Money and Finance
Money and Finance
How the Stock Market Works
What are stocks?
A stock represents ownership in a company. Each share of stock is worth a certain percentage of the company. For example, if a company has 100 total shares, then each share represents 1% of the company. If you own 51 shares, then you own the majority of the company.
In really big companies, like Apple or Microsoft, there are billions of shares of stock owned by people. If you own one share of Apple, you own less than 1 billionth of the company.
Why do companies sell stock?
Most of the time companies sell stock to raise money in order to expand. By selling stock they don't have to take out a loan and pay interest, they just sell part of the company. The money they get from selling stock is then used to do things like hire more employees, develop new products, and build new buildings.
What is a stock exchange?
A stock exchange is where stocks of all sorts of companies are bought and sold. There are stock exchanges throughout the world. Two of the largest stock exchanges are the New York Stock Exchange and the NASDAQ in New York City.
A Stock Market Example
Suppose you owned a very successful sandwich shop. It made lots of money and everyone in town loved to eat there. The shop made around $80,000 in profit every year. You had the idea to open 9 more shops around the country. With 10 total shops, you would make $800,000 a year in profit. However, it costs a lot of money to open 9 new shops. One option would be to take out a loan from the bank. Another would be to sell stock in your business.
Let's say you decided to sell stock. You sold 50% of the company to people in shares of stock. This gave you enough money to open the 9 new sandwich shops. At the end of the year, you may decide to reward your investors with half of the profits in the form of a dividend. Assuming all your new shops were just as profitable as the first one, you would pay them $400,000. This would leave you with $400,000. You didn't make all the money, but you made a lot more than when you had only one shop.
A lot of people invest in the stock market. The potential returns from the stock market tend to be higher than interest from the bank. However, the stock market is more risky, too. In the stock market your money could double in a few years. This is much better than getting just a few percent at the bank. However, your money could also be cut in half if the stock market crashed. At the bank, your money is guaranteed by the government. It may not grow a lot, but you won't lose it.
Bear Market and Bull Market
People often use the terms Bear Market or Bull Market to describe the current state of the stock market. A Bear Market is one where stock values are falling and most people feel negative about the future of the stock market. A Bull Market is one where stock values are going up and people are optimistic about the future of the stock market.
Interesting Facts About How the Stock Market Works
- The first company traded on the New York Stock Exchange was the Bank of New York.
- The Dow Jones Industrial Average is a number based on the stock price of the 30 largest companies in the United States. It is used by many to judge how the overall stock market is doing.
- Several billion shares of stock are traded every day on the New York Stock Exchange.
- The largest companies in the world by stock market value in 2014 are 1) Apple, 2) Microsoft, 3) Exxon Mobil, and 4) Google.
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Note: This information is not to be used for individual legal, tax, or investment advice. You should always contact a professional financial or tax advisor before making financial decisions.
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