Novice Investor – Stock Market for Beginners and Invest Tools

You hear all the time about people making good easy money from Stock Market Exchange dealing but, really, how on earth does the average person use the stock market?

This article is the first of our Novice Investor Series guides to the stock market. The idea is not to try and sell a load of invest tools of share dealing accounts, but to set out, clearly, how it works and the stock analysis that people do to try and make money.

So, first things first, why are companies on the stock market exchange anyway?

Well, when a company becomes successful, and reaches a certain size, the directors often decide to raise more money to expand the company significantly and/ or that they would like to cash in on their shares by selling some of them. This is where the stock market comes in.

When a company decides to join the stock market, they generally appoint an investment bank to prepare all the documentation and do the initial marketing of the company and its shares to potential buyers. These first buyers are likely to be big institutions, professional investors and large pension schemes. The Investment bank often ‘underwrites’ the share sale, which basically means they agree to buy up any shares they do not manage to sell to other people.

The company will not sell all of their shares to the stock market, just a portion of them.

It is the initial sale of shares, arranged by the investment bank, which creates enables the existing shareholders to get their payout.

Once the shares start to become traded on the stock market then things really get going, people can buy and sell the shares freely and the original buyers of the shares will hopefully be able to sell their shares on at a profit. Trading in the shares after they have been listed on the stock market is called the secondary market.

The original company and shareholders do not benefit at all from the subsequent buying and selling of these shares between other investors, it was only the initial share sale which created the money.

Why does the company care about its share price then?

Although the company only made the money on the initial sale of shares, they have numerous vested interests to see their share price continue to go up. These are:

1. Kudos and ego’s

2. The directors are likely to retain significant shareholdings and will therefore profit if the share price goes up

3. Once a company is listed on the stock market it has a duty to work on behalf of its shareholders, and this includes creating ‘shareholder value’

4. The company may decide to issue more shares (rather than the directors selling existing ones) and this will realise more money per share if the price is higher

5. Director remuneration is often linked to share price performance – a key driver therefore!

The stock market exchange can be an exciting and profitable place to invest, but remember neve to risk more than you can afford to lose!..

Well, you need to think about all the invest tools available for share dealing. The first thing you need to think about is whether you are going to Invest or Trade?

Investing is the concept of buying a share and holding it for the very long-term; you will need to think about the long-term prospects of sector the company is in (is it property, retail, manufacturing) and also the long-term prospects for the company.

This tends to be a relatively passive (and probably less stressful) investment approach. You may decide, for example, that Tesco has great prospects; people will always need to buy food, Tesco has a history of doing very well and it is setting up a major global business which could drive growth. This is a valid approach and you could make your decision entirely on this basis.

If you invest in this way then you may not use any other invest tools, or technical analysis, charts or timing. You just like the company, want to hold it forever and go ahead and buy it.

What is wrong with this approach? Well nothing really, if you genuinely believe in the company and will ride out any short-term problems the company develop and not worry if the shares go down significantly early on then it’s fine.

This is long-term investing. There are also lots of different approaches to Investing, including value, growth and yield, I will write about each of these in separate posts.

There are however lots of invest tools that other investors use to make share dealing a bit more scientific, they try to value the company and assess, in lots of ways, whether it is currently cheap or expensive. They look at charts and try to assess the current mood of the market and determine whether now is a good time to go in or not.

Investors use these various tools to optimise the type of long-term investment approach outlined above, but they are largely used by Traders, people looking to make more short-term profits.

Trading is an altogether different beast

Trading in the stock market is usually much more short-term and aims to exploit swings and moves in the price of different shares (or assets or indicies) which may, or may not, appear predictable based on lots of different factors.

There are lots of different approaches to this and , as this article is meant to be a general overview of Invest tools, I will not cover them now. But look out for other articles in the Novice Investor Series.