How Do Stocks Work for Beginners-Have you wished to learn how investing money work? Is it important for you to know where to start. If so, continue reading. The following advice will guide you through questions like “how do stocks work?” This article is packed with useful information that will teach you how it works and why it is important. Since today’s economy is based on online transactions, understanding about “how does investing money work” has become necessary.
If you are new to the stock market or want to learn more about how stocks work then you came to the right place. A lot of people are interested in starting investing but don’t know where to start. Also, stocks scare some people because they don’t understand how do stocks work. That’s why I created this guide.
Table of Contents
Stock market basics
The stock market is made up of exchanges, like the New York Stock Exchange and the Nasdaq. Stocks are listed on a specific exchange, which brings buyers and sellers together and acts as a market for the shares of those stocks. The exchange tracks the supply and demand — and directly related, the price — of each stock.
But this isn’t your typical market, and you can’t show up and pick your shares off a shelf the way you select produce at the grocery store. Individual traders are typically represented by brokers — these days, that’s often an online broker. You place your stock trades through the broker, which then deals with the exchange on your behalf. (Need a broker? See our analysis of the best stockbrokers for beginners.)
The NYSE and the Nasdaq are open from 9:30 a.m. to 4 p.m. Eastern, with premarket and after-hours trading sessions also available, depending on your broker.
Determine your investing approach
The first thing to consider is how to start investing in stocks. Some investors choose to buy individual stocks, while others take a less active approach.
Try this. Which of the following statements best describes you?
- I’m an analytical person and enjoy crunching numbers and doing research.
- I hate math and don’t want to do a ton of “homework.”
- I have several hours each week to dedicate to stock market investing.
- I like to read about the different companies I can invest in, but don’t have any desire to dive into anything math-related.
- I’m a busy professional and don’t have the time to learn how to analyze stocks.
The good news is that regardless of which of these statements you agree with, you’re still a great candidate to become a stock market investor. The only thing that will change is the “how.”
The different ways to invest in the stock market
- Individual stocks: You can invest in individual stocks if — and only if — you have the time and desire to thoroughly research and evaluate stocks on an ongoing basis. If this is the case, we 100% encourage you to do so. It is entirely possible for a smart and patient investor to beat the market over time. On the other hand, if things like quarterly earnings reports and moderate mathematical calculations don’t sound appealing, there’s absolutely nothing wrong with taking a more passive approach.
- Index funds: In addition to buying individual stocks, you can choose to invest in index funds, which track a stock index like the S&P 500. When it comes to actively vs. passively managed funds, we generally prefer the latter (although there are certainly exceptions). Index funds typically have significantly lower costs and are virtually guaranteed to match the long-term performance of their underlying indexes. Over time, the S&P 500 has produced total returns of about 10% annualized, and performance like this can build substantial wealth over time.
- Robo-advisors: Finally, another option that has exploded in popularity in recent years is the robo-advisor. A robo-advisor is a brokerage that essentially invests your money on your behalf in a portfolio of index funds that is appropriate for your age, risk tolerance, and investing goals. Not only can a robo-advisor select your investments, but many will optimize your tax efficiency and make changes over time automatically.
Stock trading information
Most investors would be well-advised to build a diversified portfolio of stocks or stock index funds and hold on to it through good times and bad. But investors who like a little more action engage in stock trading. Stock trading involves buying and selling stocks frequently in an attempt to time the market.
The goal of stock traders is to capitalize on short-term market events to sell stocks for a profit, or buy stocks at a low. Some stock traders are day traders, which means they buy and sell several times throughout the day. Others are simply active traders, placing a dozen or more trades per month. (Interested in individual stocks? View our list of the best-performing stocks this year.)
Investors who trade stocks do extensive research, often devoting hours a day to following the market. They rely on technical stock analysis, using tools to chart a stock’s movements in an attempt to find trading opportunities and trends. Many online brokers offer stock trading information, including analyst reports, stock research and charting tools. (Learn the basics of how to read stock charts.)
Bull markets vs. bear markets
Neither is an animal you’d want to run into on a hike, but the market has picked the bear as the true symbol of fear: A bear market means stock prices are falling — thresholds vary, but generally to the tune of 20% or more — across several of the indexes referenced earlier.
Bull markets are followed by bear markets, and vice versa, with both often signaling the start of larger economic patterns. In other words, a bull market typically means investors are confident, which indicates economic growth. A bear market shows investors are pulling back, indicating the economy may do so as well.
The good news is that the average bull market far outlasts the average bear market, which is why over the long term you can grow your money by investing in stocks.
The S&P 500, which holds around 500 of the largest stocks in the U.S., has historically returned an average of around 7% annually, when you factor in reinvested dividends and adjust for inflation. That means if you invested $1,000 30 years ago, you could have around $7,600 today. (Explore this further with NerdWallet’s investment calculator.)
Stock market crash vs. correction
A stock market correction happens when the stock market drops by 10% or more. A stock market crash is a sudden, very sharp drop in stock prices, like in October 1987 when stocks plunged 23% in a single day.
While crashes can herald a bear market, remember what we mentioned above: Most bull markets last longer than bear markets — which means stock markets tend to rise in value over time.
If you’re worried about a crash, it helps to focus on the long term. When the stock market declines, it can be difficult to watch your portfolio’s value shrink in real time and do nothing about it. However, if you’re investing for the long term, doing nothing is often the best course.
Thirty-two percent of Americans who were invested in the stock market during at least one of the last five financial downturns pulled some or all of their money out of the market. That’s according to a NerdWallet-commissioned survey, which was conducted online by The Harris Poll of more than 2,000 U.S. adults, among whom over 700 were invested in the stock market during at least one of the past five financial downturns, in June 2018. The survey also found that 28% of Americans would not keep their money in the stock market if there were a crash today.
It’s likely some of these Americans might rethink pulling their money if they knew how quickly a portfolio can rebound from the bottom: The market took just 13 months to recover its losses after the most recent major sell-off in 2015. Even the Great Recession — a devastating downturn of historic proportions — posted a complete market recovery in just over five years. The S&P 500 then posted a compound annual growth rate of 16% from 2013 to 2017 (including dividends).
If you’re wondering why you should wait years for your portfolio to get back to zero, remember what happens when you sell investments in a downturn: You lock in your losses. If you plan to re-enter the market at a sunnier time, you’ll almost certainly pay more for the privilege and sacrifice part (if not all) of the gains from the rebound.
Curious how long it would have taken to recover your losses after some of the stock market’s major downturns? Use our calculator to find out.
Conclusion
Investing in stocks can be a little scary, even if you’re just starting out. There’s such a wide variety of factors to consider and strategies to practice, that it’s no wonder why many people feel daunted by the whole idea of stock trading. Don’t fall into that category – instead, start small and take your time. Beginners investing in the stock market are usually extremely intimidated. So much so that they don’t invest at all. Make sure this doesn’t happen to you. Use these tips to get started on your investment journey.