Guides Investing

TABLE OF CONTENTS

The Stock Market Explained

The Stock Market

What Are Stocks?

What Are Bonds?

Stocks vs Bonds?

INDEX FUNDS & ETFs

What Are Index Funds?

What Are ETFs?

Two Investing Truths

The Stock Market Made Simple

Erik Machuca, CFEI®

Nov 30, 2023

The Stock Market Explained

The Stock Market

The stock market is a group of exchanges where you can buy and sell securities. Securities are composed of assets such as:

Stocks

Bonds

Index Funds

Exchange Traded Funds (ETFs)

Mutual Funds

What Are Stocks?

A stock is a share in the ownership of a company.

When you invest in a stock, you are investing in real companies. With every stock you buy, you become an owner in a piece of that company. As companies grow and increase revenue, your stock in that company grows in value as well.

Stocks are identified by their stock symbol (also known as their “ticker symbol”)

A ticker symbol or stock symbol is an abbreviation of letters used to identify a company’s stock in the market. These are the same ticker symbols you can use to look up stocks on any particular investment platform. For example,

Microsoft: MSFT

Apple: AAPL

Walmart: WMT

You may be wondering, why do companies offer average joes, like us, a chance to own a piece of their company. Why would they be willing to share their profits with us? The reason companies offer shares to the public, is to raise capital through what is called an initial public offering (IPO).

This is what happens when a company goes public, and their stock becomes officially listed on the stock exchange. A stock exchange is the marketplace where securities are bought and sold (i.e., stocks and bonds). And essentially, stock exchanges connect buyers with sellers.

Now, if this is seeming confusing, don’t worry, you don’t have to know anything about how stock exchanges work in order to get started investing. I just wanted to give you a little background on the stock market.

When we go over my recommended investing platforms later in the course, you’ll see that all of this is handled on the back end by those platforms, and you as the investor, simply get to focus on investing in the companies that you believe in.

What Are Bonds?

A bond is a debt obligation, and bondholders receive interest in return for loaning the principal.

A bond is a fixed income instrument that represents a loan made by an investor to a borrower (usually corporate or governmental). A bond could be thought of as an I.O.U. between the lender and borrower that includes the details of the loan and its payments.

Bonds are used by companies, municipalities, states, and governments to finance projects and operations. Bond details include the end date when the principal of the loan is due to be paid to the bond owner and usually includes the terms for variable or fixed interest payments made by the borrower.

A bond is referred to as a fixed income instrument since bonds traditionally pay a fixed interest rate to debt-holders.

Bond prices are inversely correlated with interest rates: when Federal interest rates go up bond prices fall, and vice-versa.

Stocks vs Bonds?

Stock shareholders see returns through asset appreciation as a result of rising profits.

Bondholders do not see returns generated from rising profits. Instead, bondholders receive a set interest rate return.

Stocks are often seen as a more aggressive (higher risk) investment, and have historically paid a higher annualized return on your investment.

Bonds are often seen as a more conservative (lower risk) investment, and have paid a lower annualized return on average.

Historically, stocks have paid an annualized return between 8 to 10%.

Bonds have historically paid an annualized return between 5 to 7%.

With investing, the risk potential is relative to the reward potential. Most successful investors recommend building a well rounded investment portfolio, composed of both stocks and bonds.

Even holding a small percentage of bonds can help lower the overall risk potential of your entire portfolio.

INDEX FUNDS & ETFs

What Are Index Funds?

If you find yourself stressing about which stocks to invest in, a great way to invest in many quality companies at once, is to simply invest in an index fund.

Index funds are a group of related stocks (companies) bundled together in a single investment. Index funds can be a great way for new investors to get started because not only can they take the guesswork out of picking individual stocks, but they can also help reduce risk in your investment portfolio.

By building a diversified portfolio of several quality companies, you can set yourself up for great success on your investing journey.

What Are ETFs?

The simplest way to invest in index funds, is to invest in what are called exchange traded funds (ETFs). ETFs are essentially, tradable index funds that you can invest in.

There are thousands of individual stocks and ETFs you can invest in. But don’t worry, we’ll break that down more in just a bit.

Speaking of index funds, they represent an underlying index of the stock market. Indexes help measure the performance of different areas of the stock market (i.e., the US stock market, the global stock market, tech companies, etc.)

Similar to individual stocks, ETFs are identified by their own ticker symbol.

These are the same ticker symbols you can use to look up ETFs on any particular investment platform. For example,

Vanguard S&P 500 Index ETF: VOO

Technology Select Sector SPDR Fund ETF: XLK

Invesco QQQ Trust ETF: QQQ

SPDR Dow Jones Industrial Average ETF: DIA

Now, before we jump into how to start investing in the stock market, I want to quickly discuss two investing truths you need to know about investing.

Two Investing Truths

Before you jump into the great world of investing, it’s important to keep the following two truths in mind:

Investing is NOT a “Get-Rich-Quick” Scheme.

Investing is best for the long term

If you are looking for hot-stock picks to double your money by next week that is a one-way ticket to losing your money. That’s not investing, that is gambling.

My goal is to help you get started investing on a financial path that has much more stable, steady, and consistent growth of your money.

When you invest in the stock market, your money will grow as the value of the stocks you invest in grow, but your investments can also decrease in value as the stock market fluctuates downward.

You may have heard of the terms “bull market” and “bear market.” In the stock market, there are two types of “markets.” A bull market and a bear market.

Bull Market: a period of time when stocks are rising in value.

Bear Market: a period of time when stocks are falling in value.

This is why investing is always best for the long term. In the short term, the stock market may fluctuate up or down, but over the long term the stock market has a history of increasing in value.

By investing for the long term, you can weather any short term downturns in the stock market (i.e., stock market crashes, recessions, etc.), and still come out ahead.

The stock market has historically been the simplest way to grow your wealth. You don’t have to be a stock expert and you don’t have to start with a lot of money. You just have to start, stay consistent, and stay the course.

Now that you know the best time to start investing is now, let’s address the next question:

How do you get started investing?

Why People Invest Saving vs Investing

Erik Machuca, CFEI®

Erik Machuca is the founder of EverydayInvesting.com and a Certified Financial Education Instructor℠ (CFEI®). He is passionate about helping everyday investors simplify investing with technology.

The Stock Market Made Simple

The Stock Market Explained

The Stock Market

What Are Stocks?

What Are Bonds?

Stocks vs Bonds?

INDEX FUNDS & ETFs

What Are Index Funds?

What Are ETFs?

Two Investing Truths

Related Posts

7 Key Investing Principles For New Investors

Saving vs Investing

The Power of Compound Interest