Investing Basics: Stock, Stock Market, and Stock Market Index
, on April 20, 2011
Following the success of Introduction To Morningstar Style Box, I thought it might be a good idea to start writing more introductory level articles about investing. In this introduction to investing in the stock market series of articles, I will attempt to answer three basic questions:
- What is a stock?
- What is the stock market?
- What is a stock market index?
What is a Stock?
A stock is basically a share of ownership in a corporation. When you buy 1 share of Microsoft you own a tiny fraction of the company (approximately 1/8,400,000,000) — so I really meant it when I said tiny. In other words, to own 1% of Microsoft, you would have to own about 84 million shares, or approximately $2.2 billion worth of Microsoft stocks (as of 4/20/2011).
How Do You Make Money with Stock Ownership
Fundamentally, there are two ways that you can make money in the stock market.
- You buy shares of a company and the share price go up because the company is doing well. Later on, you could sell these shares at a higher price and make profit on your initial investment. On the other hand, the company could do poorly and you will end up losing money. Note: this basic explanation does not account for other factors that affect the stock price, such as, economic factors.
- Additionally, some companies offer quarterly dividend payments. Dividend is usually expressed in a percentage called Dividend Yield. For example, Microsoft offers a dividend of 16 cents, or a dividend yield of 2.5%. If you own 100 shares of Microsoft, you’ll receive $16 each quarter as the dividend payment.
What is the Stock Market?
Often, we speak of the stock market as if it’s a singular entity that exists somewhere. In fact, there are many physical stock markets, called stock exchanges. Two well-known stock exchanges in the United States are the New York Stock Exchange (NYSE) and the National Association of Securities Dealers Automated Quotation System (NASDAQ).
Other major stock exchanges include:
You can see a more comprehensive list of major stock exchanges at Wikipedia.
What is a Stock Market Index?
When you hear the newscaster report the “Dow Jones Industrial Average plunged 400 points,” he is referring to what we called a stock market index. There are many stock indices around the world, and the most well-known ones in the United States are:
- Dow Jones Industrial Average (DJIA) — This index consists of 30 of the largest and most widely held public companies. It is the most cited and most widely recognized of the stock market indices
- S&P 500 — This index consists of the 500 largest corporations and is considered the barometer for the U.S. economy. It is most famous for the numerous index funds that are designed to match its performance, leading to indexing revolution of the recent years.
- NASDAQ Composite — This index consists of all common stocks and securities listed on the NASDAQ stock market. It is considered the key indicator of technology and growth companies performance.
There are many stock market indices from around the world, for example:
I hope this series of articles help you understand the concepts stock, stock market, and stock market index a little better. As a follow up to this article, I’d like to recommend: Practical Investing Guide For Beginners. If you hands on investing is not for you, you can also check out investing for beginners using Betterment.
Reviewed and updated April 20, 2011.
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