A beginner’s guide to Investing in the Stock Market
Imagine this scenario: you are hungry and your relative gives you one kilo of tomatoes. You could cook them all today and satiate your hunger. But a week from now, or even tomorrow, you would have to go hungry again and depend on someone else for food. Here’s an alternative – you plant tomato seeds in a small patch on your roof, tend to them and harvest them. You have multiplied a small number of tomatoes you had and guaranteed yourself a lifelong supply of tomatoes!
Now imagine if you could do the same with your money. No, not plant your money literally, but find a smart way to multiply it. That’s where share markets come in. When you trade or invest in the share market, you stand to grow your money exponentially.
What is a Share?
A share is a unit of ownership in a company. When you buy a company’s share, you become one of its owners. This means you get a say in the company’s functioning through votes, a share in its profit as well as a share in its losses.
When a company wants money, it could either take a loan or raise capital. If it decides to raise capital through the issue of shares, it gives investors a stake or ownership in the company.
When you buy shares in a company, you become a shareholder. As a shareholder, you are entitled to the profit the company makes. This could be in the form of dividends or through an increase in the share price of the company.
What is a Share Market?
A share market is a place where shares of publicly listed companies are bought and sold. When a company issues shares, investors can go to the share market and buy up a portion of the shares.
Think of it like a marketplace where goods are bought and sold. You need a seller to sell goods and a buyer to buy them. In the case of share markets, companies are sellers. They offer you a portion of ownership in their company in exchange for capital. Investors are buyers. They agree to buy a stake in a company and share in the company’s future profit.
Sellers quote a price, called the “ask” price for a share. Buyers quote a “bid” price or the price they are willing to pay. A trade occurs when the bid-ask price matches. Buyers and sellers are important components of the stock market because they help negotiate prices and match demand-supply.
The share market or the stock market comprises several stock exchanges that allow you and I to trade or invest in shares. If the company is issuing its shares to the public for the first time, it will be listed on the Primary Share Market. If shares of the company are already listed, and ownership is changing hands for the second time or more, it happens on the Secondary Share Market.
Companies sell shares in the Primary Share Market through a process called the Initial Public Offering (IPO). As an investor or a trader, you can place a bid to buy shares. After the shares are allotted, you will become a shareholder. After the IPO, if you buy or sell shares, it will happen on the Secondary Share Market.
Read more: Everything you should know about the Stock Market
What is the Purpose of a Share Market?
A stock market allows companies in the country to raise capital from the public, which is then channelized into capital formation and growth. For investors and traders, a stock market provides a platform to funnel savings and investments and grow money through profit and dividends.
A well-functioning stock or share market is an indicator of a healthy economy. It is an important component of a free-market economy. The companies that raise money from the stock market provide employment to people, thus bolstering the country’s economy.
As a system, the stock market is essential to enable price transparency, price discovery, liquidity and fair trading activities. It protects people who want to invest in stock while simultaneously looking after the interest of companies raising money.
Listed vs. Unlisted Shares
So far, we have discussed investing in shares on stock exchanges. These are called listed securities because you get access to them through stock exchanges. Companies with listed securities are called public companies because anyone can get access to them easily.
You can also invest in shares of private companies like startups or other larger companies that haven’t listed on share markets yet. These are called unlisted shares. When investing in shares that are unlisted, you must go through over-the-counter markets.
You can buy pre-IPO shares or unlisted shares through specialized brokers who have access. You can also buy these shares directly from the company. Many private companies often issue pre-IPO shares to a select group of people. Your bank or accounting firm may have details about pre-IPO companies and can help you get a stake. You can also find out about how to get access to pre-IPO shares from employees in the company.
However, private, unlisted shares are less liquid.
Overview of How the Share Market Works
Before trading or investing in the share market, you need to understand how the market works. Here is a broad overview of how the share market works:
- A company listing its shares in the share market for the first time goes for an IPO.
- Once the IPO is complete, shares are available for trading in the secondary market. Traders and investors can place a buy order in the share market.
- Stockbrokers and brokerage firms are the intermediaries that help traders and investors place their buy and sell bids.
- Once a trader has registered their buy order on a stock exchange (a place where stockbrokers and traders come together to execute trades), the exchange matches it with the right sell order.
- After the orders are matched, the trade is settled in T+1 days. This means that the shares and the amount of the shares are settled in one day after the trade is confirmed.
What do you need for Share Market Investment?
To invest in stocks, be it in the primary market or the secondary market, you need the following:
You need a PAN card for investing in shares because it helps the government keep track of your financial activities.
A Demat Account or a dematerialized account is where your shares will be held. To trade or invest in shares, you need to have a Demat Account. You can open a Demat Account with a depository participant (DP) or a bank.
A Trading Account is an interface that is essential to buy and sell shares. You need a broker who can open a Trading Account for you. It would be best to open your Trading and Demat accounts with the same broker.
Link Your Bank Account
You need to link your Trading and Demat accounts with your bank account so that money can be transferred easily when you make a purchase or a sale.
How to Invest Money in the Share Market?
You can choose two ways to invest in share markets. You can either invest directly in shares or indirectly.
For investing in shares directly, you need to be an active investor who follows the stock market and makes investing decisions. To trade or invest in the share market, you will need a Trading account and a Demat account with a DP or a stockbroker.
A stockbroker is an intermediary or an agency who is authorized to buy and sell shares on your behalf. For example, Sharekhan, ICICI direct, and HDFC Securities are some examples of stockbrokers in India. Here, stockbrokers are regulated by the Securities and Exchange Board of India.
There are two kinds of stockbrokers:
- Full-service brokers provide a whole range of services, including advisory and research services.
- Discount brokers provide basic stockbroking services such as providing a platform for you to trade online.
If you do not have the time or expertise to invest directly in shares, you can always choose to invest through mutual funds or exchange traded funds. These are managed by professional fund managers who make investing decisions on your behalf.
What are the Returns Expectations from Share Market Investments?
As a stock market investor, you will obviously expect good returns on your investment. Investing in shares is one of the best ways to generate wealth in the long run. Investment in shares provides inflation-beating returns, as long as you invest wisely.
For instance, if you had invested in the Nifty 50 index, a benchmark of the Indian stock market, you would have made an annual return of 9.88% in the last five years. However, some estimates suggest that you can make an average return of 21.5% through stock market investments.
If you choose to invest in equity mutual funds, you can expect average returns of 17% in the long run.
Things to keep in mind before you Invest in the Share Market
- To start with, spend time understanding how to invest money in the share market. Familiarise yourself with the jargon. You could read up on financial websites or sources, join a trading course or simply follow the guides that we post on Investmint.
- Share market investments entail risks. You should be aware of these and have the ability to stomach these risks.
- Never trade or invest in stocks with more money than you can afford to lose.
- Try and create a well-diversified portfolio to hedge your risks.
- Understand the different techniques employed for trading or investing in share markets. You need to know technical analysis and fundamental analysis.
- Before you play the real game, use an online simulator to practice. This will help you prevent big mistakes when it comes to real money.
- Always have a trading or investing strategy. Don’t rely on hearsay or investment advice to make your investments.
- Once you have invested, don’t forget about it. When investing in shares, it is imperative that you monitor your holdings from time to time so that you know they are moving in the right direction.
- A share is a unit of ownership in a company. A share market is a place where shares of publicly listed companies are bought and sold.
- There are two kinds of share markets – Primary share markets and secondary share markets.
- Share markets help:
- Understand the financial health of an economy;
- Companies raise funds for different requirements;
- Regulate different aspects of a country’s capital market; and
- Investors channel their savings and investments for capital gains and dividends.
- To invest in share markets, you need: a PAN card, a Demat account, a Trading account, and a bank account to link your trading and demat accounts.
- You can invest in shares directly or indirectly through mutual funds and ETFs.