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flowerbug
Super Self-Sufficient
ok. so let's assume you've never done anything at all with the stock market. what is it?
the simple answer is that it is indeed a market where people have used various forms of technology over the years to exchange chunks of companies.
you say "What!? How are they selling and buying chunks of companies?"
this is where it gets fun. different states have different laws, but in the end what you are dealing with is that some people get together and decide to set up a business. they put money into it and make things to sell or whatever. if you ever have seen the word widget go flying by in a conversation it was probably first used by people trying to talk about a fictional company that made them. eventually they have profits or losses and they keep track of it all for accounting and to pay the workers and also to pay the taxes.
note though we've not yet done anything with stocks yet. we're just talking about a company. eventually, they get to the point where they think that they can expand production and make more money so they need to get money to expand. there are different ways of getting more money and one way is to borrow it from a bank or from other investors. all of these investors want a chunk of the business in return. a way for the original owners to keep some of the company for themselves but to also sell a part of it is to issue shares in the company that are worth so much money and they then sell the rest to the banks or investors.
the net worth of the company (assets - liabilities) is hopefully positive, but sometimes it isn't at first. people put money in but they haven't made anything yet. it takes risk to give people money and not be sure you'll get anything in return. the hope for the investors is that eventually they'll be able to sell their stock at a gain. the other longer term hope is that the company gets going well enough that the company can return even more money in the form of dividend payments.
a specific and easy example would be Joe's Worm Farm (i had to do this ):
Joe and friends decide they want to do this for a business. they set up their place and get the proper paperwork done with the state and the feds. all squared away with the right numbers and licenses and whatever else they need. they put in $100 bucks to buy some pails, worms, bedding and covers and they have a small place they rent to keep them. there's no shares yet. but eventually they decide that they have the potential to make some real money growing worms so they approach investors to give them more money. the investors agree as long as they get a chunk of the company so the owners of Joe's Worm Farm set up things so that they keep ownership control of the company by creating 1000 shares and they give the investors 400 of them and keep 600 for themselves.
what is the value of those shares? each one is divided into the net worth of the company. so if the company has a net worth of $2000 dollars before the investors give them more money then each share is worth about $2.
i'm greatly simplifying things here but trying to get across that this isn't really a tough concept. in the real world versions though the accounting is more complicated, there are plenty of rules and regulations about what an asset and liability are and how expenses, profits and all sorts of other things have to be taken into account. it keeps the lawyers and accountants busy for sure. but back to Joe's and what the stock market is.
at first for small companies they normally aren't going to show up on a big stock market because they don't have enough money and also because they're just not big enough. so a few years later when Joe's takes over a bigger part of the market for worms then perhaps they will consider doing what is called Going Public or having an IPO (initial Public Offering). by this time they may have issued a lot more shares and gotten a lot more investments from the banks or others. but they want to bring in even more money for expansion. so they go through yet more paperwork and file to do the IPO and this is where the stock brokerages and banks will get so many shares and they go around and try to find people to buy them and then on the day the company goes public then the shares are trade on the market and are no longer limited to private exchanges. this is where most regular people finally can buy and sell chunks of Joes. by then the initial investors may be history or they may stick around hoping that Joes keeps going up and the shares they own will keep increasing in value.
the stock market itself is just like any other auction, you have people who want to buy and people who want to sell and the market acts as the go-between and the gathering space where people know to look. as time has gone on this has gone from the older times when people used markers on slates or even things like shells and beans to keep track of what was going on, then it was paper and ledgers and now it's computers. i can tell you that it is very nice now to not have to deal with papers but you do want to keep your eye on your accounts.
you can hire a broker to recommend stocks and even pay them a commission for providing the service and they will do the trades for you and you can even just give them full control and leave it all up to them if you trust them that much.
i've never been that trusting. i have bought my own stocks through a discount broker and that means they don't call me trying to sell me things i don't want and that also means that if i screw up it's my own fault. i'm good with that.
ok so you may hear that it is a good idea to diversify and that is indeed a good thing in that by doing that you spread the risk of any one company going broke out across more than one company. you can also buy what are called mutual funds where the fund does all the selecting and trading of the stocks and they take a fee for doing that and in exchange you get to not worry about any specific companies. there are also funds which try to follow specific market indexes like the Dow Jones Industrial Average or the Standard and Poor's 500 index. these are both interesting and i have a big chunk of my retirement money which is in a fund which aimed at following the S&P500. i also have another chunk of money which is in a global fund (which hasn't done as well). then i also have some individual stocks which i buy (and sometimes sell - but i'm not an active trader so i'm mostly conservative and don't play games in the market). which gets us to the next topic.
what is selling short?
selling short is when you think a stock is going down (that is the current price looks too high and you think the stock price will fall). so you borrow the shares and immediately sell them and put all that money into your pocket. since you have borrowed them at some point you will have to buy them back to return to whoever you got them from. there are some other things too involved but we'll skip that for the moment to keep it more simple. but the ultimate goal is to make money so you want to buy them back for less than what you put in your account. so if the price has fallen the difference will be your profit. it's a pretty risky thing to do. i've never done it myself. the risk is that if you are wrong and the price of the stock goes up. this means that you will have to at some time buy back the stock for more money than you got for it when you borrowed it and sold it. the upside is much bigger than the downside (which is 0). so to me it's more risk than i ever want to take. the other thing that happens is that when the stock goes up your brokerage might ask you to put more money into your account to cover this change in circumstances, because they don't want to lose money either. so it can be quite a stressful thing because in the case where the number of shares are not a lot or for some reason people don't want to sell them then that can drive the price up too so you get what is called a short squeeze. everyone who sold short expecting the stock to go down all of a sudden have to find shares to buy because the price has gone up and that means the demand for the stock is also going to go up even more so it can feed back on itself and really clobber the people who sold short.
wow, this gets long. sorry if i've put too much detail in here. if it's not clear ask questions. i see i made a few mistakes so those i've fixed. no promise to be perfect here. there's a lot more details to learn as you go...
the simple answer is that it is indeed a market where people have used various forms of technology over the years to exchange chunks of companies.
you say "What!? How are they selling and buying chunks of companies?"
this is where it gets fun. different states have different laws, but in the end what you are dealing with is that some people get together and decide to set up a business. they put money into it and make things to sell or whatever. if you ever have seen the word widget go flying by in a conversation it was probably first used by people trying to talk about a fictional company that made them. eventually they have profits or losses and they keep track of it all for accounting and to pay the workers and also to pay the taxes.
note though we've not yet done anything with stocks yet. we're just talking about a company. eventually, they get to the point where they think that they can expand production and make more money so they need to get money to expand. there are different ways of getting more money and one way is to borrow it from a bank or from other investors. all of these investors want a chunk of the business in return. a way for the original owners to keep some of the company for themselves but to also sell a part of it is to issue shares in the company that are worth so much money and they then sell the rest to the banks or investors.
the net worth of the company (assets - liabilities) is hopefully positive, but sometimes it isn't at first. people put money in but they haven't made anything yet. it takes risk to give people money and not be sure you'll get anything in return. the hope for the investors is that eventually they'll be able to sell their stock at a gain. the other longer term hope is that the company gets going well enough that the company can return even more money in the form of dividend payments.
a specific and easy example would be Joe's Worm Farm (i had to do this
):Joe and friends decide they want to do this for a business. they set up their place and get the proper paperwork done with the state and the feds. all squared away with the right numbers and licenses and whatever else they need. they put in $100 bucks to buy some pails, worms, bedding and covers and they have a small place they rent to keep them. there's no shares yet. but eventually they decide that they have the potential to make some real money growing worms so they approach investors to give them more money. the investors agree as long as they get a chunk of the company so the owners of Joe's Worm Farm set up things so that they keep ownership control of the company by creating 1000 shares and they give the investors 400 of them and keep 600 for themselves.
what is the value of those shares? each one is divided into the net worth of the company. so if the company has a net worth of $2000 dollars before the investors give them more money then each share is worth about $2.
i'm greatly simplifying things here but trying to get across that this isn't really a tough concept. in the real world versions though the accounting is more complicated, there are plenty of rules and regulations about what an asset and liability are and how expenses, profits and all sorts of other things have to be taken into account. it keeps the lawyers and accountants busy for sure. but back to Joe's and what the stock market is.
at first for small companies they normally aren't going to show up on a big stock market because they don't have enough money and also because they're just not big enough. so a few years later when Joe's takes over a bigger part of the market for worms then perhaps they will consider doing what is called Going Public or having an IPO (initial Public Offering). by this time they may have issued a lot more shares and gotten a lot more investments from the banks or others. but they want to bring in even more money for expansion. so they go through yet more paperwork and file to do the IPO and this is where the stock brokerages and banks will get so many shares and they go around and try to find people to buy them and then on the day the company goes public then the shares are trade on the market and are no longer limited to private exchanges. this is where most regular people finally can buy and sell chunks of Joes. by then the initial investors may be history or they may stick around hoping that Joes keeps going up and the shares they own will keep increasing in value.
the stock market itself is just like any other auction, you have people who want to buy and people who want to sell and the market acts as the go-between and the gathering space where people know to look. as time has gone on this has gone from the older times when people used markers on slates or even things like shells and beans to keep track of what was going on, then it was paper and ledgers and now it's computers. i can tell you that it is very nice now to not have to deal with papers but you do want to keep your eye on your accounts.
you can hire a broker to recommend stocks and even pay them a commission for providing the service and they will do the trades for you and you can even just give them full control and leave it all up to them if you trust them that much.
i've never been that trusting. i have bought my own stocks through a discount broker and that means they don't call me trying to sell me things i don't want and that also means that if i screw up it's my own fault. i'm good with that.
ok so you may hear that it is a good idea to diversify and that is indeed a good thing in that by doing that you spread the risk of any one company going broke out across more than one company. you can also buy what are called mutual funds where the fund does all the selecting and trading of the stocks and they take a fee for doing that and in exchange you get to not worry about any specific companies. there are also funds which try to follow specific market indexes like the Dow Jones Industrial Average or the Standard and Poor's 500 index. these are both interesting and i have a big chunk of my retirement money which is in a fund which aimed at following the S&P500. i also have another chunk of money which is in a global fund (which hasn't done as well). then i also have some individual stocks which i buy (and sometimes sell - but i'm not an active trader so i'm mostly conservative and don't play games in the market). which gets us to the next topic.
what is selling short?
selling short is when you think a stock is going down (that is the current price looks too high and you think the stock price will fall). so you borrow the shares and immediately sell them and put all that money into your pocket. since you have borrowed them at some point you will have to buy them back to return to whoever you got them from. there are some other things too involved but we'll skip that for the moment to keep it more simple.
but the ultimate goal is to make money so you want to buy them back for less than what you put in your account. so if the price has fallen the difference will be your profit. it's a pretty risky thing to do. i've never done it myself. the risk is that if you are wrong and the price of the stock goes up. this means that you will have to at some time buy back the stock for more money than you got for it when you borrowed it and sold it. the upside is much bigger than the downside (which is 0). so to me it's more risk than i ever want to take. the other thing that happens is that when the stock goes up your brokerage might ask you to put more money into your account to cover this change in circumstances, because they don't want to lose money either. so it can be quite a stressful thing because in the case where the number of shares are not a lot or for some reason people don't want to sell them then that can drive the price up too so you get what is called a short squeeze. everyone who sold short expecting the stock to go down all of a sudden have to find shares to buy because the price has gone up and that means the demand for the stock is also going to go up even more so it can feed back on itself and really clobber the people who sold short.wow, this gets long. sorry if i've put too much detail in here. if it's not clear ask questions.
i see i made a few mistakes so those i've fixed. no promise to be perfect here. there's a lot more details to learn as you go...
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