money right there simply for owning the stock!

What causes the price of stock to fluctuate?

A better question would be what doesn’t cause stock prices to fluctuate. I’ve heard that studies have shown that the market does better when the sun is shining, and worse on rainy days. Companies have to report their earnings 4 times per year, so depending on how much money they’ve made, and if it is better or worse than what was expected, that will cause a price fluctuation. Rumors of new products or failing brands cause fluctuation. Warren Buffet (super famous investor) once commented that if he could, he would turn his TV/computer off for years and not check the price of the stock. I think that’s a good rule of thumb. As a casual investor, you should be focused on the long term appreciation of your stock. As I said previously, in theory, strong companies that are growing and have strong profits will see their stock price appreciate.

Where should I start looking into stocks?

  • www.finance.yahoo.com is a great place to start. Let’s walk through an example of what you’d see researching a company:Yahoo Finance2

I’d encourage you to hop on Yahoo Finance and play around a big. Try looking up the stock of your favorite company and seeing if you can grasp a feel for the numbers behind the stock.

Look forward to my next post when I try to outline basic stock investing strategies!

Had a good or a bad experience with stocks? We’d love to hear about it! Shoot us an email at: youngmoneyfinance@yahoo.com

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