advantages of stock market essay

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Why Is Investing Important?

Investing is not just beneficial, it is necessary for retirement

What Is Investing?

Why should you invest, how much money should you invest, how to start investing, frequently asked questions (faqs).

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Not everyone saves for retirement, and even those who do may not be putting away nearly enough to last through the retirement years. A 2020 Federal Reserve study showed that about 25% of non-retirees were not saving for retirement. However, everyone needs to invest to create wealth, beat inflation, and save for retirement and other financial goals.

Investing does not need to involve saving large sums of money. Due to compound interest, you can earn money on your initial amount invested plus all the accumulated interest from previous periods. While everyone should be investing, each person has a different investment strategy that fits their personal and financial goals.

Learn what investing is, how much money you should invest, different investment strategies, and where to begin when investing.

Key Takeaways

• You do not need a lot of money to begin investing. Even small amounts of your money can earn money faster due to the power of compounding.
• Investing can help to create wealth, meet financial goals, beat inflation, and save for retirement.
• One investment strategy does not fit everyone. Your investment choices will differ from those of your friends and family.
• Your investment strategy depends on your financial situation, how much risk you are willing to take, how long you hope to invest, and other factors.

Investing is the act of purchasing assets or goods with a goal of generating income and appreciation. Investments, which are assets or goods purchased, are used to create future wealth. Often, these goods are in the form of stocks or bonds, but can also involve real estate or alternative assets such as cryptocurrency or gold.

Investing your money is important for a few reasons. You want to create wealth to help during times of need, job loss, or for future goals. You also want to take advantage of compounding while taking into consideration inflation, so your money is not worth less over time. In addition, if you plan on stopping work at some point and retiring, investing is important to help you achieve those goals.

Let’s examine a few of the reasons why investing is so important.

Wealth Creation

Wealth could mean different things to different people. It could mean a certain amount of money in your bank account, or it could be defined as certain financial goals you set for yourself. Either way, investing can help you get there.

If your aim is paying off debt, sending your child to college, buying a home, starting a business, or saving for retirement, investing can help you reach those goals faster than money accumulating in your bank account.  By investing, you can build wealth, which is the increase in value of all of your assets.

Wealth creation is not just a goal that may help you through your lifetime. You can leave behind a financial legacy by building generational wealth through investing. Generational wealth can not only provide strong financial footing for your children, but may be a step toward bridging the wealth gap faced by many communities.

Compounding

With investing, you can take advantage of compound interest .  Compound interest is the interest you earn on your invested money plus the money earned in each prior period. It is sometimes called “interest on interest.” Compound interest allows you to grow your wealth quickly. For example, if you invested $50 a month for 15 years, your total contribution over that period would be $9,000. Assuming a 10% rate of return, that $9,000 would grow to over $19,000 in that period thanks to compound interest.

You can visualize different scenarios of how your money would grow by using a compound interest calculator .

To Beat Inflation

Inflation refers to the overall increase in price level of products over time. If prices are rising over time, this means your money buys less today than it did yesterday. If there is inflation over a period of 30 or 40 years, your money will be worth considerably less while the cost of living has grown. One way to beat inflation is to invest your money. If your money earns more than the inflation rate, this means your money is worth more tomorrow than it is today.

If you plan on stopping work and retiring, you need to have a large amount of money saved to live off of when you no longer work. Investing can help bridge the gap between what you save and what you need to live off of for 20 or 30 years.

To start investing for retirement, you can start working backward from a number you set for yourself for retirement savings. That number can be determined by thinking about how soon you want to retire, and what kind of lifestyle and expenses you think you will have in retirement. You then can come up with an investing strategy for retirement aligning your current financial situation with your retirement goals.

While you can invest for short-term goals such as buying a home, most people invest to fund their retirement. In the U.S., people typically choose to retire around 65 years old if they are financially able to. This means that for the reminder of their lifetime, they will need to rely on their investments to fund their lifestyle. There are still expenses that need to be paid in retirement, such as utilities, housing, food, and any travel.

To figure out how much you should invest now to fund retirement or other goals, financial experts suggest a few different methods.

These rules or formulas may not work for everyone. Consider your financial situation before deciding how much and how to invest your money.

Save 20% of Your Paycheck

Some experts suggest saving 20% of your paycheck . That means you can live off 80% of your income for all of your housing, needs, and wants. This method is used by many for the simplicity in setting aside a portion of their money each paycheck. In most cases, you can automate 20% of your paycheck to go directly into an investment account each month, which makes this method one of the most favorable methods to use. However, that may not be possible for everyone.

The 4% Rule

Another rule of thumb that many financial experts use is the 4% rule. It suggests that by withdrawing 4% of your retirement funds each year, you will have enough money to live off of, while still generating enough returns to maintain its current value even after adjusting for inflation. For example, if you have $1.25 million in retirement savings, in accordance with the 4% rule, you could withdraw $50,000 in the first year. The next year, you should be able to withdraw another 4% of the remaining balance, and the cycle should continue for each year you live in retirement.

This rule is useful because if you can estimate your annual expenses in retirement, you can work backward from this amount, and determine how much money you need to save each month during the time you have left until retirement.

One Investment Strategy Does Not Fit All

Your investment strategy is personal and should depend on your goals and risk tolerance. You may have a few short-term goals, such as purchasing a car or home, and also some longer-term goals, such as saving for retirement. Understanding your personal risk tolerance is important because different people are willing to stomach large swings in the value of their investments, while others get very nervous if an investment falls in value.

Often, investments recover in the long run. The S&P 500, which is one of the major stock indexes people track, has given an annualized 12% return over the last 10 years as of March 2022.

If you are uncomfortable with risk, this will shape your investment strategy toward more diversified or even short-term assets. Longer-term investments could be riskier in some assets because there is more uncertainty over a longer time horizon; however, for some assets, a longer investment period may help average out periods of outsized short-term gains or losses.

With investing, there is a risk-reward trade-off, which means when an asset has more risk, it tends to pay a bigger reward.

Figuring out your personal investing strategy may take some time, and most investors adapt their strategies because their life circumstances are different and may change over time. For example, people who are younger tend to be riskier in their investments, whereas older adults tend to be less risky since they have fewer working years to recoup any investment losses.

Bridging the Wealth Gap

Investing can also help people and communities who often find the deck stacked against them due to the wealth gap when it comes to financial opportunities.

Women, for example, typically would need to invest more and for a longer period of time to meet retirement goals, because they are often paid lower than their male counterparts for the same job, and because the average worldwide lifespan of a woman is seven years longer. Even though research suggests that women are better investors than men, they tend to be more conservative in their investments, so taking a more proactive and aggressive strategy could benefit women.

Individuals within Black or Hispanic communities are known to have less resources and wealth, which is exacerbated by the worsening of the racial wealth gap . According to the 2019 Survey of Consumer Finances, Black households had 7.8 times less median household wealth, and Hispanic households had 5.2 times less median household wealth than White households. Investing may be a small step toward helping to narrow down this wealth gap.

You don’t need thousands of dollars to begin investing. You can set aside a little money each month to begin your investing journey. Let’s think about a simple example in which you set aside $100 each month from the age of 25 to 65. If you just put this money into your checking account, you would end up with $48,000 in 40 years ($100 x 12 months x 40 years = $48,000). However, if you invest the money and earn a 10% annual interest rate, compounded annually, your $48,000 will grow to more than $530,000. Your money makes money over time.

You can begin investing by talking to your employer to see if they have a retirement account such as a 401(k) or 403(b). You can contribute a portion of your paycheck each pay period toward your retirement account and begin selecting investments that are offered to you. If you are not offered a retirement account at your employer, you can also invest in an individual retirement account (IRA) .

You can open one at a brokerage firm or an online brokerage firm such as TDAmeritrade, Wealthfront, or Charles Schwab. At a brokerage firm, you can also open a private investment account to begin investing. These types of accounts do not have penalties if you pull out your money before you hit a certain age, like a retirement account does, but they also do not have some of the tax benefits that come with a retirement account.

Why is diversification important in investing?

Diversification allows you to spread your money across many investments, which minimizes risk. If one company or asset class does not perform well, diversification will ensure you do not lose all of your money, because you have multiple investments.

Why is investing important at a young age?

Investing early allows you to take advantage of compound interest. Investing at an earlier age also allows you to begin creating wealth sooner. If you wait to begin investing, you may need to put away a lot more of your paycheck to meet your personal and financial goals.

Why is ESG investing important?

ESG investing is also commonly called “socially responsible investing” or “impact investing.” ESG investing is important because matching your investment choices with your personal feelings and goals allows your money to work toward companies you feel are important for society.

Board of Governors of the Federal Reserve System. “ Report on the Economic Well-Being of U.S. Households in 2019, Featuring Supplemental Data From April 2020 .”

S&P Dow Jones Indices. “ S&P 500 .”

PRB. “ Around the Globe, Women Outlive Men .”

Mercer. " Inside Employees Minds Women & Wealth .”

Fidelity. " Who's the Better Investor: Men or Women? "

Federal Reserve. “ Changes in U.S. Family Finances From 2016 to 2019: Evidence From the Survey of Consumer Finances ,” Page 11.

Home — Essay Samples — Economics — Stock Market — The Significance of the Stock Market: History, Function, and Future

The Significance of The Stock Market: History, Function, and Future

• Categories: Stock Market

About this sample

Words: 749 |

Published: Jan 30, 2024

Words: 749 | Pages: 2 | 4 min read

Table of contents

History of the stock market, structure and function of the stock market, factors affecting the stock market, benefits and risks of investing in the stock market, strategies for successful stock market investing, the stock market and the economy, challenges and future of the stock market.

• Bodie, Z., Kane, A., & Marcus, A. (2014). Investments . McGraw Hill Education.
• Graham, B., & Dodd, D. (2010). Security Analysis: The Classic 1934 Edition . McGraw-Hill Professional.
• Malkiel, B. G. (2015). A random walk down Wall Street: The time-tested strategy for successful investing . WW Norton & Company.
• Shiller, R. J. (2017). Irrational Exuberance . Princeton University Press.
• Investopedia. (2021). The Stock Market: A Beginner's Guide . Retrieved from https://www.investopedia.com/articles/basics/06/savinginvesting.asp

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Stock Market and Small Investors Expository Essay

Introduction, factors that determine the quality of stock, disadvantages faced by small investors when investing in the stock market, advantages enjoyed by small investors when investing in the stock market.

The stock market is one in which shares are traded. This trading may either be through exchanges or sometimes it might be carried out through over-the-counter markets. The stock market is also referred to as the equity market and it serves as one of the most important areas of a country’s economy (Bogle, 2010). A stock market offers an opportunity to companies to gain more investors while being able to access more capital.

The stock market can either be primary or secondary. In a primary market, there is issuance of shares whereas subsequent trading of shares takes place in the secondary market (North & Caes, 2011).

The stock market offers excellent investment opportunities where the money invested earns a good return either in form of capital appreciation or regular income from dividends. Stocks are preferably purchased for investment purposes when their prices are low so that they produce relatively high profits through dividends.

To determine the quality of various stocks, an investor should consider a number of factors. These factors include management of the company, the products offered by the company, the competitive position of the market, the asset base, the company’s liquidity, the volatility of the stock, and the strength of the company’s corporate governance (North & Caes, 2011).

Depending on the number of shares held by different investors, the issue of ‘big’ investors and ‘small’ investors come up. As the words suggest, ‘big’ investors are those who hold more shares while ‘small’ investors refer to those holding a lesser number of shares. The question that arises is, who between the ‘big’ or ‘small’ investors enjoy the most benefits or endure the most disadvantages?

Small investors are faced with the difficulty of building a diversified portfolio. Whereas big investors may have enough money to purchase as many stocks as they want, small investors lack these funds and they are only able to purchase a few stocks.

This becomes very risky since they concentrate all their money in that investment (Fisher, 2012). In addition, the administrative costs that are charged on these few stocks may at times be too high for the small investors to afford their upkeep.

Some firms may also set a very high minimum opening requirement as the deposit. This makes it very difficult for small investors to navigate their way in the stock markets. Small investors are also faced with the problem of high fees which are charged as a percentage of their total investment (Lensink, Bo, & Sterken, 2001). This in turn reduces the dividends they receive at the end of a financial period.

Ironically, small investors derive their benefits from their portfolios size. As earlier discussed, small investors are just that, small. In fact, they are advised to remain just as small as they are. Unlike the ‘big’ investor, ‘small’ investors can just purchase the top picks when they are on offer in the sector (DePorre, 2007).

This is mainly because the purchases of the small investor do not largely affect the prices of the shares in the market since they only deal with a few stocks unlike the big investors who would influence the share prices in the market.

In addition, the small investors are able to act with greater speed to every available opportunity in the sector than the big investors since they manage their own undertakings (Cohen, 2012). Furthermore, the risk endured by small investors is very minimal since only a few stocks are involved unlike the big investors who deal in massive stocks.

In conclusion, the misconception that small investors do not stand a chance against the big investors in the stock market should be cleared. On one hand, there are advantages to them remaining just small while on the other hand, there may be some advantages that tag along these small investors.

Bogle, J. C. (2010). The Little Book of Common Sense Investing: The Only Way to Guarantee Your Fair Share of Stock Market Returns. New Jersey: John Wiley & Sons.

Cohen, G. (2012, August 12). How Small Investors Gain Such a Big Advantage Over Wall Street . Web.

DePorre, J. R. (2007). Invest Like a Shark: How a Deaf Guy with No Job and Limited Capital Made a Fortune Investing in the Stock Market. New Jersey: FT Press.

Fisher, P. A. (2012). Common Stocks and Uncommon Profits, Paths to Wealth through Common Stocks, Conservative Investors Sleep Well, and Developing an Investment Philosophy. New Jersey: John Wiley & Sons, 2012.

Lensink, R., Bo, H., & Sterken, E. (2001). nvestment, Capital Market Imperfections, and Uncertainty: Theory and Empirical Results. Massachusetts: Edward Elgar Publishing.

North, C., & Caes, C. J. (2011). The Stock Market. New York: The Rosen Publishing Group.

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Key Benefits of Investing In Stocks

Stocks can be a valuable part of your investment portfolio. Owning stocks in different companies can help you  build  your savings,  protect  your money from inflation and taxes, and  maximize  income from your investments. It's important to know that there are risks when investing in the stock market. Like any investment, it helps to understand the  risk/return relationship and your own tolerance for risk.

Let's look at three benefits of investing in stocks.

Build.  Historically, long-term equity returns have been better than returns from cash or fixed-income investments such as bonds. However, stock prices tend to rise and fall over time. Investors may want to consider a long-term perspective for their equity portfolio because these stock-market fluctuations do tend to smooth out over longer periods of time.

Protect.  Taxes and inflation can impact your wealth. Equity investments can give investors better tax treatment over the long term, which can help slow or prevent the negative effects of both taxes and inflation.

Maximize.  Some companies pay shareholders  dividends 1  or special distributions. These payments can provide you with regular investment income and enhance your return, while the favourable tax treatment for Canadian equities can leave more money in your pocket. (Note that dividend payments from companies outside of Canada are taxed differently.)

Different Stocks, Different Benefits

The two main types of equity investments below can each offer investors  different benefits .

1. Common shares

Common shares are the most (you guessed it!) common type of equity investment for Canadian investors. They can offer:

Capital growth. The price of a stock will go up or down over time. When it goes up, shareholders can choose to sell their shares at a profit.

Dividend income. Many companies pay dividends to their shareholders, which can be a source of tax-efficient income for investors.

Voting privileges. The ability to vote means shareholders have some measure of control over who runs the company and how.

Liquidity.  Typically, common shares can be bought and sold more quickly and easily than other investments, such as real estate, art or jewellery. This means investors can buy or sell their investment for cash with relative ease.

Advantageous tax treatment.  Dividend income and capital gains are taxed at a lower rate than employment income and interest income from bonds or GICs.

2. Preferred shares

Preferred shares can offer investors the following benefits:

Reliable income stream.  Generally, preferred shares come with a fixed dividend amount that must be paid before any dividends are paid to common shareholders.

Higher income.  Compared to common shares, preferred shares tend to pay higher dividends. (Note: preferred-share dividends come with the same advantageous tax treatment as dividends on common shares.)

Variety.  There are many types of preferred shares, each with different features. For example, some allow for unpaid dividends to accumulate, while others can be converted into common shares.

The Advantages of Dividends

Dividends are a way for companies to distribute a portion of their profits to shareholders. Typically, dividends are paid in cash on a quarterly basis, although not all companies pay dividends. For example, companies that are still growing might choose to reinvest their profits back into their business to help grow it.

For investors, dividends can offer advantages in areas such as:

Returns. Receiving dividend payments on your stock can increase the total return on your investment.

Volatility. Dividends can help lower volatility by helping support the stock price.

Income. Dividends can provide investors with investment income.

Stability. Companies that manage their cash flow effectively tend to maintain consistent or growing dividend payments. Business stability and earnings growth often leads to a higher share price over time.

Taxation.  Canadian dividends are taxed at a lower rate than interest income from bonds or GICs.

Example: This table shows how the after-tax yield of a dividend is higher than the after-tax yield of interest from a fixed-income product because of tax credits. This example uses the highest marginal tax bracket for an Ontario resident in 2018.

Fast Fact: Did you know that you can automatically reinvest your dividends?

You can choose to have RBC Direct Investing automatically reinvest the cash dividends you earn on  eligible securities  into shares 2 of the same securites on your behalf. Read more about how a  Dividend Reinvestment Plan (DRIP) works.

The information provided in this article is for general purposes only and does not constitute personal financial advice. Please consult with your own professional advisor to discuss your specific financial and tax needs.

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• > Financial Analytics

Top 10 Benefits of the Stock Market

• Utsav Mishra
• Jun 13, 2021

“The key to making money in stocks is not to get scared out of them.”  ― Peter Lynch

The stock market refers to public markets for issuing, purchasing, and selling stocks that trade over-the-counter or on a stock exchange. 

Stocks, sometimes known as equities, represent fractional ownership in a corporation, and the stock market is a marketplace for investors to buy and sell such investable assets. 

A well-functioning stock market is crucial to economic development because it allows businesses to swiftly acquire funds from the general public.

In a word, stock exchanges provide a safe and regulated environment in which market participants can confidently trade shares and other qualified financial products with zero to low operational risk. The stock markets operate as primary and secondary markets, according to the guidelines set forth by the regulator.

Although most countries have one stock exchange, there can be more than one stock exchange in a country. 

(Related blog: 10 Largest Stock Exchanges in the World )

In this blog, we are going to focus on the benefits of the stock market.

What are the Benefits of the Stock Market ?

The stock market provides the investor with several benefits and provides them with the easy handling of their money. These benefits include;

Gain received  

The ability of the market to generate the kinds of gains it does is the most essential component of investing directly in markets.

Stock markets have always stood the test of time, rising in value over time, even though individual stock values fluctuate daily, according to historical data.

Investing in companies with a consistent growth pattern and increased earnings every quarter, or in industries that contribute to the country's economic growth, will result in you steadily developing your wealth and growing the value of your investment over time.

As this value grows, there is a gain of money and the investors receive all the benefits over the money they had invested. It is said that a long-term investment in certain stocks is a guarantee of gain in the stock market.

Safety against Inflation

The fundamental goal of investments is to guarantee our future, but we must keep track of inflation regularly.

The gains will be nil if inflation and the rate of return on investments are comparable. In an ideal world, the rate of return on investments would be higher than inflation.

Stock markets and benchmark indexes have consistently outperformed inflation.

(Must read: What is Inflation? Demand-pull and Cost-push )

If inflation is about 3-4 percent, for example, markets have seen annual returns of roughly ten percent.

Also, the benchmarks with their rise and fall have been the prime source of prediction of inflation. For example, if the market is constantly crashing then the news breaks out that inflation is near in the country.

Liquidity or Ease of Conversion

Stocks are considered liquid assets since they can be easily converted to cash and have a large number of purchasers at any given time.

The same cannot be said for all assets; some, such as real estate, are difficult to sell. It could take months to see a return on your home investment. It is, however, much simpler in the case of stocks.

If the average volume of transactions is high then we can say that there are multiple buyers and sellers for that specific stock.

This liquidity of a stock market is one of the key benefits for the investors as the process never stops.

Investors get the advantage of economy

The stock market is always a factor in a thriving economy, and it responds to all economic growth indices like gross domestic product (GDP), inflation, corporate profit, and so on.

Investors in the stock market can directly benefit from a thriving economy, and the value of their investments rises in lockstep with economic expansion.

When an economy is growing, corporate earnings rise, and as a result, the ordinary individual's income rises.

As a result, customer demand rises, increasing sales. As a result, the value of your investment in a specific company rises, i.e. the share price rises.

Transparency  

The stock market in every country is regulated by a regulatory body, for example in India, the body is SEBI. the market functions by the guidelines of it and the bodies regulate stock exchange, transparency in the market, and protect the rights of investors. 

This means that when an investor invests in the stock market, not only his money but also his rights are protected by these regulatory bodies. This saves them from any kind of fraudulent activity done by the company they have invested in.

This makes the investments even secure and gives the investors the confidence and trust of no mishappenings.

(Must read: What is fundamental analysis? )

Flexibility of investment  

For a beginner in the stock market, the road isn’t easy and the risks need to be smaller. 

For this, they need to invest in stocks that are not high priced. This is where the stock market helps the investor. It gives them the flexibility of smaller investments. These small investments can be done by buying small-cap and mid-cap stocks. Stocks do not require a large initial investment.

Another advantage of directly investing in stocks is that you can buy at your leisure; you are not obligated to invest a certain amount every month.

Benefits of Dividend

A dividend is an additional income for investors, which is paid annually by most companies.

Dividend payments arrive even if the stock has lost value and represent income on top of any profits that come from eventually selling the stock.

These dividend incomes too have a lot of benefits.

Fund a retirement

Pay for more investing

Help you grow your investment portfolio

Ownership stake in the brand

By investing in stocks of a certain company the investor buys an ownership stake in the company.  It offers them a sense of belonging to the company you enjoy.

It implies that as a shareholder, they have a say in how a corporation makes choices and can vote on those decisions. Several times, shareholders have intervened to prevent management from making irrational actions that are harmful to their interests.

The annual report of any company is sent to its stockholders to let them know about the functioning.

A Hassle-Free Trading

Technology has helped almost all the existent sectors. The stock market isn’t untouched by it. Stocks can be bought and sold easily with the help of technology. Earlier when all the work was limited to pen and paper, this hassle-free trading wasn’t feasible for many.

Nowadays there are various mobile applications for this purpose. One can easily buy or sell their stocks in a certain company. Various platforms are there which tell the investors about the profit and loss of any specific stock so that they can easily know which stock to invest in. 

(Also read: 10 Fundamentals of Technical Analysis )

Versatility of investment

Shares, bonds, mutual funds , and derivatives are among the financial products available in the stock market. This gives investors a wide range of things to choose from when it comes to investing their money.

This flexibility benefits investors by allowing them to diversify their investment portfolios, which helps to mitigate the risks associated with stock investing. As for explaining about risks, here are 4 types of financial risk in the banking industry.

Conclusion  

These were the benefits of planned investment in the stock market. Although there is a bit of risk that we often hear from people around us, we don’t always look at the benefits of it. 

(Recommended blog: Introduction to investment banking )

Proper research in the stock market is never harmful to investment, not just it reduces risk but also guarantees profit to you. And lastly, most importantly it protects your money.

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When appropriately invested in the stock market, you can gain high profits. The article explains the top 10 benefits of the Indian stock market. You can also invest in Stock Market with Share India.

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The blog educates us regarding the advantages of investing in stock market. It also explains how to conveniently invest in stock market with Share India

Essay on Stock Market

Students are often asked to write an essay on Stock Market in their schools and colleges. And if you’re also looking for the same, we have created 100-word, 250-word, and 500-word essays on the topic.

Let’s take a look…

100 Words Essay on Stock Market

What is the stock market.

The stock market is a place where stocks are bought and sold. A stock is a share of ownership in a company. When you buy a stock, you are becoming a part-owner of that company.

How Does the Stock Market Work?

The stock market is a complex system, but the basic idea is that buyers and sellers come together to agree on a price for a stock. The price of a stock is determined by supply and demand. When there are more buyers than sellers, the price of the stock goes up. When there are more sellers than buyers, the price of the stock goes down.

Why Do People Invest in Stocks?

People invest in stocks for a variety of reasons. Some people invest to make money. They buy stocks that they believe will go up in value, and then they sell them for a profit. Other people invest to save for retirement. They buy stocks that they believe will provide them with a steady income in the future.

Risks of Investing in Stocks

Investing in stocks is not without risk. The value of stocks can go down as well as up. This means that you could lose money if you invest in stocks. However, over the long term, the stock market has historically provided a good return on investment.

250 Words Essay on Stock Market

What is a stock market.

A stock market is a place where people buy and sell shares of companies. When you buy a share of a company, you are essentially becoming a part-owner of that company. The value of your share will go up if the company does well, and it will go down if the company does poorly.

How Does a Stock Market Work?

Stock markets are typically regulated by government agencies. These agencies set rules and regulations to ensure that the markets are fair and orderly. When you buy or sell a share of stock, you do so through a stockbroker. Stockbrokers are licensed professionals who help investors buy and sell stocks.

Why Invest in the Stock Market?

There are many reasons why people invest in the stock market. Some people invest to make money, while others invest to save for retirement or to build wealth for their families. The stock market can be a volatile place, but over the long term, it has historically been a good investment.

Risks of Investing in the Stock Market

There are also risks associated with investing in the stock market. The value of your investments can go down as well as up, and you could lose money. It is important to understand the risks involved before you invest in the stock market.

The stock market can be a complex and confusing place, but it can also be a rewarding one. If you are considering investing in the stock market, it is important to do your research and understand the risks involved. You should also consider seeking the help of a financial advisor.

500 Words Essay on Stock Market

A stock market is a place where people can buy and sell stocks. Stocks are pieces of ownership in a company. When you buy a stock, you are essentially becoming a part-owner of that company. Companies issue stocks to raise money to grow their business.

The stock market is a regulated marketplace where buyers and sellers of stocks can come together to trade. The price of a stock is determined by supply and demand. When there are more people who want to buy a stock than there are people who want to sell it, the price goes up. When there are more people who want to sell a stock than there are people who want to buy it, the price goes down.

Types of Stock Markets

There are two main types of stock markets: primary and secondary. In a primary market, companies sell stocks to investors for the first time. In a secondary market, investors buy and sell stocks that have already been issued.

Benefits of Stock Market

The stock market can be a great way to grow your wealth over time. When companies do well, their stock prices go up, and you can sell your stocks for a profit. The stock market can also be a good way to save for retirement.

Risks of Stock Market

The stock market is not without its risks. Stock prices can go down as well as up, and you could lose money if you sell your stocks at a lower price than you paid for them. It is important to do your research before you invest in any stock.

How to Invest in Stock Market

If you are interested in investing in the stock market, there are a few things you need to do first. You need to open a brokerage account, which is an account that allows you to buy and sell stocks. You also need to learn about the different types of stocks and how to analyze them. Once you have done your research, you can start investing in stocks.

The stock market can be a great way to grow your wealth over time, but it is important to understand the risks involved before you invest. If you do your research and invest wisely, you can increase your chances of success.

That’s it! I hope the essay helped you.

If you’re looking for more, here are essays on other interesting topics:

• Essay on Stereotypes And Prejudice
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17 Key Advantages and Disadvantages of Common Stocks

Common stocks are securities that represent ownership in a specific corporation. When you hold them, then you can exercise control by electing a board of directors or voting on corporate policies.

Stockholders with common stock or at the bottom of the priority ladder for the ownership structure. If liquidation occurs, then common shareholders have rights to company assets after any bond obligations, preferred shareholders, and other creditors receive payment in full. That means this investment option is riskier than debt or a preferred share.

It also means that this investment resource usually outperforms bonds and preferred shares from a long-term perspective. Most companies will issue all three types of securities.

We have been looking at the advantages and disadvantages of common stocks since 1602 when the Dutch East India Company issued its first shares and began the Amsterdam Stock Exchange. These are the critical points you will want to review.

List of the Advantages of Common Stocks

1. You can invest in companies with limited liability. When you purchase common stock in a company, then your personal assets are not at risk if the organization gets into legal trouble. The extent of your liability is the amount that you put into the investment. That’s good news for you if the stock goes bad and the business ends up owing creditors a lot of money or faces a significant judgment. Although you will be out the money that you put into the organization, the loss could be something that helps you when you file your taxes for that year.

2. Common stocks offer a higher earning potential. Although investing in common stocks provides more risk than conservative options like a certificate of deposit or a money market account, the returns are typically better. Because your returns aren’t guaranteed as a shareholder, there is no limit to how much you can gain. If you don’t mind taking some of the guarantees away from the minimum and maximum amount that you can earn, then your wealth can start growing more over time with this option.

As with any investment, there is also an opportunity to lose everything when you purchase common stocks. That’s why a measure of caution is always a good idea when looking at this option.

3. You can easily purchase common stock on virtually any trading platform. If you don’t mind buying or selling common stock at market prices, then you have a highly liquid investment that you can convert into cash at almost any time. Virtually any trading platform will let you open an account to purchase this asset at any time. You can also work with a financial advisor to complete these transactions. Most of the industry has moved to a zero-fee approach for trades, so it doesn’t cost you anything to buy stock or sell it. The ease of this investment makes it a simple way to diversify your portfolio.

4. Common stocks can provide dividends. Some companies will pay dividends when you purchase common stock and hold it for a specific amount of time. These organizations will pay a particular amount based on the number of shares that you hold in the company. Some will pay monthly, others quarterly, and annual payments are also possible. If you invest in these dividend stocks, then you can help your wealth grow by creating a ladder of returns that you can use.

5. You can trade common stocks in a variety of ways. Online traders make it simple and inexpensive to trade common stocks from major exchanges around the world. You can work with brokers who allow margin trading and short selling for eligible listings. That means you can use borrowed funds to purchase stocks or sell borrowed securities in the expectation of buying them back at a lower price. Options on specific stocks to hedge against market volatility or guess on price movements.

6. You’ll get to take advantage of a growing economy. When the economy begins to grow, then so do corporate earnings. That’s because this outcome works to create employment opportunities, which then creates more income. As profits get higher, more sales occur, and that means higher levels of consumer demand that drive revenues into the black. If you can identify where a company stands in its business cycle, then your potential to grow wealth through investing in common stock is incredible. Just make sure that you hedge your bets by diversifying your portfolio instead of investing in only one stock.

7. It’s the best way to get ahead of inflation problems. The average rate of inflation in the United States hovers around 3%. Common stocks have averaged an annualized return of 10% historically. That means the value of your portfolio can grow at a net of 7% each year. If you were to put your money into a savings account or CD that provided a 2.2% return, then the actual value of your cash would go down for the year. Investing in common stocks is the best way to get ahead of inflation problems in most years, even if you see a loss happen here or there.

8. You can leverage the value of common stock as collateral. If you are in the market to purchase a big-ticket item, then the value of your common stock can be used as collateral for a loan or a line of credit. The liquidity of this financial asset is what makes this leverage possible. Lenders understand that they can use the stock as a way to pay off a future debt if you run into financial trouble. Because this lowers the overall risk of lending money to you, it may become possible to secure a lower interest rate when buying a new car or another significant item.

9. It is possible to buy and sell common stock around the world. Do you want to purchase common stock for your portfolio? Then you have access to a world of opportunities. Several markets in numerous countries are open for trading when you secure an online account with an appropriate level of access. That means your money can work for you around the clock if that’s what you feel your investments require. New York, London, Tokyo, Singapore, and more geographic locations provide ways to gain equity in companies so that you can work to beat the rate of inflation with your value growth each year.

List of the Disadvantages of Common Stocks

1. You are the last person to get paid during a company liquidation. If the organization goes into liquidation and you hold common stocks, then you are going to be the last person who gets paid. Most shareholders that use this investing option rarely see any of their money come back in that situation. If there is nothing left after every creditor, debt holder, and preferred stockholder get what is due to them, then you’re just out of luck. That’s why a diverse portfolio that works to manage your risk factors is the best way to resolve this disadvantage.

2. You don’t have much control over your investment. Although you may get awarded with voting rights when purchasing common stocks, it is often difficult or impossible to exercise any control over this investment. If you were to put that money into a company that you control, then your decisions on strategies and best practices can lead to a profitable experience. When you add common stock to your portfolio, then you are subjected to the will of every other stockholder.

The only way to invest in common stocks and avoid this disadvantage is to gain a majority share of a company with your investment. That’s an expensive proposition to consider for most corporations, so it is only available to those with the highest levels of wealth.

3. Your portfolio can lose substantial value in a single day. The stock markets around the world are highly volatile right now. Frequent price swings of several percentage points could happen in a single trading session. Not only is it possible for your portfolio to gain a substantial amount in a short period, but there is also the potential to lose everything in a single day. If you decide to trade on margin, that means a margin call and the forced liquidation of stocks could happen at a significant loss.

4. Companies are not required to pay dividends on common stocks. Although some organizations regularly pay dividends on common stocks and have done so for decades, there is no obligation for a company to take this action. Shareholders who use this investment vehicle are not obligated to receive a portion of the profits that a business earns. That means part of your risk factor in choosing this investment option is that you can lock in a loss for a thinly traded stock in fast-moving markets without realizing what you are doing. The downside risks are very high, which is my mutual funds are often a priority when investors first start to trade.

5. You might need to navigate several different common stock classes. Some organizations issue multiple classes of common stock. You might see Class A, Class B, or Class C shares – and so on. The advantage of this structure is that the owners gain access to capital markets while retaining control and warding off potentially hostile takeovers. The disadvantage goes to the investor who has lower voting rights, trading volume, and liquidity issues and some of the lowest share classes.

6. It can take time to generate significant gains. When Six Flags announced that its efforts in China weren’t going to be paying off as well as they hoped, the stock took an immediate nosedive of nearly $8 per share. That means over five years of gains were wiped out in just hours for some investors. If people purchased the stock in recent days, then they experienced a significant loss overnight.

If you decide to purchase stocks on your own, then you must research each company to determine its potential for profitability. It is up to you to learn how to read financial statements and understand the information provided in annual reports. You must also have time to monitor the stock market since even the best company’s prices will fall during market corrections, crashes, or bear environments.

7. Investing in common stock can be an emotional rollercoaster at times. The prices of common stock rise and fall all of the time. Trading that occurs around the world can impact the results of your equity value at any time of day. You must avoid the trap of buying high when the market seems strong and selling low because you’re afraid that you might lose everything. If you tend to worry about your finances, then the best thing to do is to avoid looking at the constant price fluctuations that occur. Just make sure that you check in regularly to verify that your portfolio’s performance is meeting your financial goals.

8. You will face high levels of professional competition when investing in common stocks. Professional traders and institutional investors have more time to monitor the stock market and research companies. That means their work has a competitive edge against your investing efforts if you don’t have the same amount of time available. These folks have access to sophisticated trading tools and financial models that reduce their risk factors when making and investing decision.

Unless there is a specific dividend stock or investing strategy to implement, beginners typically approach the stock market through guesswork. You have to compete with those professionals to earn a return. That isn’t always easy to do.

Common stocks are a suitable investment for most people. It’s a limited way to gain some market exposure for your savings that you can manage without taking a lot of risk. Although the potential for losing money is present, a savings account or certificate of deposit will also lose value if inflation rates are higher than the promised return given to you.

Even if you only have a few dollars to invest each month, working with fractional providers who can give you access to some of today’s top-performing shares can be a way to make your money start growing.

The advantages and disadvantages of common stock must be carefully considered, just as they are with any other investment. You have the potential to gain a lot of wealth from this activity, but there is always a risk of loss to manage. That’s why I diversified portfolio that includes these investments is a balanced way to provide for your future.

Essay on Stock Exchange: Top 8 Essays | Business Management

Here is a compilation of essays on ‘Stock Exchange’ for class 9, 10, 11 and 12. Find paragraphs, long and short essays on ‘Stock Exchange’ especially written for school and college students.

Essay on Stock Exchange

Essay Contents:

• Essay on the Drawbacks of Stock Exchange

Essay # 1. Meaning of Stock Exchange:

Stock exchange is an important constituent of capital market. It constitutes that part of the capital market which is concerned with the purchase and sale of the industrial, government and other securities. In simple words, a stock exchange is an open market place which entertains the purchase and sale of second-hand securities.

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It is a highly organised market for the purchase and sale of securities of public companies, government and semi-government bodies. In this manner, the stock exchange helps an investor to sell his holdings readily and conveniently. A stock exchange ultimately helps the inventor, the trader, the investor, the industrialist and the banker. In this context, it is described as the business of all businesses.

Essay # 2. Definition of Stock Exchange :

The stock exchange has been variously defined by different eminent authorities on the subject.

Some of the important definitions are as follows:

According to Pyle, “Security exchanges are market places where securities that have been listed thereon may be bought and sold for either investment or speculation.”

According to Garg, “A stock exchange is an association of persons engaged in the buying and selling of stocks, bonds and shares for the public on commission and are guided by certain rules and usages.”

According to Hastings, “Stock exchange or securities market comprises the places where buyers and sellers of stock and bonds or their representatives undertake transactions involving the sale of securities.”

According to Hartley Withers, “A stock exchange is something like a vast warehouse where securities are taken away from shelves and sold across the counters at a fixed price in a catalogue which is called the official list.”

The Securities Contracts (Regulation) Act, 1956. defines a stock exchange as, “an association, organisation or body of individuals, whether incorporated or not, established for the purpose of assisting, regulating and controlling business in buying, selling and dealing in securities.”

Essay # 3. Characteristics of Stock Exchange:

Following are the essential features of a stock exchange:

1. It is an organised capital market.

2. It is an association or body of individuals whether incorporated or not.

3. It is an open market for the purchase and sale of all kinds of securities, viz., shares of public companies, debentures or bonds of government and semi- government bodies.

4. It works under a code of set rules and regulations.

5. It helps the investor, the trader, the industrialist and the banker whether for investment or speculation purposes.

Essay # 4. Importance of Stock Exchange:

A stock exchange has been rightly described as the nerve centre of modern commercial world. Stock exchanges are, in fact, the theatres of business transactions and act as a gauge-glass of the politics and finances of a nation.

It has been rightly said that the modern capitalistic economy cannot exist in the absence of well organised stock exchanges. It is because stock exchanges facilitate the necessary mobilisation of capital required by companies in the business sector. They have been aptly described the, ‘shrines of values’, the ‘citadel of capital’ or ‘fortress of finance’.

In the modern times, a stock exchange has come to be recognised as the barometer of the economic progress of a nation. Bismark once advised a youngman of his country (Germany) who was going to England to study its economic progress in these words: “If you want to know how things in Britain are going on, do not study the House of Commons, but watch the London Stock Exchange.”

Prof. Marshall has rightly observed, “Stock exchanges are not merely chief theatres of business transactions, they are also barometers which indicate the general condition of the atmosphere of business.” In brief, the business of a stock exchange may be described as “the business of businesses.”

Someone has remarkably summed up its importance by describing it “as the market of the world, the nerve centre of politics and finance of a nation, the barometer of its prosperity and adversity.”

Essay # 5. Functions of a Stock Exchange:

The important functions of stock exchange are discussed below:

(i) Ready Market for Securities:

A stock exchange provides a ready market for the sale and purchase of existing securities. This facilitates the steady marketability of shares and debentures. It also provides price continuity to the investors regarding the securities they hold or intend to purchase.

It is the place where persons with cash can convert it into securities and those with securities can readily realise cash. The easy marketability of securities enhances their liquidity and, hence, increases the value of securities.

(ii) Mobilisation of Surplus Savings:

It is another important function of a stock exchange. It creates favourable climate suitable for investment of surplus funds into business sector. A stock exchange, thus, encourages savings and chanelises the funds towards industrial progress. In this manner, stock exchange mobilise savings and channelise the flow of capital into most profitable ventures.

(iii) Capital Formation:

Stock exchanges play an active role in the capital formation of a nation. Stock exchange fosters the habit of saving, investing and risk-taking among the members of general public. The funds so mobilised are directed towards business sector for meeting capital requirements. In this way, stock exchange helps in the process of capital formation.

(iv) Evaluation of Securities:

As per stock exchange rules, all transactions on the exchange are required to be “recorded and made public”. Accordingly, the prices paid and received become official quotations. This enables the holders of securities to know their actual worth at any time. Besides, the market quotation helps the lender on the security of shares to assess the value of the security.

(v) Safety of Funds:

Stock exchanges work under set rules and regulations. This ensures safety of investable funds. Thus the stock exchanges protect the interests of investors through the strict enforcement of rules and regulations. Efforts are made to check over trading, illegitimate speculation, manipulation, etc. In the absence of organised stock exchanges the innocent investors may easily be deceived at the hands of clever brokers dealing in securities.

(vi) Dependable Guide for the Investors:

Stock exchange serves as a dependable guide for the investors. Regular dealings in stock exchange sifts the profitable investment from the risky ones. With the slow magic of time, securities which offer or promise better return come in the limelight while those which have no encouraging future decline in market price. This becomes a dependable guide to the discerning investor.

(vii) Listing of Securities:

Listing of securities is a very important function of stock exchange. A stock exchange does not deal in the securities of all companies. Listing of securities here means the inclusion of securities in the official list of a stock exchange for the purpose of trading.

Listing is done only after a careful examination of the capital structure and the business prospects of the companies. Besides enhancing the prestige of the companies, it puts the investors in a better position to judge the propriety of different securities.

(viii) Supply of Useful Commercial Information:

A stock exchange provides full information regarding listed companies. Having listed the securities, a stock exchange serves as a gauge-glass of the economic health of the concerned companies. It collects necessary information regarding non-listed companies also. Such information is usually provided in their respective Annual Official Year Books. This helps the prospective investors to evaluate various investment ventures.

(ix) Facilities for Genuine Speculation:

Stock exchanges facilitate genuine speculation. The genuine traders speculate and secure sizeable gains through fluctuations in securities’ prices. In fact, speculation is an integral part of stock exchange functions. Genuine speculation tends to smoother out wide fluctuation besides bringing near-equality in demand and supply at different places.

(x) Regulation of Company Management:

The stock exchanges indirectly regulate the company management. This is achieved through listing of securities. A company has to fulfill certain conditions before official listing of its securities. Besides, the company has to maintain efficient conditions in its operations in order to prevent any decrease in market quotations of its securities. Thus, stock exchanges regulate the workings of the company management.

Essay # 6. Regulation of Stock Exchange:

The stock exchanges have to be regulated to ensure stability to protect investors from the activities of unscrupulous speculators and to maintain a healthy investment climate.

The main purposes of stock exchange regulation are:

1. To check unfair and undesirable practices detrimental to the interest of the investors.

2. To take remedial steps to minimise violent fluctuations in securities prices.

3. To provide regulatory machinery with a view to ensuring a wholesome investment climate, and

4. To limit business outside the exchange.

The stock exchanges in India were found to be suffering from administrative and operational weaknesses in the past. Instead of playing a constructive role to smooth out wide fluctuations, they became dens of gambling resulting into violent fluctuations in securities prices. Consequently, they became the instruments of vested interests highly detrimental to investors and the general public.

The need was, therefore, felt for some uniform governmental control to enforce certain set rules and to ensure security to investors. For quite a long time, there was no uniform legislation in India to regulate the workings of stock exchanges.

In 1945, Government of India appointed Dr. RJ. Thomas to enquire into the matter and to submit necessary recommendations for bringing about possible reforms. Dr. Thomas submitted his report in 21947. The government officials viewed the report and recommended a draft legislation.

In 1951, the Government of India constituted another committee under the chairmanship of Mr. A.D. Gorwala which submitted its report in the same year. The government after detailed examination of the report, presented Securities Contracts (Regulation) Bill in 1954 which was passed in 1956. The Securities Contract (Regulation) Act came into force with effect from 20th February, 1957.

Provisions of Securities Contracts (Regulation) Act :

The main provisions of the Act are listed below:

1. Recognition of Stock Exchanges:

The Act permits only the recognised stock exchanges to function. No trading is, therefore, permitted on unrecognised stock exchanges. The recognition is granted by Central Government on an application by the concerned stock exchange.

The recognition depends upon the following conditions:

(a) The rules and bye-laws of the applicant stock exchange ensure fair dealing to the investors and protect their interests;

(b) The stock exchange is willing to adhere to the conditions that may be imposed by the government from time to time; and

(c) It is the interest of the trade and the community at large to accord recognition to the exchange.

The Central Government reserves the right to refuse or withdraw recognition in the interest of the trade or the community at large after giving an opportunity to be heard.

2. Regulation through Bye-laws:

The exchange is permitted to function only according to the bye-laws approved by the government.

These may relate to:

(a) The regulation of the hours of trading at stock exchange;

(b) The maintenance and regulation of clearing house;

(c) The publication of the contracts settled or carried over by the clearing house;

(d) The determination and declaration of market rates;

(e) Regulation or prohibition of blank transfers, tatawani business and budlas.

(f) The regulations for the listing of securities on stock exchange;

(g) The fixation of scale of brokerage, fees, fines and other charges;

(h) The settlement of disputes and claims by arbitration and other means; and

(i) The fixation of business allowed to an individual member.

3. Central Government Control:

The Act empowers the Central Government to exercise an effective control over stock exchanges. The recognised stock exchanges are required to provide such information as the Central Government may demand.

The Central Government has following powers:

(a) It can call upon the exchanges to submit periodical returns relating to their affairs.

(b) The Central Government has a right to order an inquiry into the affairs of an exchange whenever it thinks necessary.

(c) It can direct a stock exchange to adopt or amend any rule relating to its constitution and organisation.

(d) It can suspend the business of a recognised stock exchange for a period of seven days or more in the interests of the trade and public.

(e) It can compel certain public companies to get their securities listed.

(f) It can prohibit dealing in any security.

4. Control on Speculation :

As stated earlier, the government can prohibit trading in any security to prevent unhealthy speculation. The Act applies to all dealings in securities except the ‘spot’ or ‘across the counter’ transactions.

The Act can, however, also regulate spot delivery contracts, if considered necessary in the interests of trade or public at large. The Act has declared kerb trading illegal. Kerb trading means the business transacted outside the stock exchange before or after its business hours.

5. Directorate of Stock Exchanges :

The government set up the Directorate of Stock Exchanges in 1959 to enforce compliance of the regulatory provisions of the Securities Contracts (Regulation) Act. The Directorate keeps a close watch on it and acts as a vital link between the government and the leading stock exchanges of the country. It has its head office in Bombay.

Essay # 7. Advantages of Stock Exchanges:

To facilitate understanding, we may divide the main advantages of stock exchanges into following three categories:

I. Advantages to Investors :

1. Safeguard of Investors’ Interest:

A stock exchange accords protection to the investors by enforcing strict rules and regulations. Thus the chances of over­trading, illegitimate speculation and manipulation get reduced.

2. Perpetual Market:

A stock exchange provides a continuous market where various types of securities are purchased and sold. Accordingly, it provides liquidity to the shareholdings. Persons with cash can convert it into securities and those with securities can get cash for them. This facilitates investment.

3. Greater Collateral Security:

The liquidity provided by stock exchanges to the securities increases, in turn, their value and enhances their use as a collateral security. The collateral value of listed securities is always higher than that of the non-listed securities.

4. Better Investment Opportunities:

The stock exchange encourages proper use of capital by providing better investment opportunities. This facilitates proper channelisation of capital or investible funds.

5. Publication of Quotations:

Stock exchanges provide full information regarding the value of securities by publishing daily quotations of listed securities. In this manner, they prove a boon to the investors.

6. Avoidance of Undue Fluctuations in Prices:

This is another important advantage of stock exchanges. The price movements are rendered smoother by the operations of speculators such as bulls and bears.

II. Advantages to Companies :

1. Better Response from Investors:

By getting its securities listed at stock exchanges, a company can command better and quicker response from the investors.

2. Higher Market Value:

Owing to greater and better facilities available at stock exchanges, the market value of the listed securities tends to be higher.

3. Widened Market:

Stock exchanges enlarge the market for trading in securities.

Through greater publicity, they provide a wider base to deal in securities of various kinds.

4. Stability in Prices:

The stock exchange also brings stability in the prices of securities by checking undue fluctuations in securities’ prices. This stability is brought about by balancing operations of speculators.

5. Increase in Goodwill:

Stock exchanges help in enhancing the goodwill of the companies whose securities are listed there. It is an established fact that a company with listed securities commands better reputation than the one whose securities are not listed.

III. Advantages to Community :

1. Mobilisation of Surplus Funds:

By attracting surplus savings, stock exchange helps in mobilising the idle funds into profitable channels. The idle savings, thus, get channelised into profitable ventures.

2. Accelerates Industrial Development:

Stock exchanges finance economic and industrial development by mobilising surplus funds. Thus, they accelerate the pace of industrial development through capital mobilisation.

3. Promotes Savings:

By providing better investment opportunities, stock exchange encourages the habit of savings among the people of general community. The inculcation of saving habits, in turn, facilitates the process of capital formation.

4. Barometer of Economic Conditions:

As stated earlier, stock exchange is referred to as the mart of the world, the nerve centre of politics and finances of a nation and the barometer of its economic prosperity or adversity.

Essay # 8. Drawbacks of Stock Exchanges:

The stock exchanges, like all other useful institutions, are not free from drawbacks. Many unscrupulous persons indulge in various malpractices to further their personal ends. They abuse the facilities afforded by these institutions.

Some people have invariably found it as a bottomless pit-worse even than all the hells. Consequently, a stock exchange is at limes condemned as a ‘den of gamblers’.

Very often, there is gambling under the garb of genuine speculation. According to S.R. Davar, “Speculation has repeatedly spread to a dangerous extent on these exchanges, bringing in its train inevitable ruin and hardship involving both the innocent and the guilty.”

Some unscrupulous traders misuse the facility of listing to manipulate the dividend policy. But, a careful study of these objections will reveal that these incidents are due more to the abuse of the facilities offered by these excellent institutions, than to the nature of the transactions they normally put through.

In conclusion it may be stated that it is not the institution of stock exchange which is to blame, but the mean and selfish elements which bring about disaster to the community at large. The qualities of self-restraint, the sporting spirit, and the mutual trust and confidence if all combined can go a long way to exercise an educative influence among stock exchange men.

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The Role of the Stock Market

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The major socio-economic role of a stock exchange is the valuing of securities and the provision of a well-run market-place where investors can buy and sell shares. The ‘proper’ valuation of securities is important as it provides signals for the allocation of scarce capital resources. Thus investment funds are channelled towards those companies which can use them most profitably (and, from the viewpoint of a capitalist economy, most usefully). The provision of a well-run market-place — along with accurate pricing — is required if individuals are going to invest in private enterprise, either via some investment institution, for example a unit trust, or on their own. If the market is not well run and securities are incorrectly priced, then many individuals will stop investing and this will seriously reduce the availability of funds to expanding companies.

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Notes and References

W. J. Baumol, The Stock Market and Economic Efficiency (Fordham University Press, 1965) for a discussion of the requirements of a well-run market place.

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A. J. Merrett and A. Sykes, ‘Return on Equities and Fixed Interest Securities 1919–1966’ District Bank Review (June 1966).

A. Cowles, Common Stock Indexes 1871–1937 , Cowles Commission Monograph (1938).

R. L. Weil, ‘Realized Interest Rates and Bondholders’ Returns’, American Economic Review , vol. 60 (June 1970);

R. J. Briston, The Stock Exchange and Investment Analysis , 3rd edn. ( London: Allen & Unwin, 1975 )

E. V. Morgan and W. A. Thomas, The Stock Exchange. Its History and Functions ( London: Elek, 1962 ).

M. A. Firth, Investment Analysis: Techniques of Appraising the British Stock Market ( London: Harper & Row, 1975 ).

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Firth, M. (1977). The Role of the Stock Market. In: The Valuation of Shares and the Efficient-Markets Theory. Studies in Finance and Accounting. Palgrave, London. https://doi.org/10.1007/978-1-349-15819-5_1

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What’s behind the historic stock market highs and how it relates to the overall economy

Geoff Bennett Geoff Bennett

Diane Lincoln Estes Diane Lincoln Estes

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• Copy URL https://www.pbs.org/newshour/show/whats-behind-the-historic-stock-market-highs-and-how-it-relates-to-the-overall-economy

This has been a big week for the stock market. The Dow Jones, the much broader S&P 500 and the NASDAQ all reached record highs with the Dow crossing the 40,000 threshold for the first time. The markets have rallied back from the recent lows of 2022 and the Dow is about 40 percent higher than when the pandemic started. Geoff Bennett discussed more with Roben Farzad of Full Disclosure.

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Notice: Transcripts are machine and human generated and lightly edited for accuracy. They may contain errors.

Geoff Bennett:

As we reported, this has been a big week for the stock market. Not only did the Dow Jones close above the 40000 mark for the first time today. The much broader S&P 500 and the Nasdaq also reached record highs this week.

The markets have rallied back from the recent lows of 2022, and the Dow is about 40 percent higher than when the pandemic started.

Roben Farzad joins us now. He's the host of public radio's "Full Disclosure" podcast.

It's always great to see you, Roben.

So how significant is it that the Dow hit the 40,000 mark? Because the Dow doesn't tell us as much about the economy as the S&P 500 does.

Roben Farzad, Host, "Full Disclosure": It's a great talking point. Everything is kind of feeling pricey right now, whether it's housing, crypto, gold, stocks.

Then again, at the turn of the century, there was an infamous book called "Dow 36000." And it took forever for the Dow to even visit 20000, 25000, much less 40000. There's another school's thought that says the Dow should be far higher if it was more rationally planned, for example, if Apple or Amazon was added, or if there were other components right now that more represent this economy than the old economy components that are still in it.

So — but we will take it. But nothing is really cheap in this really peculiar economy.

So what's behind the broader rise in markets right now?

Roben Farzad:

Artificial intelligence. We have a semiconductor company called Nvidia, which is suddenly a $1 trillion, $2 trillion player.

A lot of enthusiasm about the A.I. boom. How is it going to affect manufacturing, construction, journalism, media, all these powerful semiconductor chips that are going to be required, the staffing, the consulting, professional services that are going to be disrupted because of that? So it's almost a parallel Internet.

We have had companies with record profits because they have pricing power. And oddly enough, I mean, that passes through to stock market investors. Time was you would worry that inflation would kill stocks. But if you're actually buying a Chipotle, if you're buying a homebuilder, you have these portfolio companies that are pushing through price increases, then you as a shareholder are partaking in that, hence Dow 40000 and the S&P at an all-time high.

So if you take this into account and you add last month's cooler-than-expected jobs report, is this an overall indication that the Fed might finally take this step of cutting interest rates?

It's bizarre that we're having that conversation.

You have asset prices at a record high. Nobody can seem to afford a house. There are bidding competitions left and right. And yet the Fed is romancing this idea of cutting interest rates? I think it speaks to the weakness in the economy, the fact that those who are not partaking in this wealth effect, lower-middle-income people, lower-income people, who have to overmax credit card debt, who are struggling to make ends meet amid this inflation, the kind of the value meal shock at a drive-through at a McDonald's.

The Fed has a blunt instrument. We talked about this before. And if they ease into this, does the housing market really need stimulus right now? Does the stock market need stimulus? There's a roaring debate going on in Wall Street. And, indeed, the Fed was supposed to hike earlier, and it's been punting on it.

So what I hear you say is that this is not enough to improve Americans' overall perception of the economy.

Well, what am I going to do, take my paper stock market winnings? My 401(k) is feeling puff. I still get sticker shock. I go into a Chipotle. An extra dollop of chicken is $4, Geoff? Come on. Guacamole, $4? I'm not it's not like I have that money.

That's real money, yes.

That money is on a login thing, but it's not like it's giving me a dividend to deal with the real world sticker shock of gas, housing, rents, clothing, you name it.

I mean, auto insurance, it's a bizarre, bizarre economy. But when hasn't the economy been bizarre, you know?

So how do you see this playing out moving forward?

I don't know how we put the genie back in the bottle. As I have said before, it's the first time in a generation that we have dealt with capital-I inflation.

And the Fed, the Powell Fed was telling us a few years ago that this was transitory, I mean, it's going to pass. But you get this once-in-a-generation pandemic, you flood the plain with money, and it's really hard to pull all of that back and to normalize in it. What's a normal interest rate? What's a normal stock market? What's a normal housing market?

I think that's a $15 trillion, $20 trillion question right now.

Roben Farzad, always enjoy speaking with you.

Thanks so much for coming in.

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The Advantage for Stocks When Inflation Rises

How stock and bond prices work when inflation is an ongoing possibility.

This column is inspired by an article published by a reader. (Most seem to have accomplished more than I have.) In “How Inflation Altered the Stock-Bond Relationship,” Lawrence Hamtil writes that, relative to stock prices, bond yields have become higher in recent decades,because of uncertainty about inflation.

The logic is straightforward. Inflation does not affect the payments made by conventional (as opposed to inflation-adjusted) bonds. Whether consumer prices are flat or grow by 10%, a Treasury note with a 4% coupon will pay $40 for every $1,000 of par value. Its distribution never changes. But inflation does influence corporate earnings. Because businesses can raise their prices in response to inflation, at least partially, they offer at least some protection against that danger.

Until the early 1970s, writes Hamtil, this feature went unappreciated because inflation was not a serious concern. Prices briefly surged after World War II, and then again during the Korean War, but investors correctly viewed those spikes as temporary. When supply caught up with demand, inflation subsided. However, after President Nixon cut the nation’s final ties with the gold standard by suspending the Bretton Woods system in 1971, the genie was released. High inflation became an ongoing possibility, thereby reducing bonds’ attractiveness.

Hamtil concludes by noting that equities need not be perfect inflation hedges to outdo bonds. They merely need to do something . True that. Which leads to the next issue: To what extent have companies been able to overcome inflation?

The 67% Rule

The question cannot be precisely answered because the sample size is small and the results vary. For example, when inflation skyrocketed from 1946 through 1948, so did real corporate earnings . But when inflation was equally high in the early 1980s, the opposite occurred. Adding to the difficulty of connecting inflation’s causes and effects is that higher prices sometimes immediately hurt real corporate earnings, while at other times their consequences arrive later.

Those caveats being noted, the following chart provides a reasonably accurate picture of the relationship between real corporate earnings and inflation. It shows the average annualized rate of 1) real earnings growth and 2) inflation for companies in the S&P 500, over each decade from the 1950s through the 2010s.

Real Earnings Growth and Inflation, by Decade

The very lowest decade for inflation, the 2010s, also registered the strongest real earnings growth. As that evidence suggests, companies can benefit from predictably low inflation rates. However, inflation was almost as tame during both the 1950s and early 2000s, in the first case with average corporate-earnings growth and in the second with poor results, thanks to the double-whammy of the technology-stock meltdown and the global financial crisis.

Meanwhile, despite its rotten reputation, the “stagflation” decade of the 1970s wasn’t all that bad for corporate earnings. At 3%, annual after-inflation earnings growth placed fourth among the seven decades. That picture is somewhat deceptive, as it omits the earnings decline during the early 1980s, but the lesson remains. Corporations do indeed compensate for the damage of inflation by increasing the prices they charge their clients.

In short, companies can mostly overcome inflation’s tax, but not entirely. As a rough estimate, they can neutralize two thirds of inflation’s cost. The other third represents an opportunity cost, levied by macroeconomic disorder.

For Example

Let’s now consider how the differing levels of inflation insurance for stocks and bonds—partial for the former and none for the latter—affect their future payouts. The next chart measures how 1) the earnings yields (defined as earnings divided by price) for stocks and 2) the yields on bonds can be expected to behave over time, assuming typical economic conditions.

Specifically, the study assumes 2% annual real corporate earnings growth while modeling three levels of inflation: 1) none, 2) 2.5%, and 3) 5%. When inflation is dormant, the annual growth in equity earnings yield equals the real amount of 2%, while bond yields remain unchanged. However, when inflation exists, the nominal equity earnings yield receives a multiplicative bonus of (by this column’s estimate) two thirds of the inflation rate. The net effect is that nominal earnings on stocks increase by 3.7% per year in the second scenario and by 5.4% in the third.

The year 1 figures represent current financial market prices: an earnings yield of 4.1% for the S&P 500 and (as of this past Friday) a 10-year Treasury note yield of 4.2%. The illustration then depicts how those yields would change over the next 10 years, using the above assumptions.

Earnings Yields Versus 10-Year Treasury Payouts

Note how much more attractive equities become, relative to bonds, as inflation rises. When inflation is absent, the equity earnings yield only gradually surpasses the 10-year Treasury yield, reaching 4.9% when the decade ends, as opposed to the bond’s steady 4.2% payout. But when inflation surfaces, the equity earnings yield increases to 5.7% for the medium-inflation case. If inflation is high, the final earnings yield is a generous 6.6%.

True, rising inflation can harm stock prices by reducing the multiple that investors will pay for a given amount of earnings. That occurred during the 1970s and early 1980s, as declining price/earnings ratios lowered stock returns. During that time, however, long bonds performed even worse.

This article’s numbers are merely illustrative. The 67% estimate for equities’ level of inflation protection was derived—roughly—by summarizing several decades’ worth of evidence. In any single period, the percentage of inflation that corporations can absorb without suffering a decline in real earnings will vary. However, the model does demonstrate how the underlying math works. Bond investors must wish fervently against the resumption of inflation. Equity shareholders need also care—but nowhere near so deeply.

The opinions expressed here are the author’s. Morningstar values diversity of thought and publishes a broad range of viewpoints.

The author or authors do not own shares in any securities mentioned in this article. Find out about Morningstar’s editorial policies .

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John Rekenthaler is vice president, research for Morningstar Research Services LLC, a wholly owned subsidiary of Morningstar, Inc.

Rekenthaler joined Morningstar in 1988 and has served in several capacities. He has overseen Morningstar's research methodologies, led thought leadership initiatives such as the Global Investor Experience report that assesses the experiences of mutual fund investors globally, and been involved in a variety of new development efforts. He currently writes regular columns for Morningstar.com and Morningstar magazine.

Rekenthaler previously served as president of Morningstar Associates, LLC, a registered investment advisor and wholly owned subsidiary of Morningstar, Inc. During his tenure, he has also led the company’s retirement advice business, building it from a start-up operation to one of the largest independent advice and guidance providers in the retirement industry.

Before his role at Morningstar Associates, he was the firm's director of research, where he helped to develop Morningstar's quantitative methodologies, such as the Morningstar Rating for funds, the Morningstar Style Box, and industry sector classifications. He also served as editor of Morningstar Mutual Funds and Morningstar FundInvestor.

Rekenthaler holds a bachelor's degree in English from the University of Pennsylvania and a Master of Business Administration from the University of Chicago Booth School of Business, from which he graduated with high honors as a Wallman Scholar.

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How Do Stocks Work?

Types of stock, what is a stock exchange, stock market indexes, why companies issue shares, how share prices are set.

• Benefits of an Exchange Listing
• Problems of an Exchange Listing

Investing in Stocks

The bottom line.

• Stock Markets

How Does the Stock Market Work?

Adam Hayes, Ph.D., CFA, is a financial writer with 15+ years Wall Street experience as a derivatives trader. Besides his extensive derivative trading expertise, Adam is an expert in economics and behavioral finance. Adam received his master's in economics from The New School for Social Research and his Ph.D. from the University of Wisconsin-Madison in sociology. He is a CFA charterholder as well as holding FINRA Series 7, 55 & 63 licenses. He currently researches and teaches economic sociology and the social studies of finance at the Hebrew University in Jerusalem.

The stock market provides a venue where companies raise capital by selling shares of stock, or equity, to investors. Stocks give shareholders voting rights as well as a residual claim on corporate earnings in the form of capital gains and dividends.

Individual and institutional investors come together on stock exchanges to buy and sell shares in a public market. When you buy a share of stock on the stock market, you are not buying it from the company; you are buying it from an existing shareholder.

What happens when you sell a stock? You do not sell your shares back to the company; instead, you sell them to another investor on the exchange.

Key Takeaways

• Stocks represent ownership equity in the firm and give shareholders voting rights as well as a residual claim on corporate earnings in the form of capital gains and dividends.
• Individual and institutional investors come together on stock exchanges to buy and sell shares in a public venue.
• Share prices are set by supply and demand as buyers and sellers place orders.

A stock  is a financial instrument that represents ownership in a company or corporation and a proportionate claim on its assets and earnings . Stocks are also called shares or equity.

Owning stock means that a shareholder owns a slice of the company equal to the number of shares held as a proportion of the company’s total outstanding shares .

For example, an individual or entity that owns 100,000 shares of a company with one million outstanding shares would have a 10% ownership stake in it.

Stocks are also called shares or a company’s equity.

There are two main types of stock: common shares and  preferred shares. Equities are synonymous with common shares because their market value and trading volumes are many times larger than those of preferred shares.

Common shares usually carry voting rights that enable the common shareholder to have a voice in corporate meetings and elections, while preferred shares generally do not have voting rights. Preferred shareholders have priority over common shareholders to receive dividends  as well as assets in the event of a liquidation .

Common stock can be further classified in terms of voting rights. Some companies have dual or multiple classes of stock, with different voting rights attached to each class. In such a dual-class structure , Class A shares may have 10 votes per share, while Class B shares may only have one vote per share. Dual- or multiple-class share structures are designed to enable the founders of a company to control its fortunes, strategic direction, and ability to innovate.

Stock exchanges are secondary markets where existing shareholders can transact with potential buyers. Corporations listed on stock markets do not commonly buy and sell their shares but may engage in stock buybacks or issue new shares; however, these transactions occur outside of the framework of the exchange.

Largest Stock Exchanges

The first stock markets appeared in Europe in the 16th and 17th centuries, mainly in port cities or trading hubs such as Antwerp, Amsterdam, and London.

In the late 18th century, stock markets began appearing in the United States, notably the New York Stock Exchange (NYSE) , which allowed for equity shares to trade. The NYSE was founded in 1792 with the signing of the Buttonwood Agreement by 24 New York City stockbrokers and merchants. Before this official incorporation, traders and brokers would meet unofficially under a buttonwood tree on Wall Street to buy and sell shares.

The first U.S. stock exchange in America was the Philadelphia Stock Exchange (PHLX) , which still exists today.

The advent of modern stock markets ushered in an age of regulation and professionalization that now ensures buyers and sellers of shares can trust that their transactions will go through at fair prices and within a reasonable period. Today, there are many stock exchanges across the U.S. and around the world, many of which are linked together electronically.

The NYSE and Nasdaq are the two largest exchanges in the world, based on the total market capitalization of all the companies listed on the exchange. The number of U.S. stock exchanges registered with the U.S. Securities and Exchange Commission (SEC) has reached nearly two dozen, though most of these are owned by Cboe Global Markets , Nasdaq, or NYSE owner Intercontinental Exchange.  

Source: TradingHours.com

Over-the-Counter Exchanges

There also exist several loosely regulated over-the-counter (OTC) exchanges, which may also be referred to as bulletin boards (OTCBB) . These shares tend to be riskier since they list companies that fail to meet the more strict listing criteria of bigger exchanges. Larger exchanges may require that a company has been in operation for a certain amount of time before being listed and that it meets certain conditions regarding company value and profitability.

In most developed countries, stock exchanges are self-regulatory organizations (SROs) , nongovernmental organizations that have the power to create and enforce industry regulations and standards.

The priority for stock exchanges is to protect investors through the establishment of rules that promote ethics and equality. Examples of such SROs in the U.S. include individual stock exchanges, as well as the National Association of Securities Dealers (NASD) and the Financial Industry Regulatory Authority (FINRA) .

Indexes represent aggregated prices of several different stocks, and the movement of an index is the net effect of the movements of each component. Major stock market indexes include the Dow Jones Industrial Average (DJIA) and the S&P 500 .

The DJIA is a price-weighted index of 30 large American corporations. Because of its weighting scheme and the fact that it only consists of 30 stocks (when there are many thousands to choose from), it is not a good indicator of how the stock market is doing.

The S&P 500 is a market-capitalization-weighted index of the 500 largest companies in the U.S. and is a much more valid indicator.

Indexes can be broad, such as the Dow Jones or S&P 500, or specific to a certain industry or market sector. Investors can trade indexes indirectly via futures markets, or via exchange-traded funds (ETFs), which act just like stocks on stock exchanges.

A market index is a popular measure of stock market performance. Most market indexes are market-cap-weighted , which means that the weight of each index constituent is proportional to its market capitalization. Keep in mind, though, that a few of them are price-weighted , such as the DJIA. In addition to the DJIA, other widely watched indexes in the U.S. and internationally include the:

• S&P 500
• Nasdaq Composite
• Russell Indexes ( Russell 1000 , Russell 2000 )
• TSX Composite (Canada)
• FTSE Index (United Kingdom)
• Nikkei 225 (Japan)
• Dax Index (Germany)
• CAC 40 Index (France)
• CSI 300 Index (China)
• Sensex  (India)

To make the transition from an idea germinating in an entrepreneur’s brain to an operating company, they need to lease an office or factory, hire employees, buy equipment and raw materials, and put in place a sales and distribution network , among other things. These resources require significant amounts of capital, depending on the scale and scope of the business.

Raising Capital

Many corporate giants started as small private entities launched by visionary founders like Jack Ma of Alibaba ( BABA ) or Mark Zuckerberg of Meta ( META ).

A startup can raise capital either by selling shares through equity financing or borrowing money through debt financing . Debt financing can be a problem for a startup because it may have few assets to pledge for a loan.

Equity financing is the preferred route for most startups that need capital. The entrepreneur may initially source funds from personal savings, as well as friends and family, to get the business off the ground. As the business expands and its capital requirements become more substantial, the entrepreneur may turn to angel investors and venture capital firms.

Listing Shares

Companies can access larger amounts of capital than they can get from ongoing operations or a traditional bank loan by selling shares to the public through an initial public offering (IPO) .

This changes the status of the company from a private firm with shares held by a few shareholders to a publicly traded company with shares held by numerous members of the general public. The IPO also offers early investors in the company an opportunity to cash out part of their stake, often reaping very handsome rewards in the process.

Once the company’s shares are listed on a stock exchange and trading on the market, the price of these shares fluctuates as investors and traders assess and reassess their intrinsic value. There are many different ratios and metrics that can be used to value stocks, of which the single most popular measure is probably the price-to-earnings (PE) ratio . Stock analysis tends to fall into one of two camps: fundamental analysis or technical analysis .

The prices of shares on a stock market can be set in several ways. The most common way is through an auction process, where buyers and sellers place bids and offer to buy or sell. A bid is a price at which somebody wishes to buy, and an offer, or ask , is the price at which somebody wishes to sell. When the bid and ask coincide, a trade is made.

Stock Market Supply and Demand

The stock market also offers a fascinating example of the  laws of supply and demand at work in real time. For every stock transaction, there must be a buyer and a seller. Because of the immutable laws of supply and demand, if there are more buyers for a specific stock than there are sellers of it, the stock price will trend up. Conversely, if there are more sellers of the stock than buyers, the price will trend down.

The bid-ask or bid-offer spread, the difference between the bid price for a stock and its ask or offer price, represents the difference between the highest price that a buyer is willing to pay or bid for a stock and the lowest price at which a seller is offering the stock.

A trade transaction occurs either when a buyer accepts the asking price or a seller takes the bid price. If buyers outnumber sellers, they may be willing to raise their bids to acquire the stock. Therefore, sellers will ask higher prices for it, ratcheting the price up. If sellers outnumber buyers, they may be willing to accept lower offers for the stock, while buyers will also lower their bids, effectively forcing the price down.

Matching Buyers to Sellers

Some stock markets rely on professional traders to maintain continuous bids and offers since a motivated buyer or seller may not find each other at any given moment. These are known as specialists or market makers .

A two-sided market consists of the bid and the offer, and the spread is the difference in price between the bid and the offer. The more narrow the price spread and the larger size of the bids and offers, the greater the liquidity of the stock. If there are many buyers and sellers at sequentially higher and lower prices, the market is said to have good depth .

The original manual method of trading was based on a system known as the open outcry system, where traders used verbal and hand signal communications to buy and sell large blocks of stocks in the trading pit or the exchange floor.

However, the open outcry system has been superseded by electronic trading systems at most exchanges. These systems can match buyers and sellers far more efficiently and rapidly, resulting in significant benefits such as lower trading costs and faster trade execution .

High-quality stock markets tend to have small bid-ask spreads, high liquidity, and good depth, which means that individual stocks of high-quality, large companies tend to have the same characteristics.

Advantages of Stock Exchange Listing

• An exchange listing means ready liquidity for shares held by the company’s shareholders.
• It enables the company to raise additional funds by issuing more shares.
• Having publicly tradable shares makes it easier to set up stock options plans that can attract talented employees.
• Listed companies have greater visibility in the marketplace; analyst coverage and demand from institutional investors can drive up the share price.
• Listed shares can be used as currency by the company to make acquisitions in which part or all of the consideration is paid in stock.

Disadvantages of Stock Exchange Listing

• Significant costs are associated with listing on an exchange, such as listing fees and higher costs associated with compliance and reporting.
• Burdensome regulations may constrict a company’s ability to do business.
• The short-term focus of most investors forces companies to try and beat their quarterly earnings estimates rather than take a long-term approach to their corporate strategy.

Many giant startups choose to get listed on an exchange at a much later stage than startups from a decade or two ago.

While this delayed listing may partly be attributable to the drawbacks listed above, the main reason could be that well-managed startups with a compelling business proposition have access to unprecedented amounts of capital from sovereign wealth funds , private equity, and venture capitalists. Such access to seemingly unlimited amounts of capital would make an IPO and exchange listing much less of a pressing issue for a startup.

Numerous studies have shown that, over long periods, stocks generate investment returns that are superior to those from every other asset class. Stock returns arise from capital gains and dividends.

A capital gain occurs when you sell a stock at a higher price than the price at which you purchased it. A dividend is the share of profit that a company distributes to its shareholders. Dividends are an important component of stock returns. They have contributed nearly one-third of total equity return since 1956, while capital gains have contributed two-thirds.

While the allure of buying a stock similar to one of the fabled FAANG quintet—Meta (formerly Facebook), Apple ( AAPL ), Amazon ( AMZN ), Netflix ( NFLX ), and Google parent Alphabet ( GOOGL )—at a very early stage is one of the more tantalizing prospects of stock investing, in reality, such home runs are few and far between.

Investment often depends on an individual’s tolerance for risk . Risky investors may generate most of their returns from capital gains rather than dividends. On the other hand, investors who are conservative and require income from their portfolios may opt for stocks that have a long history of paying substantial dividends.

Market Cap and Sector

While stocks can be classified in several ways, two of the most common are by market capitalization  and by sector . Market cap refers to the total market value of a company’s outstanding shares and is calculated by multiplying these shares by the current market price of one share.

Large-cap companies are generally regarded as those with a market capitalization of $10 billion or more, while midcap companies are those with a market capitalization of $2 billion to $10 billion, and small-cap companies fall in the $250 million to $2 billion range.

The industry standard for stock classification by sector is the Global Industry Classification Standard (GICS) , which was developed by MSCI and S&P Dow Jones Indices in 1999 as an efficient tool to capture the breadth, depth, and evolution of industry sectors. GICS is a four-tiered industry classification system that consists of 11 sectors and 24 industry groups. The 11 sectors are:

• Industrials
• Consumer discretionary
• Consumer staples
• Information technology
• Communication services
• Real estate

This sector classification makes it easy for investors to tailor their portfolios according to their risk tolerance and investment preference. Conservative investors with income needs may weigh their portfolios toward sectors with constituent stocks that have better price stability and offer attractive dividends through so-called defensive sectors such as consumer staples, healthcare, and utilities. Aggressive investors may prefer more volatile sectors such as information technology, financials, and energy.

How Does Inflation Affect the Stock Market?

Inflation refers to an increase in consumer prices, either due to an oversupply of money or a shortage of consumer goods. The effects of inflation on the stock market are unpredictable—in some cases, it can lead to higher share prices, due to more money entering the market and increased job growth. However, higher input prices can also restrict corporate earnings, causing profits to fall. Overall, value stocks tend to perform better than growth stocks in times of high inflation.

How Much Does the Stock Market Grow Every Year?

The S&P 500 has grown about 10.5% per year since it was established in the 1920s. Using this as a barometer for market growth, one can estimate that the stock market grows in value by about the same amount each year. However, there is an element of probability—in some years, the stock market sees greater growth; in other years, it grows less. In addition, some stocks grow faster than others.

How Do People Lose Money in the Stock Market?

Most people who lose money in the stock market do so through reckless investments in high-risk securities. Although these can score high returns if they are successful, they are just as likely to lose money. There is also an element of psychology: An investor who sells during a crash will lock in their losses, while those who hold their stock have a chance of seeing their patience rewarded. Finally, margin trading can make the stock market even riskier, by magnifying one’s potential gains or losses.

Stock markets represent the heartbeat of the market , and experts often use stock prices as a barometer of economic health. But the importance of stock markets goes beyond mere speculation. By allowing companies to sell their shares to thousands or millions of retail investors, stock markets also represent an important source of capital for public companies.

Investor.gov, U.S. Securities and Exchange Commission. “ Stocks: What Kinds of Stocks Are There? ”

U.S. Securities and Exchange Commission. “ Description of Capital Stock .”

The Historical Society of Pennsylvania. “ Philadelphia Stock Exchange: Papers ,” Page 1.

Investor.gov, U.S. Securities and Exchange Commission. “ National Securities Exchange .”

TradingHours.com. “ List of Stock Markets .”

U.S. Securities and Exchange Commission. “ Over-the-Counter Market .”

S&P Global Indices. “ Dow Jones Industrial Average® .”

S&P Dow Jones Indices. “ S&P 500® .”

Alibaba Group. “ History and Milestones Page .”

Facebook. “ Harvard University .”

S&P Dow Jones Indices, via S&P Global. “ The Importance of Dividends ,” Page 1.

Financial Industry Regulatory Authority. “ Market Cap Explained .”

Morgan Stanley Capital International (MSCI). “ The Global Industry Classification Standard (GICS®) .”

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Market Failures, Public Goods, and Externalities

Definitions and Basics

Definition: Market failure , from Investopedia.com:

Market failure is the economic situation defined by an inefficient distribution of goods and services in the free market. Furthermore, the individual incentives for rational behavior do not lead to rational outcomes for the group. Put another way, each individual makes the correct decision for him/herself, but those prove to be the wrong decisions for the group. In traditional microeconomics, this is shown as a steady state disequilibrium in which the quantity supplied does not equal the quantity demanded….

Externalities , by Bryan Caplan, from the Concise Encyclopedia of Economics

Positive externalities are benefits that are infeasible to charge to provide; negative externalities are costs that are infeasible to charge to not provide. Ordinarily, as Adam Smith explained, selfishness leads markets to produce whatever people want; to get rich, you have to sell what the public is eager to buy. Externalities undermine the social benefits of individual selfishness. If selfish consumers do not have to pay producers for benefits, they will not pay; and if selfish producers are not paid, they will not produce. A valuable product fails to appear. The problem, as David Friedman aptly explains, “is not that one person pays for what someone else gets but that nobody pays and nobody gets, even though the good is worth more than it would cost to produce.”… Research and development is a standard example of a positive externality, air pollution of a negative externality….

Public Goods and Externalities , by Tyler Cowen, from the Concise Encyclopedia of Economics

Most economic arguments for government intervention are based on the idea that the marketplace cannot provide public goods or handle externalities . Public health and welfare programs, education, roads, research and development, national and domestic security, and a clean environment all have been labeled public goods…. Externalities occur when one person’s actions affect another person’s well-being and the relevant costs and benefits are not reflected in market prices. A positive externality arises when my neighbors benefit from my cleaning up my yard. If I cannot charge them for these benefits, I will not clean the yard as often as they would like. (Note that the free-rider problem and positive externalities are two sides of the same coin.) A negative externality arises when one person’s actions harm another. When polluting, factory owners may not consider the costs that pollution imposes on others….

Markets can fail if there are no property rights and negotiation is costly. The Coase Theorem: Ronald H. Coase , biography from the Concise Encyclopedia of Economics

“The Problem of Social Cost,” Coase’s other widely cited article (661 citations between 1966 and 1980), was even more path-breaking. Indeed, it gave rise to the field called law and economics. Economists b.c. (Before Coase) of virtually all political persuasions had accepted British economist Arthur Pigou’s idea that if, say, a cattle rancher’s cows destroy his neighboring farmer’s crops, the government should stop the rancher from letting his cattle roam free or should at least tax him for doing so. Otherwise, believed economists, the cattle would continue to destroy crops because the rancher would have no incentive to stop them. But Coase challenged the accepted view. He pointed out that if the rancher had no legal liability for destroying the farmer’s crops, and if transaction costs were zero, the farmer could come to a mutually beneficial agreement with the rancher under which the farmer paid the rancher to cut back on his herd of cattle. This would happen, argued Coase, if the damage from additional cattle exceeded the rancher’s net returns on these cattle. If for example, the rancher’s net return on a steer was two dollars, then the rancher would accept some amount over two dollars to give up the additional steer. If the steer was doing three dollars’ worth of harm to the crops, then the farmer would be willing to pay the rancher up to three dollars to get rid of the steer. A mutually beneficial bargain would be struck….

Public Goods , by Tyler Cowen, from the Concise Encyclopedia of Economics

Public goods have two distinct aspects: nonexcludability and nonrivalrous consumption. “Nonexcludability” means that the cost of keeping nonpayers from enjoying the benefits of the good or service is prohibitive. If an entrepreneur stages a fireworks show, for example, people can watch the show from their windows or backyards. Because the entrepreneur cannot charge a fee for consumption, the fireworks show may go unproduced, even if demand for the show is strong….

Protectionism , by Jagdish Bhagwati, from the Concise Encyclopedia of Economics

Underlying both cases is the assumption that free markets determine prices and that there are no market failures. But market failures can occur. A market failure arises, for example, when polluters do not have to pay for the pollution they produce. But such market failures or “distortions” can arise from governmental action as well. Thus, governments may distort market prices by, for example, subsidizing production, as European governments have done in aerospace, as many other governments have done in electronics and steel, and as all wealthy countries’ governments do in agriculture. Or governments may protect intellectual property inadequately, leading to underproduction of new knowledge; they may also overprotect it. In such cases, production and trade, guided by distorted prices, will not be efficient….

Market-clearing vs. sticky prices: New Keynesian Economics , by N. Gregory Mankiw, from the Concise Encyclopedia of Economics

The primary disagreement between new classical and new Keynesian economists is over how quickly wages and prices adjust. New classical economists build their macroeconomic theories on the assumption that wages and prices are flexible. They believe that prices “clear” markets—balance supply and demand—by adjusting quickly. New Keynesian economists, however, believe that market-clearing models cannot explain short-run economic fluctuations, and so they advocate models with “sticky” wages and prices . New Keynesian theories rely on this stickiness of wages and prices to explain why involuntary unemployment exists and why monetary policy has such a strong influence on economic activity….

In the News and Examples

Is defense a public good? Defense , from the Concise Encyclopedia of Economics

National defense is a public good . That means two things. First, consumption of the good by one person does not reduce the amount available for others to consume. Thus, all people in a nation must “consume” the same amount of national defense (the defense policy established by the government). Second, the benefits a person derives from a public good do not depend on how much that person contributes toward providing it. Everyone benefits, perhaps in differing amounts, from national defense, including those who do not pay taxes. Once the government organizes the resources for national defense, it necessarily defends all residents against foreign aggressors….

Is education a public good? An Education in Market Failure , by Morgan Rose.

The most fundamental question raised by the school choice controversy is broader than education itself. Before we can confront the subject of the state’s role in education, we first ought to address the proper role and justification for government intervention in market activities in general…. One rationale that economists often use involves externalities and the problems that markets can have in coping with them. It might be clearer to explain what externalities are by first explaining why they sometimes cause problems for markets…

How do we determine when a market has really failed? And Is Market Failure a Sufficient Condition for Government Intervention? by Art Carden and Steven Horwitz.

Is the Occupy Wall Street movement about market failures, government failures, or both? Makers vs. Takers at Occupy Wall Street , a LearnLiberty video at Youtube.

Cathy O’Neil on Wall St and Occupy Wall Street . EconTalk podcast.

Cathy O’Neil, data scientist and blogger at mathbabe.org, talks with EconTalk host Russ Roberts about her journey from Wall Street to Occupy Wall Street. She talks about her experiences on Wall Street that ultimately led her to join the Occupy Wall Street movement. Along the way, the conversation includes a look at the reliability of financial modeling, the role financial models played in the crisis, and the potential for shame to limit dishonest behavior in the financial sector and elsewhere.

Is smoking an example of a market failure? The Economics of Smoking , by Pierre Lemieux

After the economists’ analytical assault, the case for smoking regulations seemed pretty thin in the early 1990s. Then, a new argument was proposed by World Bank economist Howard Barnum. It relied on welfare economics, a field of neoclassical economic theory designed to show that “market failures,” created by external costs or other types of “externalities” (phenomena that bypass the market), prevent free markets from maximizing social welfare. The welfare-economics argument against smoking has since been refined by other economists working with the World Bank, and has provided the intellectual basis for the Bank’s 1999 report on the smoking “epidemic.”… The argument runs as follows. Smoking is not like other consumption choices, and the economic presumption of market efficiency does not apply. This is because, as the World Bank puts it, “many smokers are not fully aware of the high probability of disease and premature death,” and because of the addictive nature of tobacco.

Global warming and market failure. The Economics of Climate Change , by Robert P. Murphy

If the physical science of manmade global warming is correct, then policymakers are confronted with a massive negative externality. When firms or individuals embark on activities that contribute to greater atmospheric concentrations of greenhouse gases, they do not take into account the potentially large harms that their actions impose on others. As Chief Economist of the World Bank Nicholas Stern stated in his famous report, climate change is “the greatest example of market failure we have ever seen.”…

Monopoly and market failure. Monopoly , by George Stigler, from the Concise Encyclopedia of Economics

A famous theorem in economics states that a competitive enterprise economy will produce the largest possible income from a given stock of resources. No real economy meets the exact conditions of the theorem, and all real economies will fall short of the ideal economy–a difference called “market failure.”…

Externalities: When is a Potato Chip not Just a Potato Chip? a LearnLiberty video.

The Failure of Market Failure. Part I. The Problem of Contract Enforcement , by Anthony de Jasay

Received wisdom advances two broad reasons why government is entitled to impose its will on its subjects, and why the subjects owe it obedience, provided its will is exercised according to certain (constitutional) rules. One reason is rooted in production, the other in distribution–the two aspects of social cooperation. Ordinary market mechanisms produce and distribute the national income, but this distribution is disliked by the majority of the subjects (notably because it is ‘too unequal’) and it is for government to redistribute it (making it more equal or bend it in other ways, a function that its partisans prefer to call ‘doing social justice’). However, the market is said to be deficient even at the task of producing the national income in the first place. Government is needed to overcome market failure. A society of rational individuals would grasp this and readily mandate the government to do what was needful (e.g. by taxation, regulation and policing) to put this right….

The Failure of Market Failure. Part II. The Public Goods Dilemma , by Anthony de Jasay

Public goods are freely accessible to all members of a given public, each being able to benefit from it without paying for it. The reason standard theory puts forward for this anomaly is that public goods are by their technical character non-excludable. There is no way to exclude a person from access to such a good if it is produced at all. Examples cited include the defence of the realm, the rule of law, clean air or traffic control. If all can have it without contributing to its cost, nobody will contribute and the good will not be produced. This, in a nutshell, is the public goods dilemma, a form of market failure which requires taxation to overcome it. Its solution lies outside the economic calculus; it belongs to politics….

Moral externalities and markets. Satz on Markets . EconTalk podcast.

Debra Satz, Professor of Philosophy at Stanford University, talks with EconTalk host Russ Roberts about her book, Why Some Things Should Not Be For Sale: The Moral Limits of the Market. Satz argues that some markets are noxious and should not be allowed to operate freely. Topics discussed include organ sales, price spikes after natural disasters, the economic concept of efficiency and utilitarianism. The conversation includes a discussion of the possible limits of political intervention and whether it would be good to allow voters to sell their votes….

Is price gouging justifiable? Munger on John Locke, Prices, and Hurricane Sandy . EconTalk Podcast.

Mike Munger of Duke University talks with EconTalk host Russ Roberts about the gas shortage following Hurricane Sandy and John Locke’s view of the just price. Drawing on a short, obscure essay of Locke’s titled “Venditio,” Munger explores Locke’s views on markets, prices, and morality.

A Little History: Primary Sources and References

John Maynard Keynes , biography from the Concise Encyclopedia of Economics

… Why shouldn’t government, thought Keynes, fill the shoes of business by investing in public works and hiring the unemployed? The General Theory advocated deficit spending during economic downturns to maintain full employment.

Ronald Coase on Externalities, the Firm, and the State of Economics . EconTalk Podcast, May 2012.

Nobel Laureate Ronald Coase of the University of Chicago talks with EconTalk host Russ Roberts about his career, the current state of economics, and the Chinese economy. Coase, born in 1910, reflects on his youth, his two great papers, “The Nature of the Firm” and “The Problem of Social Cost”. At the end of conversation he discusses his new book on China, How China Became Capitalist (co-authored with Ning Wang), and the future of the Chinese and world economies.

Did Markets Fail in Post-Soviet Economies? , a LearnLiberty video.

Prof. Pavel Yakovlev argues that capitalism, to the extent that it has been tried, has improved post-Soviet economies.

Advanced Resources

The Demand and Supply of Public Goods , by James M. Buchanan.

People are observed to demand and to supply certain goods and services through market institutions. They are observed to demand and to supply other goods and services through political institutions. The first are called private goods; the second are called public goods…. Neoclassical economics provides a theory of the demand for and the supply of private goods. But what does “theory” mean in this context? This question can best be answered by examining the things that theory allows us to do. Explanation is the primary function of theory, here as everywhere else. For the private-goods world, economic theory enables us to take up the familiar questions: What goods and services shall be produced? How shall resources be organized to produce them? How shall final goods and services be distributed? Note, however, that theory here does not provide the basis for specific forecasts. Instead, it allows us to develop an explanation of the structure of the system, the inherent logical structure of the decision processes. With its help we understand and explain how such decisions get made, not what particular pattern of outcome is specifically chosen….

The Reason of Rules: Constitutional Political Economy , by Geoffrey Brennan and James M. Buchanan.

Since we are ourselves professional economists, we have been particularly mystified by the reluctance of our profession to adopt what we have called the constitutional perspective. Economists in this century have been greatly concerned with “market failure,” which was the central focus of the theoretical welfare economists that dominated economic thought during the middle decades of the century. This market-failure emphasis extended to both micro- and macro-levels of analysis. Scholars working at either of these levels showed no reluctance in proffering advice to governments on detailed market correctives and macroeconomic management. In retrospect, post-public choice, it seems strange that these scholars so rarely showed a willingness to apply their analytic apparatus to institutions other than the market; they paid almost no attention to politics and political institutions. Once a policy recommendation seemed to have emerged from their market-failure analytics, there was no subsequent analysis aimed at proving that persons in their political roles, as either principals or agents, would somehow behave as the economists’ precepts dictated. Implicitly, economists seemed locked into the presumption that political authority is vested in a group of moral superpersons, whose behavior might be described by an appropriately constrained social welfare function. Initial cursory attempts by a few public-choice pioneers to inject a bit of practical realism into our models of individual behavior in politics were subjected to charges of ideological bias. The myth of the benign despot seems to have considerable staying power, a phenomenon that we examine specifically in Chapter 3….

Related Topics

Supply and Demand, Markets and Prices

Roles of Government

Property Rights

Government Failures, Rent Seeking, and Public Choice