After understanding the gains one can make using the stock market, one must understand how the stock market works in order to make such gains. 

Firstly, what is a stock? 

A stock/share is a unit of ownership in a company. A person who owns a single stock in a company is (theoretically) an owner of the company. However, that does not necessarily mean that you can make decisions for the company. It is so because each share carries voting rights with it.

Every shareholder is allowed to vote for the resolutions which are tabled at the meetings held by the company, and the resolutions which receive the requisite majority are passed. By holding shares in a company, you are eligible to attend the company’s meetings, vote on several matters, and are also eligible to receive dividends.

There are mainly two kinds of shares: Equity and Preference. Equity shares are the shares we discussed above. These shares carry voting rights and allow shareholders to earn dividends when announced by the company. A preference share is a different kind of share that is not very well known or offered by most companies. However, these shares have certain pros that equity shares do not possess:

  • A company may or may not declare dividends for Equity shares, they are not legally required to. One may hold the shares of a company for a lifetime and not receive any dividends. However, Preference shareholders must be paid a certain amount of dividend every year. If a company is unable to pay the same in a particular year, the dividend accumulates and must be paid alongside next year’s dividend.
  • If a company liquidates i.e. shuts down, Preference shareholders are given priority over Equity shareholders in terms of capital recovery. It means that when a company wraps up, the chances of recovering the invested amount are higher for Preference shareholders as opposed to Equity shareholders.

So shouldn’t we just purchase Preference shares? Not necessarily. Although Preference shares sound like a pretty attractive investment opportunity, Equity shares have a few pros of their own:

  • There are certain times when companies earn excess profits due to certain reasons (either internal or external). In times like this, Preference shareholders are only paid the fixed dividend amount that was promised while Equity shareholders would be the direct recipients of such extraordinary profits.
  • Equity shareholders possess the power to overturn the management of the entire company. When a certain number of them band together, they can call forth meetings of their own volition and table any resolution they so desire. However, Preference shareholders do not possess voting rights.

Now, when discussing shares, one must know that these shares are available to everybody i.e. anybody can buy these shares if they desire to. One only needs funds in their bank account and a Demat account. 

A Demat account is an account created with a broker that an individual can use in order to purchase shares in their desired company. These shares are held in a ‘Dematerialized’ form in the investor’s account. For example: If I want to, I can buy shares in Reliance Industries, India’s most valuable conglomerate, by paying the price of these shares to the seller via my broker.

So, how does one buy these shares? There are no shops selling us shares. All share transactions are carried out through exchanges. 

An Exchange is a market that allows us to meet buyers/sellers to buy/sell our desired stock. In this market, we can buy our stock and sell our stock, but all these transactions take place through a registered broker. 

When you as a buyer meet a seller who is selling the stock you want at the price that both of you are content with, a deal is finalized and upon transfer of funds, the transaction is completed with both parties getting what they wanted: You, your desired stock & the seller, the money. 

Would you believe it if I were to tell you that you can sell gold, silver, copper, and even oil through exchanges? It might be hard to believe, but one can sell these things through exchanges as well. Different exchanges facilitate the trade of different types of items. When discussing commodities like gold and silver, the deals are complicated. 

You cannot simply sell or buy as you do in a normal market. You must enter into contracts called derivatives for the purposes of carrying out your transactions (more on this later).

However, the main purpose of all these exchanges is the same: to connect buyers with sellers. All of our discussion till now was from your point of view i.e. a retail investor (aspiring) In the previous section you read about the benefits of investing through the markets and the extra gains you could earn. For companies, the markets are equally important. Companies can raise money from these markets.

A bank loan is also a credible way of raising funds, but there are a few issues to be considered. Firstly, banks offer loans after fulfilling certain formalities & in exchange for certain guarantees, which every company may not have. Furthermore, the added pressure of making timely repayments will adversely impact a company’s functioning.

With the help of these exchanges, companies take the money which you invested and use it for their own purposes. For example- expanding operations or repaying loans.