What is the Stock Market?

Understanding the stock market

Stocks are traded on stock markets, where buyers and sellers of shares in publicly traded companies meet. Stock markets function similar to auctions, with buyers stating the highest price they’re willing to pay (“the bid”) and sellers stating the lowest price they’re willing to accept (“the ask”). When a trade is executed, the price will fall somewhere between the bid and the ask. Stockbrokers typically place trades for portfolio managers or individual investors, such as yourself. In the United States, there are 13 exchanges that make up the stock market, with the New York Stock Exchange and the Nasdaq being the most well-known.

Simple Explanation

Even though stock markets are intricate, they all come back to one fundamental concept…

From New York to Hong Kong, stock markets serve as a platform for buyers and sellers to trade under a common set of rules.

Primary functions of the stock market

The stock market is essentially a place where the general public can buy and sell stocks of publicly traded companies. It’s like a farmers’ market, but instead of produce, people are trading stocks. Stock markets are highly regulated and complex, with prices that can fluctuate quickly. Here are three key activities that occur on a stock market:

• Stock buying: Both individual retail investors and knowledgeable institutional investors can acquire shares of companies.
• Stock selling: Each stock trade involves both a buyer and a seller.
• Issuance of stocks: If a private company is looking to raise capital, it can choose to sell off a portion of its ownership on the stock market through an initial public offering (IPO). Similarly, a public company can raise funds through a secondary public offering. After the stock is issued, it can be traded by the public.

The stock market isn’t limited to just stocks. “Securities” such as Exchange-traded funds (ETFs) and REITs are also options for trading (although there are variations in pricing and trading methods).

Are there risks to the stock market?

Yes. When you invest in the stock market, you need to be aware of both short-term and long-term risks. Stock prices can go up, but they can also go down significantly. In some cases, a stock may even hit $0, leading to a complete loss of your investment. That’s why having a well-planned strategy is crucial for investors.

When people say “the stock market went up,” what do they mean?

There are stocks from a wide range of companies being traded on stock markets. To get a sense of the overall stock market performance, many individuals tend to look at stock market indexes like the “Dow Jones Industrial Average” or the “S&P 500 Index.” The S&P 500 represents 500 of the biggest publicly traded companies in the US, weighted by their market capitalization. If the S&P 500 goes up, investors will talk about the stock market rising. If it goes down, they’ll talk about the stock market falling.

How does the stock market work?

The primary function of the stock market is to facilitate the buying and selling of stocks by bringing buyers and sellers together. It operates in a manner similar to an auction to determine stock prices.

• Buyers are always looking to pay the lowest price they can. Stockbrokers looking to purchase (or representing clients looking to purchase) can offer a price they’re willing to pay for a stock. The highest price offered becomes the “Best Bid.”
• Sellers are looking to sell their stock at the highest possible price. Stock owners or their brokers can signal their readiness to sell by setting an asking price, which represents the price they are willing to sell their stock for. The lowest asking price is identified as the “Best Ask.”

The difference between the “Best Bid” and “Best Ask” is known as the “Spread.” Both parties work towards a compromise, and the broker who facilitates the transaction earns the difference as their commission.

When you track a stock, you’ll see that the share price is always changing. These fluctuations are driven by the level of investor interest in buying or selling the stock, along with the frequency of trades occurring.

Stocks are bought and sold individually based on the bid and ask prices. These prices can fluctuate along with other companies’ stocks due to economic, political, and news-related factors impacting the overall market movement.

Who uses the stock market?

These are some key players you should be familiar with:

• Retail investors, like you, have the ability to purchase or sell individual stocks using your brokerage account. Once you make a trade, it gets sent to exchanges for execution.
• Stockbrokers, also known as “registered representatives,” undergo training and pass a licensing exam to be able to buy and sell securities for investors. They are employed by brokerages, which can either act as principals or agents in transactions, earning money through markups/markdowns (as principals) or commissions (as agents) on trades. Some brokerages also charge fees to customers who utilize their services to place orders and carry out stock trades.
• Portfolio managers are similar to restaurant owners – they place big orders for food since they’re catering to a large number of people. Similarly, portfolio managers make large trades in stocks because they handle substantial stock portfolios, which could be owned by other investors like you. If you have investments in a fund (like a mutual fund, retirement fund, pension fund, etc.), chances are a portfolio manager is responsible for managing the mix of assets (stocks, bonds, etc.) in the fund’s portfolio.
• Investment bankers assist businesses in going public by listing their shares on stock exchanges.

Who are the participants in the stock market?

The stock market runs on investors who are looking to buy or sell stock. But in between these traders, there are key players making money by offering services to investors.

• Principals: This broker-dealer firm holds a portfolio of shares that they are looking to sell to investors. They are also open to buying stock from investors who want to sell. Broker-dealers acting as principals make a profit by adding a markup to the stocks they sell and a markdown to the stocks they buy, similar to how a car dealer would adjust the price of cars sold to its customers.
• Agents: They’re right in the middle. An agent assists in connecting an investor’s request to buy or sell with the other party involved in the transaction. They usually charge a commission for providing this matchmaking service.
• The stock exchange: In the US, there are a total of 13 stock exchanges, with the New York Stock Exchange and Nasdaq being the most well-known. These exchanges collect a fee for each transaction conducted on their platform and also impose a listing fee on companies listing their shares.
• Custodians: They store your stocks on your behalf, mainly in electronic format to reduce the risk of loss, theft, or misplacement. Custodians are commonly paid by brokerage firms for providing this safeguarding service.
• Market Makers: Think of market makers as your go-to pal who’s always game. These firms are always on standby to buy or sell stocks at the prices you see listed.
• Retail Investors: Regular people, not experts. They can trade stocks or other assets using their own brokerage accounts.

Who regulates stock markets?

 With great power, there must also come great responsibility. The stock markets deal with trillions of dollars, which is why the US Securities and Exchange Commission (SEC) has been given the power to oversee them by Congress. Other countries and states have their own regulatory bodies. These regulators have a wide-ranging mandate, and their main focus is on people like you.

• Promote fairness
• Protect the investing public
• Maintain efficient markets

What are some rules of the stock market?

The SEC establishes regulations and standards that have an impact on everyone who engages in stock trading. Although these rules may differ in specifics across various stock markets in different countries, their aim is to protect investors through transparency, consistency, and accuracy.

• Price transparency: To maintain fairness, stock markets must make sure that participants can see the best “bid” (the price a buyer wants to pay) and “ask” (the price at which a seller wants to sell) prices.
• Confirmations: If you trade shares through a brokerage on the stock market, you have the right to receive a trade confirmation that provides essential information such as trade time, final price, and any commission or fee charged by your broker.
• Qualification exams: Stock traders need to be licensed by FINRA, which is a self-regulatory organization made up of exchanges and financial institutions. To get licensed, they have to pass some tough exams that test their knowledge of how markets operate, among other topics. The Series 7 exam, for example, is designed to make sure brokerage professionals are well-prepared and understand the general rules of the financial industry.
• Halts: If a stock or the entire market hits certain price or volatility limits within a specific time frame, trading could be temporarily stopped or even for a full day. This is an uncommon but important measure to protect investors from panicked trading and to bring back some order. There may be other important reasons for the SEC or exchange to halt trading.
  • Major News Updates: Stock exchanges can also pause trading for a stock if there’s major news coming out, giving all investors a fair chance to trade with the same information, such as a major acquisition or bankruptcy announcement. This helps prevent some investors from gaining an unfair advantage.

There are plenty of specific rules in place to ensure stock markets are transparent, reliable, and precise for investors. The goal of these rules set by regulators and organizations is to create a solid base for the market to operate effectively and build trust with customers.

Nowadays, one important aspect of today’s stock markets is having access to real-time price data. It’s crucial for making investment choices based on the latest information, which is why stock exchanges are putting more emphasis on providing faster and more precise pricing details.

What are some examples of stock markets?

The largest stock markets in the world based on market capitalization are located in the US: the New York Stock Exchange and Nasdaq. Other significant stock exchanges globally include:

• Euronext (operating in Amsterdam, Brussels, Dublin, Lisbon, and Paris)
• Bombay Stock Exchange in Mumbai
• TMX Group in Toronto
• Deutsche Boerse in Frankfurt
• Shenzhen Stock Exchange
• Shanghai Stock Exchange

These stock markets are where companies within a specific region list their shares. Traders from around the world can also access these regional markets, and shares listed on one exchange may even trade on exchanges in other regions.

What is the origin of the stock market?

Stock markets exist globally, connecting individuals looking to buy and sell shares in different companies. The idea of companies distributing ownership (also known as “equity”) to investors for trading has a long history, dating back hundreds of years. In the 1600s, European explorers would raise capital by selling shares in their company’s expeditions.

Investors bought stock to profit from explorers’ missions, such as the company’s quest for foreign spices to sell in Europe. The Dutch East India Company was one of the pioneers in this practice, selling shares in exchange for future profits on Amsterdam’s stock market. This led to the creation of some of the earliest stock markets.

What is the history of the modern stock market?

London was home to the first modern stock market. With little regulation, increasing interest in stocks from consumers, and limited company information available to the public, the market experienced high levels of volatility, risk, and potential fraud. This led to the establishment of the London Stock Exchange in 1773 to ensure more stable and fair stock trading.

The first modern stock exchange in the United States was founded in Philadelphia in 1790. Just two years later, the New York Stock Exchange (NYSE) came into existence after the signing of the Buttonwood Agreement by 24 stock-dealers outside of Wall Street in Manhattan under a buttonwood tree.

Today, the NYSE operates with a mix of electronic trading and a physical trading floor where human traders are based on Wall Street. The NYSE trading floor is now considered a National Historic Landmark. One of its famous customs is the ringing of a loud bell every morning (at 9:30 am local time) and afternoon (at 4:00 pm) to mark the commencement and conclusion of the trading day.

In 1971, Nasdaq made history as the world’s inaugural electronic stock market. It was also the first stock market in the US to embrace online trading, showcasing its dedication to technology. Unlike the NYSE, Nasdaq operates without a central trading floor manned by human traders. Today, Nasdaq is a top choice for tech companies seeking to list their shares.

The NYSE and Nasdaq, both located in Manhattan, New York, are not just the top two stock markets globally in terms of shares traded value, but they are also fierce competitors battling for companies deciding where to list their IPO shares. her a company goes with NYSE or Nasdaq doesn’t make much of a difference to you as a stock buyer or seller. You can still purchase stocks through your brokerage account regardless of the exchange.