Introduction to the Stock Market
Welcome, readers! Today, we’re diving headfirst into the exciting world of stock markets… For those who are unfamiliar, stock markets are like gigantic global supermarkets for buying and selling shares of companies. It wouldn’t be completely amiss to say that they’re kind of like the beating heart of the modern economy, where fortunes are made, lost, and then maybe made again.
Stock markets are fascinating, but to beginner investors they can also seem complicated and daunting. That’s why it’s crucial to understand how stocks work before you start investing your hard-earned cash. So let’s roll up our sleeves and get started, shall we?
In this blog, we’ll explore the question that has perplexed many: “How do stocks work?” We’ll also take a look at how stocks make money, touch upon investing for beginners, and examine whether investing in stocks is a good idea.
Definition: What is a Stock?
Before we dive into how stocks work, let’s first define what a stock is. In simple terms, a stock is a share in the ownership of a company. When you buy a company’s stock, you’re buying a piece of that company. You become a shareholder, which means that you may have a claim on part of the company’s assets and earnings.
Stocks are also known as “equities” because they represent equity (ownership) in a company. When a company sell their company stocks to the public for the first time, they do so through something called Initial Public Offering (IPO). They often do this to raise new capital, either to fund new projects or to grow and expand their current operations.
The public (us) can then subsequently trade the stocks of the IPO on the secondary market, which is where investors buy and sell stocks from each other.
It’s important to know that if/when you own stocks of a company, you’re not just buying a piece of paper. You’re buying a piece of a business and investing in the company’s future and banking on its success.
How Stocks Work?
Now that we’ve understood what a stock is, let’s cover the mechanics of how stocks work. Stocks can represent a claim on the company’s earnings and assets. As a result and as a shareholder, you likely have the right to a portion of the company’s profits, which some companies pay out as dividends.
Stockholders might also have voting rights, typically one vote per share owned although this depends on the type of share that the company issues. These rights allow you to influence the company’s decisions, although the extent of this influence varies depending on how many shares you own. However, sometimes companies don’t want shareholders to have voting rights, and in these instances, they may only issue non-voting shares.
Lastly, it is important to know that the price of a stock is determined by two correlated factors.
- Supply and demand
- The company’s success
If a company is successful and profitable, the demand for that company’s stocks increases. Since the supply usually stays the same, the increased demand drives up the price. Of course, conversely, if a company is doing poorly then fewer people will want to own its stock, driving down the price.
How Do Stocks Make Money? Understanding Profit Mechanisms.
Knowing how stocks work now lets us tackle another important question: “How do stocks make money?” There are two main ways you can profit from stock investments. These are dividends and capital appreciation.
- Dividends are a portion of a company’s earnings that are paid out to shareholders.
- Not all companies pay dividends, but those that do typically distribute them on a regular basis.
- Companies that do offer dividends are usually well-established with solid profit margins.
- Dividends are great because they can offer investors a steady flow of income. However, you usually sacrifice the chances of strong capital appreciation.
- Capital appreciation occurs when the price of a stock increases.
- If you buy a stock at a low price and sell it at a higher price, you’ve made a profit. This is the principle behind the classic investing advice: buy low, sell high.
The Process of Buying and Selling Stocks
Buying and selling stocks sounds like a complex process, but it’s actually quite straightforward. First, you need a brokerage account. This account acts as your gateway to the stock market.
Once you’ve set up your account, you can start buying shares. To buy the shares you place an order on your brokerage account, specifying the company you want to invest in and the number of shares you want to buy. Your brokerage will then purchase the shares on your behalf.
Selling stocks works in a similar way. You place an order to sell, specifying the company and the number of shares. Your brokerage will then sell the shares on your behalf. The money from the sale will be deposited in your brokerage account.
Is all of this giving you a Headache?
You’re not alone. While the process of buying and selling stocks is covered in full in my Investing as an Expat guide, people choose to reach out because reading something is not the same is being taught it. If learning is the same for you, don’t hesitate to book a session with me below.
Is Investing in Stocks Good? Weighing the Pros and Cons.
So, is investing in stocks a good idea? Like many things in life, the answer is, “it depends.” Investing in stocks has its pros and cons.
On the positive side
Stocks have the potential for high returns. Historically and over the long term, stocks have consistently outperformed other investments like bonds, commodities or high-yield savings accounts. Investing in stocks also gives you a chance to be part of a company’s success story, if that is something that you care about.
Things like Exchange Traded Funds (ETFs) have also made investing in stocks much easier and safer through immediate diversification and bundling many stocks into one purchase.
On the downside
Stocks can be incredibly volatile, especially if you invest directly into singular stocks instead of investing in funds and/or ETFs. Stock prices can fluctuate wildly, due to the company’s performance, market conditions, but also human factors such as market sentiment and the company’s management.
If a company is incredibly mismanaged or has been overhyped by unwarranted market sentiment, there is a chance that the stock price can crash with the risk that you could lose some, most or all of your investment.
Investing in stocks requires patience, diligence, and a willingness to take on risk. But for many people, the potential rewards are worth it.
Investing for Beginners: How to Start Investing in Stocks.
If you’re a beginner, starting to invest in stocks can feel daunting. But don’t worry, we’re here to help you navigate the process.
First, set clear investment goals. Are you saving for retirement, a down payment on a house, or your child’s college tuition? Your goals will shape your investment strategy.
Next, educate yourself. Read books, articles, and blogs about investing. Understand how the stock market works, how to analyze stocks, and how to manage risk.
Finally, start investing! You don’t need a lot of money to start. Many brokers allow you to buy fractional shares, which means you can start investing with just a few dollars.
Strategies for Wealth Creation through Stock Investment.
Creating wealth through stock investment requires a sound strategy. Here are a few tips to help you build your wealth.
Diversify your portfolio. Don’t put all your eggs in one basket. Invest in a mix of stocks from different sectors and industries, or make the whole process easier for yourself by investing in low-cost ETFs.
Think long-term. Stock investing isn’t about getting rich quickly, nor should it be to speculate on a hot stock tip you received from a cold-caller or Instagram post. Investing is about building wealth over a loooong time. Be patient and stick with your investment strategy, even when the market is down.
Reinvest your dividends. By reinvesting dividends you can compound your returns which vastly accelerates your wealth creation. If you are investing in funds and/or ETFs, then keep your eye out for ‘accumulating’ funds as these automatically reinvest any interest or dividends received.
Conclusion: Taking the First Step Towards Stock Investment.
Investing in stocks can be a powerful way to build wealth and secure your financial future. But like any investment, it comes with risks. To be a successful investor, you need to understand how stocks work, how stocks make money, and how to manage these risks.
So, before you dive into the world of investing, make sure to read a lot about stocks and the stock market. You should also understand the benefits of funds and ETFs in order to diversify and manage your risk.
Lastly, you’ll want to consider all the various types of assets that exist outside of stocks. These include bonds, real estate, commodities, deposit accounts and many more.
If you’re struggling to understand the ins and outs of the stock market or just want to learn more follow my Instagram or reach out for a coaching session or two!
