So you’re considering taking the plunge into investing. Perhaps you’ve realized that investing can be an excellent means to mobilize your savings, planning for retirement or adding an additional stream of income. Keep reading to learn more about how a stock exchange works so that you can begin to build the financial know-how you need to begin investing.
What are stock exchanges?
Imagine stock exchanges as giant (very costly, diversified and active) farmers’ markets. At this particular farmer’s market, produce must go for a pretty penny because over $5 trillion dollars is traded here every day. Each stand represents a company that belongs to and participates in this market network.
Of course, the stands involved in the market are different. Farmer Joe’s Fruits and Susie’s Sweets have been in the market for decades and they have massive stands and costly products that increase in value every year. Their stands have some of the greatest market cap (total company value on the stock market) around.
There are medium and small competitors involved in the market, too, like Ivan’s Ice Cream and Florence’s Flowers.
How and why do companies get involved in the stock exchange?
In order to participate in the stock exchange, companies like Farmer Joe’s Fruits sell securities like stocks. Stocks are shares or imaginary pieces of a company which are assigned a proportional value according to the company’s overall value.
As such, since Farmer Joe’s Fruits has a large market cap while Florence’s Flowers has a small market cap, the individual shares of Farmer Joe’s company are more costly than those of Florence’s Flowers.
Read also: A simple guide to start investing in stocks
In our farmers’ market, all stands are interested in getting involved in the market because when they sell stocks, they can use the money they get in return from stockholders. Individual businesses might use this money to expand their business or invest in something else to bring in greater profits.
How and why do individuals buy stock shares?
Community members are, of course, interested in buying the products that each of these companies make (after all, Susie’s Sweets makes a killer apple pie and Ivan’s Ice Cream makes heavenly vanilla bean ice cream, which of course go together).
However, aside from buying goods, community members are interested in buying company shares because their initial investments can grow and become more profitable if the company performs well in the market.
For community members, these investments may represent a bit of a gamble. While there are certainly ways to mitigate risk by choosing diversified investment products like mutual funds and ETFs.
However, despite these tactics, no one can predict for certain when particular companies on the stock exchange will perform well. Traders, mutual fund investors, and others involved in buying and selling on the stock exchange study trends, risks to individual stocks, threats to the overall market and other factors in order to guess how companies will perform.
Because of this uncertainty and the importance of portfolio diversification to build a healthy financial future, many folks often also invest in other assets like precious metals, real estate and peer to peer lending schemes.
Happy investing!
While the prospect of investing might seem nerve-wracking at first, with a bit of financial know-how, you can begin to understand how the investment world works.
Continue investigating the Academy library to keep learning about personal finance and investment.
