When people are talking about the stock market, the first thing that usually comes to mind is the New York Stock Exchange.
But what are stocks? Why is the stock market such a big thing? How do you invest in the stock market?
What are stocks?
Before you delve into the intricacies of the stock market, the first thing you should understand is what exactly a stock is.
Stocks, which are also known as shares, are portions of companies that people can buy, and therefore own part of the company.
But even though you may own a part of a company, only those who have invested a lot of money into the company have any real say in how the company is run.
There are two different types of shares: preferred shares and common shares. When you invest in common shares, there is a greater risk of losing part or even all of the investment that you have put into the company should the company stop functioning.
Why is this?
Because creditors, bond holders and preferred share holders have a higher rank than the common shareholders, and because of this they will get the first chance to get some of the money they have put in if the company goes out of business.
By the same token, the investors who have preferred shares have a higher standing than the ones with common shares, but still have to get in line behind the creditors when it comes to how much of the company they own, or getting paid if the company goes out of business.
In addition to having more of a say in the company decisions than those who have common shares, investors who have preferred shares can also look forward to higher dividends.
There are two ways to purchase stocks – investors can either use a brokerage, or buy their stocks through Direct Investment Plans or Dividend Reinvestment plans.
If you decide to purchase stocks through a brokerage, you can go one of two ways. If you are going to trust the experts to do the right thing, and leave it in their hands, then you should go with the services of a full service brokerage.
A cheaper alternative is to opt for a discount brokerage firm. Discount brokerages are less expensive because they don’t give you the full level of service a full service brokerage does for you.
If you decide to invest using a Direct Investment Plan or a Dividend Reinvestment Plan, check to make that the company that you are interested in investing in offers such plans because not all of the companies do.
The History of the Stock Exchange
One of the biggest misconceptions is that the first stock exchange in America was the New York Stock Exchange.
But those who think that this is true might be surprised to find out that the first stock exchange in America was actually in Philadelphia, PA, and it was founded in the year 1790. The very famous New York Stock Exchange was not founded until two years later, in 1792.
Another thing that you hear talk about with regards to the stock exchange is Wall Street. Sometimes people wonder how it got its name.
That is actually a very interesting story.
Back in 1653, a twelve foot stockade was built by the Dutch settlers to guard against British and Native American attacks. The sturdy wall stood for over 30 years, until 1685. At that time, the wall was torn down and a street was built in its place – hence the name Wall Street.
The stock market has evolved greatly over the past few centuries. From its humble beginnings in Philadelphia, PA, to the New York Stock Exchange, which is known worldwide, the stock market has grown in leaps and bounds. That’s not to say that there haven’t been problems.
Most everyone has heard of the great stock market crash of 1929. There are now steps that the government has taken to prevent such a large crash from happening again, but that doesn’t mean that the possibility still isn’t there.
The stock market is a place where you can make a lot of money but you can also lose a lot of money as well. If you have decided that you want to try investing in the stock market, it’s a good idea to do some research and get advice from people that you trust and who are already investing in the stock market.
But be careful, because if you don’t invest wisely you can lose a lot of money. Be wise with your investments and take the time to do your homework. This will help you to make the right decision when it comes to your investments.
The difference between investing and gambling
Before researching this topic I thought the answer to the difference between investing and gambling would be clear-cut. Instead I discovered it really comes down to what you choose to invest in.
It is a fact that the stock market has grown at approximately 10.5% per year since 1926, including all the market crashes since then, which appear as little blips on a steep incline in the whole scheme of things.
So to effectively take out the risk (gamble) of investing it would be wise to invest in household names for the long term. If you were around in 1919 and were luckily enough to invest $4,000 in Coca Cola, you would have got yourself a $600,000,000 return by now!
Or if you had purchased just ONE share, you would by now you would, through dividend reinvestment and stock splits, be a millionaire.
A more recent example would be Microsoft. If you invested $10,000 in 1986, you would have had a $6,000,000 return by 2000.
To find companies like these to invest in you would look for index funds that perform well or mimic the Wilshire 5000, SP 500 or Russell 2000.
If you buy into stocks on a whim, do no research or act on a tip from someone who doesnt know his bears from his bulls then this behavior could be construed as gambling rather than investing.
The boundaries between gambling and investing start to merge more when you employ strategies like day trading and swing trading, or when you invest in biotech companies that have drugs that are currently being researched in clinical trials, etc. The emotions and rush of adrenalin must be similar as you weigh up the wins and losses each day.
Really the difference boils down to the fact the longer you stay in the game with investing, the more likely you are to succeed and be the winner but the longer you stay at the casino table the more likely you are to lose everything.
Creating an investment portfolio
There are certain steps to take when you are creating an investment portfolio and different things to consider. This quick guide will help you to figure out exactly what you need to do to make your money work for you.
1. Figure out what you are saving for
It’s always a good idea to outline your goals and this way you know exactly what you are planning to do. Are you doing this so that you have money for college for your kids? Are you looking to buy a house, a new car? Or is this going to create a nest egg for when you retire?
2. Figure out when you will need the money
Next you are going to figure out when you are going to need the money. Obviously, its not a good idea to invest if you need the money within a few weeks. Its always a good idea to plan ahead with your investments. But planning ahead will help you to understand how much of a return you will need on your investment. Depending on how long you can keep the money invested, you might put it into stocks, mutual funds, bonds, etc.
3. Figure out how much to invest
Don’t invest more money than you can afford to invest. If your circumstances change, you can always invest more money later. Always make sure you have an emergency fund (cash on hands) that will cover your expenses for at least 3-6 months should something unexpected happen.
4. Figure out your risk factor
Decide how much of a risk you are willing to take. There are plenty of investments that offer better returns but with a risk factor that is higher than others. If you love risk invest in penny stocks. If you hate to risk, mutual funds are probably the best choice for you.
But sometimes it is best to diversify. Put some money into stocks, some into mutual funds, etc. This way the risk will be moderate, but return can be higher than if you just invested into mutual funds, for example.
5. Put it all together
Once you know the details of your investment, put it together in a portfolio, including when you need the money, how much to invest, and what you are expecting as a return.
6. Speak with a counselor
Next you want to go and talk to a counselor who specializes in investing and see if they can offer any advice to help you to achieve your goals.
Or you can save some money and figure this out yourself if you are educated enough to make this kind of decisions. But since you are reading this you are probably interested in making this kind of decisions yourself, sooner or later.
7. Look over your portfolio
You should take your portfolio out at least once a year and see where you are with your investment; Preferably more often!