What Is the Stock Market?
The stock market is a collection of markets and exchanges whereby stocks and other equities are issued and traded. The equities are either traded on a stock exchange or over-the-counter.
The stock market has an important place in the economy. Here, companies can easily access capital to expand their existing business, or to fund acquisitions. In exchange for a portion of their company.
In most cases, stock market trading hours are between 9:30am-4:00pm, Monday to Friday. The market will often close on public holidays including New Year’s Day and Independence Day.
Why Should I Invest in The Stock Market?
The stock market is a great place to invest any extra funds you may have, and many people have become wealthy through stock market investing. However, as I will explain below, you should only invest money you won’t need in the near future, as the market is prone to fluctuations.
To give an insight on the average returns achievable in stock market, here are some statistics; Let’s use Apple’s IPO date for this example. $10,000 invested in the S&P 500 on the 12th of December 1980, would be worth $896,593 on the 12th of December 2018, assuming all dividends were reinvested.
This was achieved with a compound annual growth rate (CAGR) of 12.56%.
Dividends
Consistent income through dividends is another advantage to stock market investing.
A dividend is a payment made by a corporation to its shareholders, usually as a distribution of its profits. They are generally paid semi-annually.
Investors have the option to reinvest their dividend payments to purchase more stock of the company.
An advantage of opting in to a dividend reinvestment plan is the absence of brokerage fees when purchasing more stock. Also, you are not required to pay tax on the income received until you eventually sell the stock in the future. You may be able to purchase shares at a discount when opting in to a dividend reinvestment plan (DRIP).
Stock Market Growth Rate
For the past 100 years, the U.S equity markets have grown at an average CAGR of around 10%. Meaning your investment will increase in value by 10% every year, on average.
Investment gains are generally not consistent. Some years the market may rise 40%, and others it may fall by 5%. It’s important to keep this in mind when considering a stock purchase.
Is the Stock Market Risky?
Some people refuse to invest in stocks. “It’s too risky” or “I don’t want to lose all my money” are common excuses thrown around. However, as previously mentioned, the stock market has proven to be a consistent, lucrative investment vehicle over the past 100 years.
This consistency can be achieved by purchasing index funds.
Index funds purchase all of the companies in an index, to provide you with a diversified portfolio of well-established companies. Also, they generally charge low annual fees, typically 0.05% to 0.15%.
Stock Market Trading
Trading in and out of the stock market regularly is risky and follows different principles to “investing”. It is commonly stated that 90% of traders lose money in the stock market and I do not favour this strategy.
Common Investment Approaches
There are many investment strategies used today, I will provide some examples below.
Value Investing
Value investing is an investment approach whereby the investor purchases stocks they believe are undervalued. The value investor aims to make a decent return while minimizing risk.
Value investors will commonly assess the annual and quarterly reports of a company to make a valuation. The price/book value, price/earnings ratio, earnings stability, dividend record and more may be assessed when determining the value of a company.
Dividend Investing
Dividend investing is an investment strategy in which stocks with a strong long-term record of earnings and dividends are favoured. When adopting this strategy, your goal will be to receive regular income while experiencing a low level of portfolio volatility.
The Growth Stock Approach
The growth stock approach is an investment strategy whereby the main goal for the investor is to increase the value of their portfolio.
Typically, growth stocks pay minimal dividends. This is in exchange for a rapid increase in per share price, typically faster than the market.
What Is an Initial Public Offering?
An IPO or “initial public offering” is the first time a company releases its stock to the public for purchase.
Before a company goes public, it is considered private. Once a company goes public, they are obliged to follow certain rules decided by the exchange in which they are housed. For example, forming a board of directors and regularly reporting auditable financial and accounting information.
To reiterate, companies may go public to access capital to expand their existing business or to fund acquisitions.
History of The Stock Market
Stock markets have existed since the early 1500’s, although the first official stock exchange to form was the London Stock Exchange, in 1801. The NYSE, or New York Stock Exchange, was formed soon after, on March the 8th 1817.
The NYSE is currently the world’s largest stock exchange by market capitalization. Sitting at a staggering $US22.59 Trillion at the time of writing.
Stock Market Indexes
A stock market indexes track the prices of many stocks on a particular or set of stock market exchanges.
They are typically a market cap weighted average of several stocks or other investment mediums from a section of the stock market. Market index values are determined by the sum of the stocks that make up the index.
Indexes are used to illustrate the performance of an entire market overtime. Because of index weighting, larger companies have a more profound effect on the index.
For example, Microsoft Corporation, the biggest company by market cap currently listed on the S&P 500, has a 7.3% weighting on the Index.
Despite being only 1 of the 500 companies listed on the index. The company also has a market cap of $US814.05 Billion at the time of writing. To sum up, indexes are a great indicator of the performance of an exchange or market overtime.
To learn more about ways to invest in the stock market, visit our ETFs vs Mutual Funds post.
