Trading and Investing
If you have ever looked at the price charts of shares, then you will have noticed that they are changing price all the time. You can easily find charts online by going to Yahoo Finance or to one of the many other financial websites. Most if not all will allow you to look at basic stock charts without any subscription or with a free registration, and you should take advantage of this to go and get a feel of how prices move.
The reason prices change so frequently is that there are many people buying and selling shares. The laws of supply and demand mean that the prices go up if many people want to buy and not many want to sell, and the prices go down if there are many sellers but few buyers. Of course, people can only buy the number of shares that are being sold, for the most part. This means the price goes up and down until it reaches a level, just for a moment, when the number of shares that people want to buy equals the number of shares that people want to sell at the particular price, and the trades are done. Then you can think of it starting again with the next lot of buyers and sellers. If there are more potential buyers than sellers, then the price might go up a bit until some of the buyers drop out or some more people are tempted to sell. If there are more potential sellers than buyers, then the price will probably drop slightly. It‘s a constantly fluctuating market, changing continuously, but thinking of it in this way makes it a little easier to see what is happening and why the price changes.
In real life, there will be a queue of orders, ready to be fulfilled, but waiting for the right prices. A seller might say, “If only it goes up another penny per stock, then I wouldn’t mind selling my 2000 shares”, and a buyer may say, “I would buy 500 of those if the price came down to…”. It’s a complex job, balancing out the supply and demand, and that’s what the floor trader has to do.
Considering this process of prices going up and down suggests the first way that people try to increase their wealth with shares. They buy and sell, sometimes several times a day or perhaps only once or twice a week, hoping that they buy at a lower price than they are able to sell at later. The people who do this are generally called traders, not to be confused with the professional traders who work at the stock markets, and these traders may be classified further into day traders, short-term traders, etc. according to how they approach the market.
On this short of a time scale, if you make a profit it is likely to come from another trader who took the opposite view to you, and bought when you sold or vice versa. They finish up losing, at least on this trade and for the time being. That is the nature of a market driven by supply and demand. Sometimes shares will actually increase inherently, say if a defence company suddenly gets a big order for hundreds of rockets, which means that the actual profits will increase dramatically in the future, but this is the exception when you are considering a short term trading timeframe. Most traders study “technical analysis”, of which more later, to learn how to read the direction of the market better.
The other way that people may increase their wealth with shares is by buying them and holding them for a while. You still need to analyse the market and the shares to find ones that should go up in value, but your analysis has to be done in a different way. In this case you are waiting for the general perception of the buyers and sellers to be that the company has become more valuable, resulting in an inexorable increase in price, despite all the little fluctuations from day-to-day. People who do this call themselves investors, and will usually use “fundamental analysis” to help them choose which companies are worth buying the shares of. Fundamental analysis is explained in more detail later.
In addition to a possible increase in the price of the shares, some companies will also pay out “dividends” at regular intervals, often quarterly, to their shareholders. The dividend is usually a portion of the profits made by the company. You can think of it as a reward for putting your money into the shares, the same as you would expect regular interest if you put your money into a savings account.
Whether a company pays out a dividend can be an important factor when choosing what to invest in, but many companies do not give dividends, preferring to keep any profits to plough back into their businesses. Occasionally, you may also find that companies that used to pay dividends can reduce or eliminate them if they happen to fall on hard times. This is seldom done, because it is very discouraging to investors, who may rush to sell when the regular income fails, causing the share prices to fall. Companies that give the dividends will usually try to maintain or slightly increase the amount each time, as this gives investors continued confidence and helps the share prices.
When you own some shares in a company, and therefore are a part owner, you will be invited to attend the Annual General Meeting (AGM) and may take part in voting on issues of management. Every share gets one vote, so major shareholders hold more sway, but often shareholders will group together to pass a particular resolution. Even though you may not be able to influence the outcome of any votes, it can be educational to attend the meetings and see how it is done.
In summary, when you buy shares you do so in the hope that they will increase in value and/or pay out regular dividends, both of which will increase your wealth. You can use fundamental analysis, described later, to try and select the companies that will increase most in value over time. It is a historical fact that money invested in stocks in general has appreciated on average more than money put into savings accounts, gilt-edged securities, or other alternative investments.
That said, it is important to note some things about investing in stocks. The stock market as a whole does not increase in value every year, in fact there can be several years in a row when your stocks, if you held on to them and did not sell, would be worth less at the end of the year than at the beginning. And no one is going to guarantee that any particular company stock will necessarily increase, as the price depends on the mood and sentiment of all the participants in the stock market. If you are going to invest in the stock market you need to be aware of the risks and do your homework so you can make the best choices.