What is stock market?

When you first introduced to stock market, you might be wondering what is stock. It is extremely important for one to understand what is stock really means before they get started.

Imagine that you want to start an internet cafe business with few of your friends, and you need to raise USD100000 to start your new company. You split the company into 100 pieces, shares of stock. You will then sell it to your friends, with one share cost USD1000 (USD100000/100). The percentage of each share holders will be calculated based on the number of shares they hold.

If the internet cafe started to make profit after tax for the first year let’s say USD20000, you could call a meeting with Board of Directors. Deciding whether to use the money to pay dividends, stock repurchase, expanding or reinvesting in the business.

With the growing of the business which you see a bright future, you might consider to further raise capital for expansion. And if your company is large enough, you can do this in stock exchange, instead of selling to your friends or family only. For most cases, reason of a company is listed in stock exchange is to raise more capital, but there are also some specific cases whereby the main purpose is to build up reputation, as companies listed in the stock exchange will have to obligate with the stock exchange rules, to notify share holders on important announcements (share buyback, share disposal/acquisition by big shareholders & etc), and the most important, to submit the audited financial report. This will make the investors make decision whether to buy or sell the company shares.

KLSE and US Stock Market (Nasdaq//NYSE) are holdings the same concept. They are platforms for companies buying/selling or I should call them auction firms, whereby you can also ask/bid for company shares.

The Coca-Cola Company which is listed in NASDAQ since 1978 is making net income of USD 11.8 billion on year 2010, and is giving away USD1.76 dividends to the shareholders, which is USD4.03 billion (USD1.76 x number of shares (2.29B) ) ~34% of the net income. The price of The Coca-Cola Company is USD65.21 now, with the same dividends as 2010, you will only earn 2.8% (before tax). This is obviously not a good return in term of dividends (not even able to overcome the personal inflation rate), so probably you will not purchase it. You might instead try to sell the shares on hand by asking it on the stock market.

However if you study the company in details, you might think that the company is going to continuously grow with the net income is continuously grow ~15%, you might be buying it, expecting that the company will be continuously growing and your dividends will keep growing by the rate ~15%. Also the price of the stock will keep rising if other investors seeing the 15% growth rate, they will probably think that is a good investment and bid for a higher price to buy the shares.

Well, this is just a simple example, and in real case, you still need to further study what is the factor for the company to grow, and will it still keep growing in the coming future.

I think you get the concept of the stock market now. Shares of a company are what you can buy/sell by bid/ask. When the demand is high, the price of the stock will be rising. And the price of the stock will be going down if the demand is low.

And the most important thing to remember is that when you buying the shares of a company, you immediately become the shareholder, you invest in the company. So in the other way round, you need to think as an entrepreneur or businessman, to only pick the company that you think is going to grow and making profit.