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Basics of stock market

Basics of the Stock Market

1. What is the Stock Market?

The stock market is a place where investors buy and sell shares of publicly listed companies. It serves as a marketplace where companies raise money by selling shares, and investors trade these shares to earn profits.

Example: Understanding the Stock Market with a Simple Analogy

Imagine you and your friends start a business selling fruit juice. Initially, you invest your own money to buy ingredients and set up the stall. As the business grows, you need more money to expand.

Instead of borrowing, you decide to sell small ownership shares (stocks) of your business to investors. You divide your company into 100 shares and sell each share for ₹10. Investors buy these shares, becoming part-owners of your business.

As your juice business becomes popular, more people want to buy shares. The demand increases, and the price of one share rises from ₹10 to ₹20. If an investor had bought 10 shares at ₹10 each (₹100 total), they can now sell them for ₹20 each (₹200 total), making a ₹100 profit.

In real life, stock exchanges like the NSE (National Stock Exchange) and BSE (Bombay Stock Exchange) facilitate similar transactions. Companies like Tata, Reliance, and Infosys list their shares on these exchanges, and investors track stock prices, news, and financial reports to decide when to buy or sell.

2. How Does the Stock Market Work?

The stock market works based on supply and demand principles, meaning stock prices change depending on how many people are willing to buy or sell shares.

Step-by-Step Explanation:

  1. Companies List Shares on the Stock Market
    Companies issue shares through an Initial Public Offering (IPO). These shares get listed on stock exchanges like NSE and BSE in India.

  2. Investors Buy and Sell Shares
    Investors buy shares expecting the company’s value to grow. If demand is high, the stock price increases. If many investors sell their shares, the price decreases.

  3. Stock Prices Fluctuate Based on Market Conditions
    Prices change due to company performance, news, economic conditions, global events, and investor sentiment.
    Example: If a company announces record profits, its stock price rises. If it reports losses, the price falls.

  4. Investors Make Profits or Losses
    If you buy a stock at ₹100 and its price rises to ₹150, you can sell it and make a ₹50 profit. However, if the price falls to ₹80, selling it results in a ₹20 loss.

  5. Long-Term vs. Short-Term Investing
    Long-term investors hold stocks for years, benefiting from company growth, while short-term traders buy and sell quickly to profit from small price changes.

3. Types of Stock Markets

Primary Market (IPO Stage)

The primary market is where companies sell their shares to the public for the first time to raise funds.
Example: A startup named “Foodie Burgers” issues 10,000 shares at ₹100 each, raising ₹10 lakhs through an IPO. Investors buy shares directly from the company.

Secondary Market (Stock Trading Stage)

The secondary market is where already issued shares are traded between investors. Companies do not receive money here; only investors exchange shares.
Example: After Foodie Burgers’ IPO, an investor who bought shares at ₹100 sells them to another investor for ₹150, making a profit of ₹50 per share.

4. Difference Between Stocks and Shares

  • Stocks represent ownership in one or multiple companies.
    Example: “I own stocks in Tata and Infosys.”

  • Shares represent a unit of ownership in a specific company.
    Example: “I own 100 shares of Tata Motors.”

5. Stock Exchanges in India

National Stock Exchange (NSE)

Established in 1992, NSE is known for its electronic trading system, ensuring transparency and efficiency.

  • As of 2024, NSE has over 2,671 listed companies.

  • The total market capitalization of NSE-listed companies is ₹438.9 lakh crore.

  • The NIFTY 50 is its benchmark index, representing the top 50 companies.

Bombay Stock Exchange (BSE)

Founded in 1875, BSE is Asia’s oldest stock exchange.

  • As of 2024, the Sensex (BSE’s benchmark index) comprises 30 of the largest and most actively traded stocks.

  • The BSE saw 91 IPOs in 2024, raising ₹1.6 lakh crore.

6. Market Participants

Retail vs. Institutional Investors

  • Retail Investors are individuals trading with personal funds.
    Example: A person investing ₹50,000 in Tata Motors shares.

  • Institutional Investors are large organizations like mutual funds, banks, and hedge funds.
    Example: LIC investing ₹500 crores in Reliance Industries.

Role of SEBI (Securities and Exchange Board of India)

SEBI is the regulatory body that ensures fair trading, protects investors, and regulates brokers and stock exchanges.
Example: SEBI imposes penalties on companies involved in insider trading.

Market Makers and Brokers

  • Market Makers provide liquidity by continuously buying and selling stocks.
    Example: A bank acting as a market maker in currency trading.

  • Brokers act as intermediaries who execute buy/sell orders for investors.
    Example: Zerodha, Upstox, and Angel Broking.

Role of Mutual Funds and Foreign Institutional Investors (FIIs)

  • Mutual Funds pool money from investors and invest in diversified assets.
    Example: SBI Bluechip Fund investing in large-cap companies.

  • FIIs are large foreign investors in Indian stocks and bonds.
    Example: BlackRock investing $100 million in Indian equities.

Trading vs. Investing

  • Trading involves short-term buying and selling for quick profits.
    Example: Buying Infosys shares at ₹1,500 and selling at ₹1,550 the next day.

  • Investing is for long-term wealth building.
    Example: Warren Buffett holding Coca-Cola shares for decades.

7. Types of Investments

Stocks (Equity)

Buying stocks means owning a part of a company.
Example: If you buy 10 shares of Reliance at ₹2,500, and the price rises to ₹3,000, you make a ₹500 profit per share.

Bonds (Debt)

Bonds are fixed-income investments where investors lend money to companies or the government.
Example: Investing ₹10,000 in a 10-year government bond at 7% earns ₹700 annually.

Mutual Funds

Mutual funds pool money from investors and invest in stocks, bonds, or other securities.
Example: Investing ₹5,000 in the SBI Bluechip Fund allows diversification across top companies.

Exchange-Traded Funds (ETFs)

ETFs are like mutual funds but trade like stocks.
Example: Buying a NIFTY 50 ETF at ₹200. If the index rises by 10%, the ETF price increases to ₹220.

Derivatives (Futures & Options)

  • Futures Contracts obligate buyers to purchase assets at a future date.
    Example: Buying 100 shares of Infosys at ₹1,500 for delivery next month.

  • Options Contracts give the right, but not the obligation, to buy/sell stocks.
    Example: Buying a call option on HDFC Bank at ₹1,500 for ₹50 per share.

8. Stock Selection & Analysis

Fundamental Analysis

Investors analyze financial statements, earnings, and valuation ratios.
Example: A P/E ratio of 20 means investors are willing to pay ₹20 for every ₹1 in earnings.

Technical Analysis

Traders use price charts and indicators like RSI and Moving Averages.
Example: A “Golden Cross” pattern signals a potential buy opportunity.

Dividend vs. Growth Stocks

  • Dividend Stocks pay regular income.
    Example: Johnson & Johnson offers a 3% dividend yield.

  • Growth Stocks reinvest profits for expansion.
    Example: Tesla does not pay dividends but focuses on growth.