Everyone’s heard of the stock market. But few people actually know how it works or how to make money investing in it. Personal Loans Now covers all the details you’ve been wondering about so you can get a good overall picture of the stock market.
- What is the stock market?
- The London Stock Exchange & the role of the FTSE
- Determining the prices of stocks and shares
- The reason the stock market crashed in 2008
- Ways of investing in the stock market: long-term investments; buy low, sell high; a balanced strategy
- Whether it’s worth investing in the stock market
- Is there a best/worst time to invest?
We’ll take a closer look at the stock market – what it is, how it works, and why the stock market crashed in 2008. Additionally, we’ll discuss several factors to consider when you’re planning to trade in stocks and shares. Finally, we’ll examine the reasons why investing is a good idea and find out if there is a best or worst time to invest.
What is the Stock Market?
The stock market is the place where shares of public-listed companies are bought and sold. Stock can only be traded if they are listed on an exchange – this is what makes them “public”. The stock market supervises trading, facilitates the financial transactions and provides traders and brokers with information about company announcements and their share prices.
The London Stock Exchange & the Role of the FTSE
The London Stock Exchange was established in 1698. Its main market now comprises over 1,400 companies from 60 different countries. Investors trade shares from smaller companies on the AIM (Alternative Investments Market).
The FTSE 100 is the flagship market index for the London Stock Exchange. A market index is an indicator of how well the different parts of the market are faring. Formed in 1984, the FTSE follows the stock market performance at a base level of 1000. By tracking the performance of the 100 largest companies on the exchange (which make up 81% of the UK equity market), the FTSE rises and falls with the market activity.
Determining the Price of Stocks & Shares
The rising and falling prices of stock are determined by supply and demand. The more “in demand” a company is, the higher the prices of their shares are.
Investors judge the value of a company by several internal factors:
- The recent market performance of a company (according to its annual financial report)
- Its market share compared to its competitors
- New breakthroughs or developments in the company
All of these affect the desirability of owning shares in a company.
Apart from these considerations, seasonal trends, technological developments and changes in consumer buying habits will also affect the share price of a company on the stock market. Finally, share prices are driven by good economic conditions which inspires confidence in the market. In turn, this encourages people to invest in stocks.
So, what exactly happened in 2008? Why was there such a spectacular global stock market crash which led to a worldwide recession?
The Reasons behind the Stock Market Crash of 2008
The trigger for the crash of the world’s stock exchanges (beginning September 16th 2008) was the failure of major US banks, most notably Lehman Brothers.
The main cause was the mortgage crisis in the US. Banks had been lending money to homebuyers with poor credit ratings who found it impossible to pay these loans back. Banks had lent more than they had in reserve, and many borrowers defaulted, leading to their collapse. Many shareholders, worried that they risked losing everything, snowballed the issue by selling their shares at the same time.
Although Black Monday of 1987 saw a larger drop in share prices, the crash of 2008 was worse because it wasn’t confined to one day of bad trading. Successive problems continued into the following month. In fact, between mid-September to mid-October, 30% of the value of the FTSE was wiped out.
How to Make Money Investing in the Stock Market
Traders generally invest in the stock market in one of three ways. Ultimately, which method you choose depends on your investment goals, the timescale you have in mind and your attitude towards risk.
In traders’ eyes, long-term investments are five years or longer. Seeing as the general trend of stock markets is to rise, the expected returns come to fruition after years of patience. Such investors ignore the day-to-day fluctuations in share prices.
In the meantime, investors in established/mature companies receive a regular income from their investment in the form of dividends. These are quarterly or bi-annual payments, which stockholders earn as a share of the company’s profits. These types of long-term investments are generally reliable and low-risk.
Buy Low, Sell High
Other stock market investors wish to see more immediate returns on their investment. They watch the market and try to predict how share prices will react by buying and selling at different times. Although these short-term, high-turnover options a riskier way to invest, it can also be much more lucrative.
A Balanced Strategy
As the name suggests, an investor with a balanced strategy has a portfolio of both long-term investments and higher risk ones to sell when prices rise. This diversification allows them to balance risk with profits and come out ahead on average.
Is It Worth Investing in the Stock Market?
The main benefit of investing in the stock market is the potential to make much more money than you would by earning interest on a savings account. The downside, however, is that there’s no such thing as a risk-free investment. As the crash of 2008 illustrates, the market can go into free-fall at any time, and there’s no way to predict this. Even seasoned experts have trouble predicting what the market will do.
Before investing any money, you need to evaluate your financial situation objectively. You should never invest more than you can afford to lose. Also, you should never invest money you need to maintain your current lifestyle.
You need to research the market thoroughly and have a deep understanding of the companies you wish to buy shares from. Many newcomers to the stock market consult a specialist broker for their advice. They can discuss their attitudes and goals before they buy any stock.
Is There a Best/Worst Time to Invest?
A lot of research has been done about the best and worst time to invest. The market tends to be busiest at its opening and closing, slowing down at midday.
As for the days of the week, Monday tends to be the best time to buy as bad news about companies has accumulated over the weekend. In contrast, Friday seems to be the best day to sell.
Statistics would tend to suggest that the turn of the year and the summer are the best times to buy. Markets also tend to drop in September but pick up again in October.
Of course, these are only general trends and not iron-clad guaranteed bargains. It’s essential to research the market and companies yourself or with a financial planner to determine their particular trends. Even recent share performance isn’t a reliable predictor of what will happen. For example, a fall in a company’s share price could represent a bargain. On the other hand, it could be a sign the company is struggling – you’ll have to look at more factors to determine the case for this company.
The stock market can be a way to make money, but it isn’t a risk-free move. As a form of investment, there are no guarantees that you’ll earn profit – even over the long-term.
If you think you’re up for the challenge of the stock market, the best advice is to start slowly. Experts recommend that new stock market investors should either invest in funds (with a manager to oversee their performance) or should seek the help of a broker. This will give you a gentle introduction to the stock exchange and allow you to learn the ropes gradually until you feel more confident to invest on your own. Ready to start investing? Best of luck to you!