 Personal Finance PowerPoint Presentation, Stock Market. Prepare to get financially fit by practicing personal finance. Most of this information comes from Investopedia Stock Market which you can find online. Take a look at the references, resources, continue your research from there. This by James Chin updated May 28th, 2022. In prior presentations, we've been taking a look at investment goals, investment strategies, investment tools, keeping them in mind. We're now asking, what is the stock market? The stock market broadly refers to a number of exchanges and other venues in which shares of publicly held companies are bought and sold. So from an investment perspective, we're typically thinking about investing in stocks that are publicly traded stocks, trading on some kind of exchange, which is a benefit to both companies that want to be on those exchanges, as well as investors benefits to companies because they have more access to capital, to investment, to cash flow. They can help them to grow the business more beneficial to the investors because the exchanges typically require the companies to have more transparent reporting requirements that makes it able to compare multiple different companies, giving more credibility, more trust on the investor's side of things and giving them the capacity to make these investments and possibly get returns on them greater than what they can find elsewhere. So such financial activities are conducted through institutionalized formal exchanges, physical or electronic, and via over-the-counter OTC marketplaces that operate under a defined set of regulations. Regulations being important on the exchanges because if you, as a corporation, choose to be on the exchange, you want to be, the exchanges, they're gonna want you to be transparent so that investors have confidence, that confidence in the reporting that they're not being deceived by the reporting is what makes it easier for investors to invest. So while both terms, quote, stock market, end quote, end quote, stock exchange, end quote, are often used interchangeably, the latter term is really a subset of the former. Traders in the stock market buy or sell shares of one or more of the stock exchanges that are part of the overall stock market. So the leading US stock exchanges include the New York Stock Exchange, that's the NYSE and the NASDAQ. These leading national exchanges, along with several others operate in the country, form the stock market of the United States. Understanding the stock market, the stock market allows buyers and sellers of securities to meet, interact, and transact in person or electronically. The markets allow for price discovery for shares of corporations and serve as a barometer for the overall economy. So clearly the stock markets have a lot of different functions. They help us to basically value the shares and that's nice because in the ability to do that is because the shares are gonna be these standardized units that are all the same and therefore when they are trading on the free market, we can use them to help us to value say the corporations, we can use the stock market as a whole as one tool to help us to get a gauge on the overall economy, which is great as well. We do so using these exchanges which are kind of market-based tools, giving us a better insight most of the time than other kind of theoretical tools that we might be able to use. So since the number of stock market participants is huge, buyers and sellers are assured of a fair price and a high degree of liquidity as various market participants compete with one another for best price. So the fact that we're able to trade and sell the stocks on the secondary market, the fact that they are uniform chunks of basically ownership and they represent the same things makes them more liquid and makes it much easier for people to sell them on the secondary market. So a stock market is a regulated and controlled environment and the United States, the main regulators include the Securities and Exchange Commission, the SEC, traders are regulated by the financial and industry regulatory authority, the FINRA. The regulations are important because if a corporation, corporations don't have to go public and trade on public exchanges. If they want to do so, they're asking for money from public individuals, investors, which include people like things like 401K plans and IRAs, and if they want that, then they've got to be transparent would be the idea, meaning you have to report in such a way that it's fair, that it's accurate, that we have possibly a third party that's verifying what you are reporting and in such a way that we can make comparisons with other companies. And that is what that confidence is what allows investors to invest with more confidence. So since the stock market brings together hundreds of thousands of participants who wish to buy and sell shares, it ensures fair pricing practices and transparency in transactions. So it's kind of like a government here, right? If you're dealing with the public, you need to be transparent, right? You don't mean if you're lying from a public situation or from trading to the public, then that's gonna mess up the whole system, right? So while earlier stock market issued and dealt in paper based physical share certificates, the modern day computerized stock markets operate electronically. So more and more we can do this kind of on an electronic system that's of course faster. How the stock market works in a nutshell. Stock market provide a secure and regulated environment where market participants can transact and shares in other eligible financial instruments with confidence with zero to low operational risk. Operating under the defined rules as stated by the regulator, the stock market acts as a primary markets and secondary markets. As a primary market, the stock market allows companies to issue and sell their shares to the public for the first time through the process of an initial public offering. That's an IPO. This activity helps companies raise necessary capital from investors. This is one of the points from the corporation standpoint. If they want more capital possibly to grow, one way to do that is to issue stocks, issuing more stocks. If the stock is issued directly from the corporation, then that's gonna be basically the primary market. Whereas oftentimes we deal on the secondary market because all these shares are uniform in nature, we can then buy and sell them on the secondary market that being meaning we don't buy them directly from the company but from other investors. So this essentially means that a company divides itself into a number of shares, for example, 20 million shares and sell some of those shares, say five million shares to the public at a price for instance, $10 per share. To facilitate this process, a company needs a marketplace where these shares can be sold. So this marketplace is provided by the stock market. If everything goes according to plan, the company will successfully sell its five million shares at a price of $10 per share and collect $50 million. So investors will then own company shares in the expectation that their value will rise or that they will receive dividend payments. So we're investing in order to get value in one of two ways, the earnings are either going back into the company in which case the stock price theoretically would go up and we could sell it at a higher price or the company is gonna give dividends which is kind of similar to draws for a sole proprietorship but it's decided by the company which is decided by management and the board of directors which are voted on by the shareholders in essence the owners. So the stock exchange acts as a facilitator for this capital raising process and receives a fee for its services from the company and its financial partners. Special considerations, the stock exchange shoulders, the responsibility for ensuring price transparency, liquidity, price discovery and fair dealings in such trading activities. So they need to be facilitating this kind of transparency component which is the thing that undergirds this whole process to work smoothly. As almost all major stock markets across the globe now operate electronically, the exchange maintains trading systems that efficiently manage buy and sell orders from various market participants. They perform the price matching function to facilitate trade execution at a price that is fair to both buyers and sellers. A listed company may also offer new additional shares through other offerings at a later stage such as through rights issues or follow on offerings. They may even buy back or delist their shares. The stock exchange facilitates these transactions. The stock exchange often creates and maintains various market level and sector specific indicators like the S&P standard and poorest 500 index and the NASDAQ 100 index which provide a measure to track the movement of the overall markets. So you might think, how can I get a gauge on the overall market or a segment of the market? We're not gonna take all the stocks into that gauge. We're gonna try to take a sample. So they're gonna take a sample and that sample is supposed to give an idea of the overall market or you could have other indexes giving a sample of certain components of the markets. So other methods includes the stock acoustic escalator and the stock acoustic momentum index, other types of kind of measurement tools. So the stock exchanges also maintain official websites that host company news, announcements and financial reporting. A stock exchange also supports various other corporate level transaction related activities. For instant, profitable companies may reward investors by paying dividends that come from the company's earnings. So the exchange maintains that information and may support its processing to a certain extent. Functions of a stock market. A stock market serves the following main functions, fair dealing and securities transactions. Depending on the standard rules of supply and demand, the stock exchange needs to ensure that all interested market participants have instant access to data for all buy and sell orders, thereby helping the fair and transparent pricing of securities. It should also perform efficient matching and appropriate buy and sell orders. For example, there may be three bad buyers who have placed orders for buying Microsoft shares at $100, $105 and $110. And there may be four sellers who are willing to sell Microsoft shares at $110, $112, $115 and $120. The exchange through automated trading systems needs to ensure that the best buy and the best sell are matched, which in this case is at $110 for the given quantity of trade. Efficient price discovery. Stock markets need to support an efficient mechanism for price discovery. This refers to a critical function of the markets. The price of any stock is determined collectively by all of the buyers and sellers. That's the point of the market. It's supposed to help to determine the price, help to discover the price, having all the stocks in a uniform kind of nature or uniform chunks of ownership of the companies then helps with the market ability for the trading and you have to have the price discovery function for it to be most efficient. So for example, an IPO may be priced at $15, but its real value might be $12 or $17. Its value is estimated by the demand or lack of it for the stock. So the demand of course, demand and supply, supply and demand, that's how it works. That's what the markets do. Or let's say a US based software company is trading at a price of $100 and has a market capitalization of $5 billion. One day, a European Union EU regulator imposes a $2 billion fine on the company, which essentially means that 40% of the company's value may be wiped out. While the stock market may have imposed a trading price range of $90 and $110 on the company's share price, it should efficiently change the permissible trading range to account for the possible changes in the share price. Otherwise, shareholders may struggle to trade the stock at a fair price. Liquidity maintenance, the stock market needs to ensure that whoever is qualified and willing to trade gets instant access to place orders and that the orders are executed at a fair price. So you gotta make sure the systems, the workings, the operations, the process is fair. Security and validity of transactions. The market needs to ensure that all participants are verified and remain compliant with the necessary rules and regulations, leaving no room for default by any of the parties involved. Additionally, it should ensure that all associated entities operating in the market adhere to the rules and work within the legal framework and poosed by the regulation. Support all eligible types of market participants. A market place is made up of a variety of participants which include market makers, investors, traders, speculators and hedgers. All of these participants operate in the stock market with different roles and functions. For instance, an investor may buy stocks and hold them for the long term, spanning many years while a trader may enter and exit a position within seconds. A market maker provides necessary liquidity in the market while a hedger may like to trade in derivatives for mitigating the risk involved in investments. The stock market should ensure that all such participants are able to operate seamlessly, fulfilling their desired rules to ensure that the market continues to operate efficiently. Investor protection. The stock market has many wealthy participants and institutional investors, but it also has a large number of small investors. Some of these investors have limited financial knowledge and may not be fully aware of the pitfalls of investing in stocks and other listed instruments. For this reason, the stock exchange implements some measures to shield investors from financial loss and ensure customer trust. For instance, a stock exchange may categorize stocks in various segments depending on their risk profiles and allow limited to high risk stocks. Exchanges often impose restrictions to prevent individuals without the necessary credentials to get into risky bets like derivatives. A balanced regulation. Listed companies are regulated and their dealings are monitored by market regulators such as the SEC. So you've got different kind of regulation components. You would think of course the exchanges themselves would like to self-regulate because that trust is what's gonna adhere or keep them going in the long term, but obviously oversight on the government side of things as well if you wanna have a good balance to maximize trust without being overly burdensome to the point where it's gonna cost more than the benefits are gonna have and obviously that's a balancing act that continues. So in addition, the exchanges set certain requirements for example, a mandating timely filing of quarterly financial reports and instant reporting of relevant corporate developments to ensure that all market participants are equally informed. Failure to adhere to the regulations can lead to suspension of trading and other disciplinary measures. Regulating the stock market. Most nations have a stock market and each is regulated by a local financial regulator or monetary authority or institution. The SEC is the regulatory body charge with overseeing the US United States stock market. The SEC secured an exchange is a federal agency that works independently of the government and political pressure. The mission of the, so the idea here of course is that it's supposed to be a non-political entity because if it was political it would be subject to the whims of politics. So the idea is that it's supposed to be having its objective no matter what the political whims are doing would be kind of the idea. So the mission of the SEC is stated as quote, protecting investors maintaining fair, orderly and efficient markets and facilitating capital formation end quote. So stock market participants along with long-term investors and short-term traders many different types of players are associated with the stock market. Each has a unique rule but many of the rules are intertwined and depend on each other to make the market run effectively. So we got the stock brokers also known as registered representatives of the United States are licensed professionals who buy and sell securities on behalf of investors. The brokers act as intermediaries between the stock exchanges and the investors by buying and selling stocks on behalf of investors. That's basically what a broker does, right? They work on an agent's behalf or have certain things that are allocated to them to do in the agent's best interest and account with a retail broker is needed to gain access to the market. Portfolio managers are professionals who invest portfolios or collections of securities for clients. These managers get recommendations from analysts and make the buy or sell decisions for the portfolio. Mutual fund companies hedge funds and pension plans use portfolio managers to make decisions and set the investment strategies for the money that they hold. Investment bankers represent companies in various capacities such as private companies that want to go public via an IPO, initial public offering or companies that are involved in pending mergers and acquisitions. So the big moves on the company when they're basically issuing more stock or something like that or emerging in acquiring require and sophisticated investment banker as you might expect. So they take care of the listing process in compliance with the regulatory requirements of the stock market. You've got the custodians and depot service providers. Our institutions that hold onto customer securities for the safekeeping to minimize the risk of their theft or laws. So these institutions also operate in sync with the exchange to transfer shares to from the respective accounts of transacting parties based on trading on the stock market. Market makers are broker dealers who facilitate the trading of shares by posting bid and ask prices and maintaining an inventory of shares. They ensure sufficient liquidity in the market for a particular set of shares and profits from the difference between the bid and the ask price that they quote. They got the speculators engage in directional bets in the market with individual stock or broader indexes speculators can take long positions by buying shares or a short position by short selling. So some speculators hold onto their positions for a relatively long time base on fundamentals or technical analysis. Others trade quickly and often as in the case of day traders. So these all have obviously their roles to play within the market in order for the market to be taking place and help to set the price through the interaction and exchanges from these players. We've got the arbitrageers. So they are traders who identify mispricing in the market for relatively low risk profits. By doing so, they keep the market more efficient. Algorithmic and high frequency trading HFT program are often engaged in this type of arbitrage. Stock exchanges operate as for-profit institutes and charge a fee for their services. The primary source of income for these stock exchanges is the revenue from the transaction fees that are charged for each trade carried out on its platform. Additionally, exchanges earn revenue from the listing fee charged to companies during the IPO initial public offering process and other follow-on offerings. An exchange also earns from selling market data generally on its platform such as real-time data, historical data, summary data and reference data which is vital for equity research and other uses. Many exchanges will also sell technology products such as trading terminal and a dedicated network connection to the exchange to the interested parties for a suitable fee. Competition faced by stock markets while individual stock exchanges compete against each other to get maximum transaction volume, stock markets as a whole may be facing competitive threats on two fronts. So we've got the dark pools, dark pools which are private exchanges or forms for securities trading and operating within private groups are posing a challenge to public stock markets. Though their legal validity is subject to local regulations, they are gaining popularity as participants save big on transaction fees. So obviously when you look at these exchanges you're gonna say, okay, if you look at the cost of like a corporation to go public and go on the exchanges, it can be quite high. That's why you gotta get an efficient way to be balancing all the regulations that are involved with it as well because obviously the benefits of being on the exchanges would be that they now have the access to capital and the capital will be more readily there if there's transparency because the transparency produces trust but as regulations kind of compound on each other then it gets of course more and more costly as the costs go up and then there's gonna be other markets that are gonna try to cut the cost due to just having less regulations with a trust you would think would be less on other regulatory areas but people are balancing the pros and cons between the less cost and the less regulations when they're making these kind of decisions. So there's gotta be a balance involved. So we got the blockchain ventures. So amid the rising popularity of blockchains many crypto exchanges have emerged. Such exchanges are venues for trading cryptocurrencies and derivatives associated with that asset class. Though their popularity remains limited they pose a threat to the traditional stock market model by automating a bulk of the work done by various stock market participants and by offering zero to low cost services. So the blockchain is relatively new technology here and it might allow some transparency with less centralization and that's something that could be quite valuable. So we'll see what they can do with basically these blockchains because obviously it applies to a whole lot of different things. A lot of times we can't have the transparency without basically having this big centralized entity making the transparency happen through regulations and whatnot but obviously when that happens that big centralized entity whether it be a company whether it be the government is itself subject to the law of corruption when something gets big power corrupts and we know that's the case. So if you can somehow decentralize and still have the transparency that would be a problem to some of these big central entities but in the long run could be good because then you can get a transparency without that big centralized area which is likely to get corrupt over time due to the massive power that's there. So significance of the stock market is one of the most vital components of a free market economy. It allows companies to raise money by offering stock shares and corporate bonds. It lets common investors participate in the financial achievements of the companies make profits through capital gains and earn money through dividends although losses are also possible. I just wanna go back to the blockchain here as well. Just note that I'm not trying to promote the blockchain or not promote the blockchain. It's still early to tell what's gonna happen or what they can do, what that technology is gonna do, how it's gonna play out but it has some promising and interesting components to follow. Okay, so while institutional investors and professional money makers do enjoy some privileges owing to their deep pockets, better knowledge and higher risk-taking abilities, the stock market attempts to offer a level playing field on two common individuals. The stock market works as a platform through which saving and investments of individuals are efficiently channeled into productive investment opportunities. And the long-term, this helps in capital formation and economic growth for the country. Examples of stock markets. The first stock market in the world was the London Stock Exchange. It was started in a coffee house where traders used to meet to exchange shares in 1773. So the first stock exchange in the United States was started in Philadelphia in 1790. The bottomwood agreement, so named because it was signed under a buttonwood tree. So signed under a buttonwood tree. It was the buttonwood agreement. Mark the beginnings of the New York's Wall Street in 1792. The agreement was signed by 24 traders. It was the first American organization of its kind to trade in securities. The traders renamed their venture as the New York Stock and Exchange Board in 1817. For more information about such history, you can read the birth of stock exchanges is really interesting to think about these exchanges and the problems that they had with people printing shares and how that representation's gonna work and how you're gonna deal with deceit, for example, or what is deceit or what is right to do when these exchanges are not. So you can search that for more detail.