The Stock Market Explained

You've probably heard some stupidly ecstatic talking head on TV screaming "Sell the children! The Dow has fallen 20 points!" or "Praise Jesus! The NASDAQ is up 112 points! Hallelujah!" Those words probably didn't mean much to you in the past, but after reading and absorbing the knowledge in this article you will quickly understand what it all means and will be smarter than 99% of Wall Street, congratulations!

Before I go into explaining what the Dow or NASDAQ is, it will probably help to understand what a stock is in the first place:

A stock represents ownership of a company's assets and profits and conversely in its liabilities and losses. A share represents how much ownership you hold of that company. Yes, it's that simple.

You can purchase virtually any (major) company's stock. Common examples are Apple (AAPL), Google (GOOG), Best Buy (BBY) and Nike (NKE) as well as any of the stocks found in The Gutman Fund. Those strange little abbreviations that look suspiciously like an alien language is actually how the stock is classified and is referred to as a "ticker" or a "stock symbol".

If you're so confused right now that you feel like hanging yourself with that rope you purchased from me, put it away; I will ease your spinning head with a little example:

The story of RICH

Let's conjure up an interesting little company called Mr. Moneybag's Rope Selling Emporium (Symbol: RICH). Currently, this company is a private corporation (meaning shares of this company cannot be bought and sold in the open markets) but to raise some extra dough Mr. Moneybag decides to "go public" meaning his company's shares can be bought and sold in a stock exchange - this is what is referred to as an Initial Public Offering (IPO).

Mr. Moneybags drives on over to his investment banker and after many hours of screaming and obscene hand gestures they determine that the company is worth $20 billion. It turns out that Mr. Moneybags is a greedy little chimp and decides he wants to sell off the entire $20 billion and take home the cash all to himself - problem is that not many people can afford to go out and spend $20 billion everyday (unless of course you are a Gutman). That's why they have to take that number and cut it into smaller, more affordable pieces - known as shares.

Mr. Moneybags decides he wants everyone and their pet horse to be able to afford shares in his company, so he sets the price per share to be $100. Since the company itself is worth $20 billion, that means there are 200 million shares at $100 a pop ($100 x 200 million = $20 billion).

In real life, the investment banks and whoever else took part in the IPO would take a percentage of these funds, but for simplicity's sake let's pretend all these organizations were feeling Christmassy.

Problem is, finding a buyer for every tiny little share can take longer than it takes a hundred-and-seven year-old lady to back out of her driveway. That's why stock exchanges exist - so, instead of going out and asking Aunt Erma to buy some stock in your rope-selling business, you can refer to a stock exchange which will electronically connect buyers and sellers without any hassle on your part. [Some of the stock exchanges you commonly hear on the news everyday: New York Stock Exchange (NYSE), NASDAQ and the Toronto Stock Exchange (TSX)]

Buying and selling shares on a stock exchange used to be done by stock brokers but nowadays with the advent of that contraption commonly referred to as the internet, online brokerages are all the rage now. The process of buying and selling shares of a stock is done within seconds. (More on this and choosing online brokerages later)

And thus, Mr. Moneybag's company was sold off bit by bit in a pretty short amount of time (honestly, how can someone not want a piece of a company like that?).

It's important to remember that when a company sells its soul in an Initial Public Offering, a Board of Directors is elected by the owners in order to manage the day-to-day operations of the company. It's also good to know that ANYONE, literally ANYONE can trade stock - all you need is some money, a bank account and to be a human being.

And that is the story of how Mr. Moneybags made $20 billion in one day.