Since the crash of 2008, investing in the stock market has gotten a pretty bad rap. A lot of people are afraid of investing in stocks, especially young adults.
In addition to being afraid of the volatility of the market, many people also hesitate to invest in stocks because they are confused about how to get started.
Are you part of this group? Have you found yourself asking questions like “How does the stock market work?”
If you’re totally lost when it comes to understanding the stock market, keep reading. Explained below are some important stock market essentials that everyone ought to know.
What Is the Stock Market?
Let’s start from the very beginning with a simple explanation of what the stock market is.
The stock market is a system that involves the issue, purchase, and sale of the shares of publicly traded companies.
Stock is a share of ownership in a specific company. If you buy stock in Apple, then you own a small portion of that company.
Types of Stocks
You can break stocks down into two categories: public stock and private stock. You may have come across these terms on the news or in finance publications, but do you have a clear understanding of what they mean?
As the name suggests, private stocks are private. Members of the public do not have access to them. When businesses choose to remain privately held, their shares can only be issued to investors and their employees.
For companies that want to grow but can’t finance expansion from private investors alone, going public allows that growth to happen.
When a company decides to go public, members of the general public are able to purchase stock in the company.
In the beginning, when a company goes public, they do something called an initial public offering (or IPO). This involves the company (along with an underwriter) announcing that it will make a specific number of shares available at a specific price.
A lot of factors go into setting that initial share price.
For example, a roadshow might take place during which companies pitch to investors in order to get an idea of the market’s appetite. The state of the market will play a role, too.
How Does the Stock Market Work?
The stock market is definitely a complicated system. If you understand the basics of how it functions, though, you’ll have an easier time deciding which stocks to purchase and when to sell them.
Why Do Stocks Go Up and Down?
Stocks increase and decrease in value based on a number of factors.
The law of supply and demand is one of the main factors that can contribute to the movement of stocks, though.
If there is high demand for a stock and not a lot of sellers, the price will go up. If the opposite is true, the price will decrease.
Demand is driven by a lot of things. Sometimes, it’s the news of a new product being released. For example, Apple’s stock might go up when an announcement goes out about a new iPhone being released.
Stock movement and demand can also vary based on the public’s opinion of a company or its leadership. For example, if scandalous news is released about an employee of a company, their stock’s value may go down.
How Does the Economy Affect the Market?
The economy can have a significant impact on the market, too. If people have a good feeling about the economy (they see that people have jobs, they see that wages are going up, etc.), they’re going to be more inclined to buy stock.
When people have more disposable income (and are confident that they’re going to be able to keep that disposable income), they’re more likely to buy stocks, as well as other goods and services.
Bull and Bear Markets
When you start learning more about the stock market, you’ll likely come across the terms bull market and bear market.
A bear market indicates falling stock prices (usually by 20 percent or more). A bull market indicates rising stock prices.
The market ebbs and flows, and bull markets tend to come after bear markets (and vice versa). The good news, though, is that bull markets tend to outlast bear markets.
Tips for First-Time Investors
Are you ready to invest in the stock market? If so, here are some tips to help you get started:
Know Your Budget
When you first begin investing, you need to figure out how much you’re going to invest. As a general rule, it’s best to never invest more than you’re willing to lose.
Once you have your budget figured out, it’s time to buy stock.
You can’t buy stock directly from a company. You have to work with a stockbroker in order to make your purchases.
A stockbroker can also give you advice on which stocks to buy.
Diversify Your Portfolio
Be sure to diversify your investment portfolio. If you make a variety of investments, you’ll be less likely to suffer significant losses in the event that the market takes a downward turn.
Take Emotion Out of It
Finally, leave emotion out of the equation. It’s easy to act out of fear or greed and try to buy or sell your stocks the second the market goes up or down.
If you’re patient and avoid acting on emotion, though, you’ll be more likely to experience long-term wealth growth as opposed to short-term gains and losses.
Invest in the Stock Market Today
Now that you can answer the question “how does the stock market work?” with confidence, are you ready to start investing?
If you keep this basic information in mind and remember the tips listed above for first-time investors, you shouldn’t have any trouble beginning your investment journey.
Do you want to learn more about the stock market and other investment options? Do you want to go from investing newbie to investing ninja?
If so, be sure to check out some of the other money management articles on our site.
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