This article will help you in understanding the basics of stock market and how trading takes place.
what is the stock market?
Stock market or stock exchanges are market places where people and financial institutions buy or sell the shares. Companies seeking funds for investment can raise funds through issuing equity on the stock exchange. The companies sell a part of their shares in exchange for some funds. They use the stock market to facilitates this exchange as a marketplace. This market place works as a platform where potential buyer and seller meet to make this exchange.
How trading takes place?
To get a clearer picture let us take an example. Suppose Mr X owns a company. After being in the market for some time Mr X is planning to expand his company. To expand his company, he does not have the required capital. He turns towards people who will invest in his company in exchange for a small part in the ownership. Mr X can raise funds for his company by generating initial public offerings (IPO) of his shares in the market.
After receiving the desired capital for expansion Mr X expands his company and increase the overall profit. The profit of the company must be shared with the stockholders of the company. This part is called is the dividend. Dividend refers to residual earning of the company after interest and taxes.
If the investors want money in exchange for their shares in that company. They can sell their portion owned in that company at a certain price through the stock market. However, the price of this exchange depends on the market forces i.e. “demand” and “supply”. If the company is doing good and potential investors see a better future, he will have a higher demand for the share. It will increase the price of the shares and vice versa in case if there is less growth prospective.
determination of price in the stock market
The prices of the shares are based on the complete market mechanism. If more people to sell and less to buy, the price of the share will go down. On the other hand, if more people to buy fewer people to sell, the prices will go up. In India, there are two such markets which facilitate the sale and buy of shares. The BOMBAY STOCK EXCHANGE (BSE) and the NATIONAL STOCK EXCHANGE (NSE). Companies can launch their IPO’s in these markets and people can buy it.
People before investing in any company need to understand the possibilities and probabilities of their failure and success. Understanding 5000 companies for investing is not everyone’s cup of tea. This is where the market index comes to play. Investors can just track these indices to get an idea of the entire stock market. An Index is basically a basket of companies which are picked in order to replicate a certain part of the market. The index takes the stock prices of all its constituents and then transforms it into one clean number.
The indices for the above two markets are SENSEX for Bombay Stock Exchange and NIFTY50 for National Stock Exchange. SENSEX is an index of the 30 largest companies of the BSE. While NIFTY 50 is an index of the 50 largest companies of NSE. Thus, with the help of these two indices potential investors can get an idea of where to invest and from what to refrain from.
Author: Sneh Srivastava MA Economics