Stocks Essay, Research Paper
The center of our Nation’s economy does not rest at Fort Knox with its millions of dollars worth of gold, or even the Treasury that prints the money that we use. At the center of the United States economy is Wall Street. Almost every large company in the US and around the world is traded on a Stock Exchange, from McDonalds to Yahoo. The stock market appears in the news every day. You hear about it any time it reaches a new high or a new low, and you also hear about it daily in statements like “The Dow Jones Industrial Average rose 2% today, with advances leading declines by a margin of 3-1.” Obviously stocks and “Wall Street” are important, but you may find that you know very little about them. What is a stock? What is a stock market? Where does the stock come from to begin with, and why do people want to buy and sell stock? Although investing is an every day occurrence, what people don’t know is that there are various terms, concepts, and ideas that make up what we call “Wall Street.”
Some might wonder why should we care about the stock market. Maybe they are too young to be investing, or can’t see how the market relates to their every day life. The fact is, even if you have no money in the stock market, or are in school, the stock market does affect you. It affects everything you do, from going to the mall, to buying that new outfit you have always wanted.
Right now, the New York Stock Exchange has billions of dollars changing hands every day, with thousands of companies being traded, and millions of people being affected. If we trace the roots of the New York Stock Exchange to its beginning, we would find that it was just a dirt path in front of Trinity Church in East Manhattan 200 years ago (Little, 21). Back then, there was no paper money changing hands, or even the idea of stocks. They just traded silver for papers saying they owned shares in cargo that was coming in on ships every day. The trade began to flourish and during the American Revolution, the Colonial Government needed money to fund its wartime operations. One way this was done was by selling bonds. Bonds are pieces of paper a person buys for a set price, and then after a certain period of time, they can be exchanged for a profit. Along with bonds, the first of the nation’s banks started to sell parts or shares of their own companies to people in order to raise money. In a way, this selling off of parts of their companies to whomever wanted to buy it, is what made up today’s stock market (Little, 26).
At this time Wall Street was becoming the major center of these transactions, and in 1792 twenty-four men signed an agreement that started the New York Stock Exchange (NYSE). They agreed to sell shares or parts of companies between themselves and charge people commissions to buy and sell for them. The 1900s brought with the Industrial Revolution a boom in Wall Street. Everybody wanted a piece of the action, and Wall Street grew. The New York Stock Exchange was not the only way to buy stocks at that time. Many stocks that were deemed not good enough for the NYSE were traded outside on the curbs. This “curb trading,” has now become the American Stock Exchange. Today, the New York and the American Stock Exchanges have been joined by the NASDAQ, and hundreds of local and international Stock Exchanges, that all play a part in the national and global economy (Little, 30-35).
A stock is a certificate that shows that you own a small fraction of a corporation.
When you buy a stock, you are paying for a small percentage of everything that that company owns, such as buildings, chairs, computers. When you own a stock, you are referred to as a shareholder or a stockholder. A stock is a representation of the amount of a company that you own. The benefit of owning stock in a corporation is that whenever the corporation profits, you profit as well. For example, if you buy stock in Coca Cola, and they come out with a new drink that everyone buys in high quantities, then the company will profit, and so will you. A stock also gives you the right to make decisions that may influence the company. Each stock you own has a little bit of voting power, so the more stocks you own, the more decision making power you have. In order to vote, you must either attend a corporate meeting, or you fill out a proxy ballot. A proxy ballot is a “substitute” for your absence at the corporate meeting. A ballot is a series of proposals that you may either vote for or against. Common questions are who should be on the board of directors, and whether or not to issue additional stock. You can profit more by making good decisions. Also, if you think that issuing additional stock may increase the value of the stock, then you would vote for issuing additional stock (Little, 3-8).
There are four levels of stock you can purchase. The lowest level of stock are the penny stocks. Penny stocks are small companies that have almost no chance of making it, and they usually have low or no value. These stocks could be a local chain of stores, or a company that does not provide anything desirable. In the next level there are the growth stocks. Growth stocks are new companies that have a lot of potential for success, but they are not stable, and do not always become successful. These growth stocks are also not always a safe investment. Secondary issues are well-established businesses that are almost totally insured to continue growing in strength. They are a good investment, since the profit can increase, but finding these companies can be hard. The highest level of stocks you can buy are blue chip stocks. The older companies usually are blue chip, such as International Business Machines (IBM) and AT&T, and Coca-Cola. These blue chip stocks are the safest investment you can make, but they also take a lot more time for you to make a profit. You want to invest in a company with a service or product that is in high demand. If a company invents a new kind of food that is incredible and everyone wants a lot of it, then you can profit, since the company will make tons of profit. Stock analysts regularly get the answers to these questions, and many others, and make predictions about the stocks value in the future (Little, 107).
Blue chip, secondary issues, growth stock, and penny stock corporations can issue different types of stock. The basic two types of stock are common stock and preferred stock. Both types of stock have their pros and cons, so before buying a corporation’s stock, one must decide which one they would rather own. A common stock is the basic stock a corporation issues. It just shows that you own a fraction of the company. Failures and successes of the company directly influence the common stocks. Common stocks are more of a gamble. Since there is a higher chance of making profit, common stock owners are issued their dividends or profits after the preferred stock. After all the common stock has been issued, companies begin to distribute preferred stock (Engel, 11-15).
The preferred stock owners are given their dividends before the common stock owners are. Also, if the company goes out of business, and liquidates, the preferred stock owners are paid back the money they invested before the common stockholders are reimbursed. The main drawback of preferred stocks is that they cannot benefit as much from company profits because they are only paid a fixed dividend payment. There are also classes of preferred stock. These different classes are often labeled A, B, C and so on. The different classes usually have different market prices, restrictions, and dividend payments (Engel, 30-35).
When no one is buying a stock because of a high price, companies will often issue a stock split. When they issue a stock split, a company gives you more stock for your money. They simply distribute more stocks, and decrease the price for a stock. This allows someone who doesn’t have as much money to invest in a company. If you own stock in a company that splits two for one, you would get twice the amount of stocks that you had before, but each stock will have been decreased in value by fifty percent. Stocks can split into any number, but they can also reverse split, which means that the stocks double in value, but you only get to keep half the stocks you had before. In either split, you do not lose any money. It is just like trading in two five-dollar bills for one ten-dollar bill, or vice versa (Little, 74).
The first step when buying stocks is to decide what company to buy stock in. You can buy stock in any publicly held corporation, which means that the public can control the corporation. You cannot buy stock in a privately held or closely held corporation, which are corporations that are controlled by a small group of individuals or by close friends and family. Most of the larger companies are publicly held, and you can buy from them. When selecting a company to invest in, you should make sure that they are in a strong industry, and make sure the company is strong or growing. For example, Coca-Cola is a large company that is one of the strongest in the soft drinks industry. This would make it a good stock to invest in; although finding a newer company that is growing rapidly might get you more profits quicker. Choosing the company to invest in is not an easy thing to do, and there are many different methods people have come up with to select one. Fundamental analysis is one method, in which you study the company’s current management and position in the market. Technical analysis is another method that is totally based on charts, in which you identify trends the company has, and invest accordingly. After you decide what company to invest in, you need to find a broker (Engel 82-86).
A broker is the only person that can make an order to buy or sell stocks. There are two types of brokers that every brokerage firm has. The first type of broker is a stockbroker, who researches investments, helps make goals, and give advice on investing. Discount brokers on the other hand, do not offer advice, and they do no research. They are middlemen in the transactions. Very often people use Online Brokerages as their discount broker. When you give a stockbroker your order, they relay the order to the floorbrokers. The floorbrokers do all the actual buying and selling, and they hold a seat on the exchange. After you find a broker and buy the stock, the broker does the rest of the work. You just have to call him up and place an order with him (Engel, 271).
The most basic order is the market order, where you just ask the broker to buy or sell your stocks at the best price he can get his hands on. Another type of order that takes more research and predicting on your part is a limit order. In a limit order, you tell the broker to trade only when the stock is at a certain price or better. A stop order is an order, which can save you from extreme loss. In a stop order, you tell the broker to sell your shares if the stock drops too low, and you tell him the price not to let it drop below (Little, 173).
To keep brokers honest, the government has put into place many commissions, and organizations. The largest is the Securities Exchange Commission (SEC). The SEC is a government agency whose purpose is to regulate the securities industry (the stock markets). It was created after the Great Depression when Congress passed the Securities Exchange Act of 1934. This agency decides what is legal, and prosecutes those who break the rules, along with setting many standards for brokers and investors. All companies traded on the exchanges across America have to be registered with the SEC. Each must follow rules about what they can do with their stock, how they can advertise, and much more (Walker).
Most of the rules placed on companies are to prevent the owners and employees from using insider information. Insider information is information that a person obtains about a company that is not available to the rest of the public and that can be used to their advantage while buying stocks. SEC rules and regulations not only pertain to companies on the Exchange, but to the brokers that trade, and to you, the investor. As an investor, you too, cannot buy stocks knowing information about a company that know one else knows. Brokers get the heaviest burden of rules and regulations from the SEC. Most of these rules are to protect you, the investor. An example of one of these rules is that when a floor broker goes to buy a stock on your behalf, he must buy from the lowest priced bidder, and when he is selling, he must sell it to the highest price bidder. Even though this sound normal, Floor brokers, could easily sell your stock really low to another broker, in exchange for them selling a different stock really cheap, to give a better customer a better price. This would not be fair and is why these regulations are in place (Walker).
In following your stock you will notice that stocks stick to trends or fluctuations. Fluctuations occur partly because a company makes money, or loses money. A stock is only worth what someone will pay for it. If a company makes a lot of money, its value will rise, because people are willing to pay more for a company’s stock if the company is doing well. There are many other factors that affect the value of stocks. One is interest rates, or the amount of money you have to pay a bank to loan money. If interest rates are high, stock prices generally go down, because if people can make a good amount of money, by keeping their money in banks, or buying bonds, they feel like they should not take the risk in the stock market (Engel, 248).
Many other factors have an effect on the stock market- another is the state of the economy. If there is more money around, there is more flowing into companies making their prices rise. Yet other factors are time of year, and publicity. Many stocks are seasonal, meaning they do well during certain parts of the year, and worse during others. Publicity has an effect on stock prices. If an article comes out saying that company ABC, has just invented this new type of ice that will revolutionize the industry, odds are their price will increase. On the contrary, if an article comes out saying that company ABC’s president is a crook, it is a good bet that the price will go down (Engel, 254)
To track how your stocks are doing, you have to look at stock listings. Stock listings are published in almost every newspaper. The listings look confusing at first, but can be a very useful tool when tracking your stock’s progress. The listings are organized into many columns, which include the following information: 52 weeks high and low, company name, symbol, dividend, percent yield, PE ratio, volume, high, low, close and net change. The 52 weeks high and low is a good indicator about a stock’s volatility. Volatility is an indicator of the riskiness and potential for profit that a stock has. Also, the greater the difference between the high and low, the riskier the stock is. Company’s names are usually is abbreviated in the listings, and listed alphabetically. The symbol is a one to four character symbol used as a sort of nickname for the company. Dividend is the cash amount of money that the company will pay you each year for each share of stock. The percent yield is calculated by dividing the dividend by the closing price. It just tells you how much of the price of the stock you will be paid in dividends each year. PE ratio is the price-earnings ratio that calculates the relationship between the price of a company’s stock, and the annual earnings of a company. It is calculated by dividing the closing price of the stock by the earnings per share of each stock. The volume is the amount of stocks that were traded the day before. High, low and close are the highest and lowest prices of the stock the day before and the closing price for the day before. This is an indicator of how much the price of the stock fluctuated throughout the previous day. Net is the change of the price of the stock from the previous day. This gives you an idea whether the price is dropping or rising. In addition to the stock listings, stock price charts can sometimes offer a better view of how the stock is doing. The price charts graphically organize the value of the stock over time. The charts can give you information on the company’s historical performance, the stock’s stability or volatility, the stock’s current price relative to the past, and the stock’s growth rate (Little, 61-73).
There are several “options” that experienced investors use to make a profit. Like the rest of the stock market, these options are very risky, and you should know what you are doing if you use these tricks. These options include selling short, and buying on margin. The first risky option is short selling. Basically, short selling is selling a stock before you actually buy it. To sell short, you first borrow stocks from a broker. Then you sell them immediately on the market. You keep the money that you earned from selling the stocks, hoping that the price for the stock will drop. If the price for the stock does drop then you can buy back the stock, and give them back to your broker. You will then have made a profit, since you sold them for more than you bought them for. Unfortunately, selling short does not always end as well as that. Sometime the price of the stock doesn’t drop but actually rises then you end up owing more then you originally bought them for (Engel, 214).
Buying on margin is another option that is basically buying stocks on borrowed money. You must first set up a margin account, which has a minimum balance of 2000 dollars. Once you have a margin account, you can borrow up to 50 percent of the cost of buying the stocks you want. This will enable you to gain more profits with less money. The risky part about this is that your losses are also magnified, you could end up losing double your money (Engel, 206).
Another risk that can occur with the stock market is a “CRASH.” On October 19, 1987 the stock market plunged 508 points, or 22 percent of the total market value. It was the worst crash, since 1927 that signaled the Great Depression. A major reason for the crash was fear. The 1980s had brought large stock increases; people had been making fortunes on the huge surges in the stock market. People began to fear that the market wouldn’t be able to go up forever and eventually it would fall, and create what is called a correction. The fear began to accumulate around October 15th, when The Wall Street Journal published an article entitled, “Stocks May Face More than a Correction.” It talked about how fear of a correction would bring on a landslide. People began to listen, and big investment brokers began to worry as did the SEC and NYSE. They even talked about closing the market on the 19th when there was worry that the crash would come. Even though they decided to keep the market open, news of a potential collapse was the last step and that morning, began with a quick loss of around 150 points. Although, the market did rebound a little before noon, the landslide had begun, and the market was losing too fast to hold back. In the end, the market plunged, and after the closing bell rang in the NYSE, there was silence between the brokers. People were speechless, and were many broke (www.sec.gov).
In conclusion, you can see that when dealing with what we call “Wall Street” you have to remember that there are many things to understand. But even for those who do there are also things that occur that are not explained. The stock market is about risk and taking chances. Even though on a whole the stock market has always gone up there are many times that it can drop. This is why people need to manage their money and pay attention to the things going on in the world. It is wise to invest money is the stock market to make a good return on your investment, but it is also wise to only invest what you can spare. In learning more about the market, people can make wiser choices and make investing into a safer everyday activity.