From the Wolf of Wall Street to Margin Call, movies can make the stock market look like a wild, fast-paced environment where people become overnight billionaires or lose everything they have. In reality, the stock market isn’t quite that exciting, and is much more complex.
Learning about the stock market may feel overwhelming. But understanding the fundamentals of how the stock market works is the key to your success.
So what is the stock market? The stock market is a collection of exchanges where stocks (pieces of ownership in businesses) are traded between investors. By understanding how that process works, you can begin to make informed decisions about how to invest your money.
To understand the stock market, you first have to know how stocks work. Companies sell stocks, also known as equities, to raise money to fund expansion. If you buy stocks, you own shares of ownership in a particular company. For example, you can buy shares of Apple, Inc. or Tesla and get a (likely small) ownership stake in the company.
Stocks are bought and sold on market exchanges. When people talk about the stock market, they’re usually referring to the major market exchanges where stocks are traded. Two of the best-known in the U.S. are the New York Stock Exchange (NYSE) and the Nasdaq.
In the past, market exchanges were physical places. Today, exchanges are often digital, so trades can happen electronically from anywhere in the world. That said, the NYSE — known for the signature bell that signals the start of trading hours each day — still operates a physical trading floor where brokers buy and sell stocks on behalf of their clients.
Not just any company can be part of the stock market. Each exchange has its own requirements for a company to be listed.
Once a company is approved to join an exchange, it becomes “publicly traded.” Publicly traded means that anyone — not just company insiders like employees and board members — can buy and sell the company’s stock.
The company also has to comply with federal regulations and submit its financial records on a regular basis to the U.S. Securities and Exchange Commission (SEC). You can view those financial filings at any time by visiting the company’s investor relations page or by looking it up through the SEC website.
While stocks are the best-known type of investment, there are other investment options that you can choose from. Here are some of the most common types:
Stocks: If you buy stocks, you have a fractional share of the company. You can earn money if the stock’s price goes up and you sell it for more than you paid. Some stocks also pay dividends — a portion of the company’s profits that is paid to shareholders.
Exchange-traded funds (ETFs): A type of investment fund that typically tracks a group of assets, like stocks or bonds. ETFs are bought and sold on exchanges just like stocks.
Mutual funds: Like ETFs, mutual funds allow you to invest in several stocks, bonds, money markets and other assets in a single investment vehicle at once. When you invest in a mutual fund, your money is pooled with investments from other investors to buy groups of stocks.
Index funds: Index funds are types of ETFs and mutual funds. With index funds, you invest in a fund that tracks a market index — that is, a portfolio of stocks or other securities in a particular part of the market. For example, the S&P 500 and Dow Jones Industrial Average (DJIA) are market indices. The S&P 500 is an index of the 500 largest publicly-traded companies in the U.S. based on market capitalization, while the DJIA is an index of 30 large, publicly-traded companies in the U.S.
When you're researching stocks, you'll find pricing is all over the place. Some stocks cost as little as a few dollars. Others, such as well-known companies like Tesla, could cost hundreds of dollars per share.
What drives stock prices? There are three major factors:
Supply and demand: Stock prices are largely determined by supply and demand. That is, how many people want to buy or sell the stock at the current price. If more people want to buy a stock than sell it, the price goes up. If more people want to sell a stock than buy it, the price goes down.
Company news and profits: Another factor that affects stock prices is company news and profitability. If a company releases good news — like better-than-expected earnings reports — investors may be willing to pay more for its shares. On the other hand, if a company has bad news — like layoffs or declining sales — investors may be less likely to buy its shares, and the stock price may fall.
Investor sentiment: Investor sentiment is another important factor in setting stock prices. When investors are pessimistic about the economy or think that a recession is imminent, stock prices typically fall.
Now that you know how the stock market works, you may be ready to start buying stocks yourself. Depending on your goals and comfort level with investing, you may want to use one of these three major approaches:
If you have access to an employer-sponsored retirement plan, such as a 401(k) or 403(b), you may be able to use your plan to invest in stocks, mutual funds and other securities. Many employer-sponsored retirement plans offer a selection of investment options, such as index funds based on your targeted retirement date, and some even offer guidance on how to invest your money.
With many 401(k) and 403(b) accounts, you can make contributions to the account via payroll deduction. And some employers will match a portion of your retirement contributions, helping you save more money over time.
If you don’t have an employer-sponsored plan — or want to invest for other goals besides retirement — another option is to open a brokerage account on your own. Some common reasons people open a brokerage account include:
Retirement: You can open an Individual Retirement Account (IRA) and invest in stocks, mutual funds and ETFs to save for retirement.
Education: If you want to invest money for your child’s future, you can open a UGMA/UTMA.
General: If you have other goals, such as starting a business or buying a house, you can open a taxable investment account to buy and sell stocks and other securities.
While the movies highlight how much money can be made by investing, they usually skip over just how much work investing can be. Managing a portfolio of stocks, deciding what to invest in, and monitoring stock market conditions can be time-consuming, and even experts make mistakes.
Another way to invest in stocks is to open an account with a robo-advisor like Acorns Invest. With a robo-advisor, you generally answer some questions about your financial goals and how long you want to invest your money. The robo-advisor platform will typically offer automated algorithm-driven financial planning services with little to no human supervision. Portfolios are normally managed by the robo-advisor and depending on your investment objectives, they can be a good choice for new and hands-off investors, particularly those with long-term investing goals.
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