How the Stock Market How the Stock Market WorksWorks

StockStock

• A share in ownership of a company.A share in ownership of a company.• Someone who owns stock in a Someone who owns stock in a

company owns a part of:company owns a part of:– the plant, the plant, – equipment, equipment, – raw materials, raw materials, – finished products on hand plus,finished products on hand plus,– any property owned by the company.any property owned by the company.

Here is an example of how stock comes intoHere is an example of how stock comes intobeing. Jane Hughes owns a business makingbeing. Jane Hughes owns a business makingbicycles of her own design in her own shop.bicycles of her own design in her own shop.Bicyclists like her bicycles so much that theyBicyclists like her bicycles so much that theytell their friends about them. Soon there is atell their friends about them. Soon there is a

demand for more bicycles than Jane candemand for more bicycles than Jane cansupply. She would like to buy a bigger shopsupply. She would like to buy a bigger shopand expand her business. She has $5,000 inand expand her business. She has $5,000 inthe bank, but that isn't enough to buy all thethe bank, but that isn't enough to buy all the

things she will need to set up a small factory tothings she will need to set up a small factory tomake bicycles. She decides to find somemake bicycles. She decides to find some

people who are willing to invest their money inpeople who are willing to invest their money inher bicycle business. In exchange forher bicycle business. In exchange for

investing their money, they will receive a shareinvesting their money, they will receive a shareof the profits from the sale of the bicycles.of the profits from the sale of the bicycles.

Jane Hughes finds nine people who believeJane Hughes finds nine people who believe

her bicycle business can be profitable, andher bicycle business can be profitable, and

each agrees to invest $5,000. This means thateach agrees to invest $5,000. This means that

there is $50,000 (including Hughes' $5,000) tothere is $50,000 (including Hughes' $5,000) to

build and equip a small factory. By investing build and equip a small factory. By investing inin

the bicycle plant, these 10 people, includingthe bicycle plant, these 10 people, including

Jane Hughes, have become owners of stock,Jane Hughes, have become owners of stock,

or or stockholdersstockholders. A stock certificate is issued. A stock certificate is issued

to each investor. It states that each is theto each investor. It states that each is the

owner of $5,000 worth of owner of $5,000 worth of common stockcommon stock inin

the Hughes Bicycle Company.the Hughes Bicycle Company.

As As stockholdersstockholders, these 10 people have certain, these 10 people have certainprivileges. One is the right to see theprivileges. One is the right to see the

company's records showing money receivedcompany's records showing money receivedand spent. Another is the right to elect a boardand spent. Another is the right to elect a boardof directors responsible for deciding companyof directors responsible for deciding company

policies. They elect a group of directors amongpolicies. They elect a group of directors amongthemselves and name Jane Hughes presidentthemselves and name Jane Hughes presidentof the company. The stockholders also expectof the company. The stockholders also expecta share in the company's profits by receivinga share in the company's profits by receiving

payments called payments called dividendsdividends. The board of. The board ofdirectors decides how much of the profitsdirectors decides how much of the profits

should be put back into the business and howshould be put back into the business and howmuch should be paid to the commonmuch should be paid to the commonstockholders in the form of dividends.stockholders in the form of dividends.

After a period of successful business After a period of successful business activity,activity,

Jane Hughes learns that an opportunity Jane Hughes learns that an opportunity arisesarises

to buy a company that manufacturesto buy a company that manufactures

skateboards. The board of directors ofskateboards. The board of directors of

Hughes Bicycle Company wants to buy Hughes Bicycle Company wants to buy the…the…

skateboard company because they think it willskateboard company because they think it will

give the Hughes Company another product togive the Hughes Company another product to

sell which will help the company grow. Insell which will help the company grow. In

order to raise enough money to buy theorder to raise enough money to buy the

Skateboard Company, Hughes' directorsSkateboard Company, Hughes' directors

decide to issue more stock; but instead ofdecide to issue more stock; but instead of

common stock, they issue common stock, they issue preferred stockpreferred stock..

They give the preferred stock to the owners ofThey give the preferred stock to the owners of

the Skateboard Company instead of cash inthe Skateboard Company instead of cash in

exchange for the plant, equipment and goodsexchange for the plant, equipment and goods

on hand.on hand.

As long as the business is doing well,As long as the business is doing well,stockholders with preferred stock receive astockholders with preferred stock receive a

regular income in the form of dividends.regular income in the form of dividends.Dividends will be paid to preferredDividends will be paid to preferred

stockholders before the board of directorsstockholders before the board of directorsapproves any dividends for the commonapproves any dividends for the common

stockholders. The term "stockholders. The term "preferredpreferred" is used" is usedbecause preferred stockholders are shownbecause preferred stockholders are shownpreference in the payment of dividends.preference in the payment of dividends.Unlike common stockholders, however,Unlike common stockholders, however,

owners of the Hughes Company's preferredowners of the Hughes Company's preferredstock ordinarily do not have any voice in thestock ordinarily do not have any voice in themanagement. They cannot vote for membersmanagement. They cannot vote for membersof the board of directors who decide companyof the board of directors who decide company

policy.policy.

Stocks may be purchased and sold in a varietyStocks may be purchased and sold in a varietyof ways. For example, one of the originalof ways. For example, one of the original

common stockholders of the Hughes Companycommon stockholders of the Hughes Companymay decide to sell his shares for cash. Sincemay decide to sell his shares for cash. Sincethe Hughes Company is still fairly small andthe Hughes Company is still fairly small andnot widely known the shares are sold in thenot widely known the shares are sold in the

town where the company is located in what istown where the company is located in what iscalled the called the over-the-counter marketover-the-counter market. The. Theover-the-counter market is not a place. It isover-the-counter market is not a place. It is

just a way of buying and selling stock in smalljust a way of buying and selling stock in smallcompanies by private bargaining instead of bycompanies by private bargaining instead of bypublic auction. The price of the shares sold inpublic auction. The price of the shares sold in

the over-the-counter market largely depend onthe over-the-counter market largely depend onhow much buyers are willing to pay for thehow much buyers are willing to pay for the

stock and how cheaply the owner is willing tostock and how cheaply the owner is willing tosell. The buying and selling price at any givensell. The buying and selling price at any givenmoment is often a compromise between themoment is often a compromise between the

highest price a buyer is willing to pay and thehighest price a buyer is willing to pay and thelowest price for which the owner is willing tolowest price for which the owner is willing to

sell.sell.

This is also one of the factors thatThis is also one of the factors that

influence the price of stock if it is sold by influence the price of stock if it is sold by publicpublic

auction or at a auction or at a Stock ExchangeStock Exchange. For. For

example, if the Hughes Company continues toexample, if the Hughes Company continues to

grow and issues more stock, in time it mightgrow and issues more stock, in time it might

ask to be listed on the ask to be listed on the Toronto StockToronto Stock

ExchangeExchange. By paying a yearly fee and. By paying a yearly fee and

meeting certain other requirements, themeeting certain other requirements, the

Hughes Company is entitled to have its stockHughes Company is entitled to have its stock

bought and sold, or traded at the exchange.bought and sold, or traded at the exchange.

All trading is done through All trading is done through brokers brokers who are…who are…

members of the exchange and who functionmembers of the exchange and who functionunder rules intended to assure that trading willunder rules intended to assure that trading will

be fair, honest, and free from manipulation.be fair, honest, and free from manipulation.The price at which stocks are bought and soldThe price at which stocks are bought and soldin this situation can be a compromise betweenin this situation can be a compromise betweenthe highest price a buyer is willing to pay andthe highest price a buyer is willing to pay andthe lowest price for which the owner is willingthe lowest price for which the owner is willingto sell but, other factors such as supply andto sell but, other factors such as supply anddemand, the impact of current national ordemand, the impact of current national or

international events on a company and/or theinternational events on a company and/or thepopularity of items manufactured by apopularity of items manufactured by a

company are other factors that can influencecompany are other factors that can influencethe price. Price can also be affected if athe price. Price can also be affected if a

company decides to split their stocks. Forcompany decides to split their stocks. Forexample, if the value of Hughes Bicycleexample, if the value of Hughes Bicycle

Company stocks increases dramatically theyCompany stocks increases dramatically theymay become too expensive for the averagemay become too expensive for the average

buyer. The company may then decide to splitbuyer. The company may then decide to splitthe stock meaning that the price of individualthe stock meaning that the price of individual

stock decreases. This enables a greaterstock decreases. This enables a greaternumber of ‘average buyers’ to purchase thenumber of ‘average buyers’ to purchase the

stock and potentially increases the number ofstock and potentially increases the number ofstockholders.stockholders.

The Toronto Stock Exchange is located in aThe Toronto Stock Exchange is located in abuilding that serves as a marketplace forbuilding that serves as a marketplace for

stocks and bonds on Bay Street in Toronto.stocks and bonds on Bay Street in Toronto.The stocks of approximately 1,700 of theThe stocks of approximately 1,700 of the

largest corporations in Canada are listed andlargest corporations in Canada are listed andtraded there. In order to be listed, an industrialtraded there. In order to be listed, an industrialor oil and gas company must have at least oneor oil and gas company must have at least onemillion shares of stock owned by at least 300million shares of stock owned by at least 300people, each of who own at least 100 shares.people, each of who own at least 100 shares.A A share share is one of the equal parts into whichis one of the equal parts into whichthe stock of a corporation is divided. Eachthe stock of a corporation is divided. Each

share of stock entitles its owner to ashare of stock entitles its owner to aproportionate amount of the corporationproportionate amount of the corporation

annual profit in the form of a dividend. Theannual profit in the form of a dividend. Thecompany must publish financial statementscompany must publish financial statementsshowing the exact condition of the businessshowing the exact condition of the business

every three months, and it must meet certainevery three months, and it must meet certainother rules set by the exchange.other rules set by the exchange.

Any person who is over 18 can buy stock.Any person who is over 18 can buy stock.

However, the actual buying and selling at However, the actual buying and selling at oneone

of the exchanges is done by a broker, whoof the exchanges is done by a broker, who

acts as an agent or representative for theacts as an agent or representative for the

people who want to buy and sell stocks. Thepeople who want to buy and sell stocks. The

broker carries out his customers' orders inbroker carries out his customers' orders in

exchange for a small percentage of the sale exchange for a small percentage of the sale oror

purchase price, known as a purchase price, known as a commissioncommission..

The size of the commission depends on theThe size of the commission depends on the

size of the sale.size of the sale.