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Individuals who do not have appropriate financial experience are either scared of the discouraging tales of average investors losing 50% of their portfolio value or too overwhelmed by the sea of trending tips that promise huge rewards but rarely ever pay off. Hence, it is not exactly a matter of surprise that there is a common saying that the pendulum of investment sentiment swings between fear and greed.
The truth is, stock market investments can be risky but if you approach them in a disciplined manner, it is one of the most efficient ways to create wealth. Though the average individual keeps a large part of their net worth in their home, the well-to-do folks typically keep a majority of their wealth invested.
Now to get you started in your wealth creation journey, let’s try to figure out what a stock is and how it operates:
What Is a Stock?
A stock refers to a financial instrument that indicates ownership in a company or firm and represents a certain percentage of the claim on its assets and earnings. Stocks are also known as shares or equity.
When you own a company’s stock as a shareholder you essentially purchase a part of the company that is proportional to the number of shares held with respect to the overall outstanding shares. For example, if an individual or entity is the owner of 100,000 shares in a company that has over one million outstanding shares, it means that they have a 10% stake in it. In general, organizations have outstanding shares that go well over millions or billions.
Why does a company issue shares?
Several companies that have now become corporate giants began their journey as small private entities that were launched by founders who had a vision that was way ahead of time.
But rapid growth demands a large amount of capital. Turning an idea into an operating company can be demanding. One would have to arrange for the right infrastructure, lease an office or factory, hire employees, purchase equipment and raw materials, and have a good sales and distribution network in place to get started. These resources would all require capital which could vary on the basis of the scale and scope of the business.
A startup is able to raise adequate capital in two ways: by selling shares (equity financing) or borrowing money (debt financing). Debt financing may not be as simple for a startup because it may not have a lot of assets to finance a loan and also the interest on the loan may just add to the financial burden. It can be particularly hard in the early days, when the company may have negligible revenues or earnings.
Equity financing is what most startups choose when they’re in need of capital. The founder could pump in the initial capital from personal savings, as well as friends and family, to be able to get the business started. However, with expansion, capital requirements increase and that is when the entrepreneur needs to reach out to angel investors and venture capital firms.
When a company wants to set its roots firmly in the industry, it is only natural that their capital requirement would be much more than what current operations or a traditional bank loan can provide. It can try to meet the capital need by selling shares to the public by opting for an initial public offering (IPO).
Remember that this would change the company’s status from a privately-owned entity where the shares are concentrated in the hands of a few shareholders to a publicly-traded company. Being a publicly-traded company means that its shares would be held by several investors from the general public. The IPO is also beneficial for the early investors in the company who may choose to cash out a part of their stake for great profits.
If you’re considering investing your money to create more wealth and to in turn boost your net worth, you may want to keep track of a few things. You should take into consideration the risk involved and ensure that it does not eat away at your profits. However, another thing that can cut down your profit is the costs involved: from fees to commissions.
Where and how to buy stocks?
The Primary Market
The primary stock market is the forum for direct exchanges between issuing companies and investors. It is different from the secondary stock market, which acts as a forum for previously issued stocks to be traded amongst investors.
The secondary stock market is the one that sees a lot of activity as this is where most investors buy and sell their stocks through public stock exchanges, like the New York Stock Exchange and the Nasdaq. These advanced platforms allow investors access to a secure and highly liquid way to carry out their trades instantly while the price fluctuations continue from changes in supply and demand.
Going by the law of supply and demand, every stock transaction must have a buyer and a seller. If the number of buyers for a stock is more than sellers, the stock price would go up and the opposite of this, would send the prices down.
The Secondary Market
Secondary market transactions that are carried out with the help of stockbrokers and now a lot of the trading volume comes via online brokerage firms. Typically, middlemen tend to charge hefty commissions for their service of connecting the buyers with sellers. Now automated trading platforms are in the picture; in conjunction with competition in the brokerage industry, this has brought down and in some cases eliminated commissions on particular assets.
This transition indicates a major move away from a transaction-focused business model to one that lays emphasis on developing deeper customer relationships. For the top companies, this includes offering a wider, highly integrated service that covers custodial banking, advisory support and customized research, data, and tools.
Benefits Of Investing In Stocks
In the course of time, many investors, irrespective of their experience levels have managed to earn a considerable profit by planning and investing in stocks. Good decision-making is key to boosting your chances of making a profit on your investments. Stock market investments have many advantages such as:
- Smooth transaction
- Diverse portfolio
- Continuous dividend
- Easy liquidity
- Short-term high returns