Introduction

How do I invest in the stock market without losing my shirt? I don’t understand how all that stock market stuff works so I’d better stay away from it. I don’t know how to buy or sell stocks and bonds so I’ll let my investment advisor make those decisions. If I just go into the bank and tell them I want to invest my money, they’ll know what to do – right?

The fear of the unknown costs all of us opportunity, time and money. If you do an online search for “investing,” “stock market,” or some other similar term in the hopes of learning how it all works, you will usually be disappointed. Why? Because most search terms will turn up a plethora of advice on what to do, where to put your money, what you should buy, sell, or hold. But what if you want to simply learn what the main components of the stock market are so that you can decide if this is something you should get involved with? Well, you have come to the right place.

We are going to present a basic primer about the stock market as a possible investing tool for you. You will learn what some of the terms mean and how they apply to you and your decisions. What we won’t be doing is – offering specific investment advice, selling you on some product that we make money on, trying to entice you to do something you don’t understand. This will be your plain language reference point about the stock market and how it works. We will be adding bite-sized pieces as you continue to build one piece of information upon the previous one until you have a fundamental understanding of how it works.

Let’s start with a basic explanation of what a stock market is. Most mature economic countries have at least one stock market that is regulated by the government that is charged with overseeing the operations to be sure they are open and transparent to its participants. At its most basic, a stock market is simply an auction site where people have the ability to buy and sell something, specifically, investment vehicles. Let’s use a story to illustrate how this works: suppose you have a neighbor named Bob (a coincidence – perhaps) who likes to tinker in his garage. Through his tinkering efforts and needs, Bob creates a very useful tool to help him. He continues to use and refine his tool until he gets it working absolutely perfectly – fantastic!

Now Bob, our erstwhile tinkerer, is also a pretty bright business guy and starts to think that if his invention is so valuable to him, it might also be valuable to other people. What would it take for him to make it available to a wide range of people? He would have to build some sort of manufacturing facility, buy raw materials, hire employees, create a marketing campaign, delivery processes, sales people, accountants, lawyers and on and on. All of this will cost a lot of money. Bob has some savings but would he be prepared to risk his family’s financial well-being by using his assets to start his company. Perhaps he could borrow money from the bank but they will want him to assign all of his assets to use as collateral for the loan – too risky. Is there an alternative?

Let’s present an approach that is used every day all over the world to allow Bob to start his company. We are going to ignore the regulatory, legal and accounting requirements of this exercise to keep it simple and it does not affect your ability to understand the functions of a stock exchange. Neighbor-Bob decides that he is willing to give up some ownership in his new enterprise in exchange for the money/capital to get it started. He decides that the company will have 1000 units of ownership (shares) and that he is willing to sell half of these to raise the capital needed. Let’s suppose he needs 5,000.00 to get it going so he will sell 500 shares through the stock exchange at 10.00 each. This means that other people will buy a total of 500 shares – or units of ownership.

We should give Bob’s company a name. Let’s call the company Orange. Here is what has just happened. “Orange” has used the facilities of a stock exchange to raise the capital it needs to start operations. Bob, its president, can now utilize the money raised to begin building the company. What happens to those people who purchased units of ownership or shares and how do they get rewarded? Coming up next will be a discussion of common shares, and how they change ownership and value.