How Does the Stock Market Work? (Stocks, Exchanges, IPOs, and More)

Investing in the stock market can feel daunting, especially for young adults burdened with student debt and limited funds. However, even small investments have the potential to grow over time, offering more financial security than before. While often seen as intimidating or risky, understanding how the stock market works makes it accessible and a viable path to wealth creation.

A stock, or share, represents ownership in a company. If a company has 1,000 shares and you own one share, you hold one-thousandth of the company's value. Stockholders benefit as the company's value increases; their stock price rises accordingly. There are two main types: common stocks grant voting rights on corporate decisions like board elections or mergers while preferred stocks lack these rights but have priority for dividends and other financial distributions.

Companies sell stocks to raise significant operating capital without additional effort or products. The stock market values companies based on potential future earnings, allowing even small businesses to secure substantial funding if investors believe in their success. Through an Initial Public Offering (IPO), a company transitions from private ownership to public trading, enabling founders to cash out or the business itself to gain funds. Once listed, stock prices fluctuate due largely to public opinion and measurable factors like price-to-earnings ratios.

Stock prices fluctuate based on the collective decisions of millions of investors and traders, influenced by their perceptions of a company's value. When demand exceeds supply due to more buyers than sellers, prices rise; conversely, when there are more sellers than buyers, prices fall. This dynamic mirrors real-world scenarios like pricing items for sale—if interest is high or low in an item (or stock), its price adjusts accordingly until equilibrium is reached. The bid-ask spread represents the difference between what buyers are willing to pay and what sellers want for a share.

Stock trading has transitioned from manual operations on a trading floor to automated systems. These advanced systems match buyers and sellers efficiently, enabling faster market movements. This automation enhances the overall speed and functionality of stock markets.

Investing in the stock market offers significantly higher returns compared to keeping money in a bank account. For instance, $1,000 invested in Amazon stock back in 1997 would be worth approximately $1.5 million today—a testament to long-term growth potential. Even companies with annual return rates between 30% and 70% can generate substantial wealth over time, far surpassing the typical bank interest rate of just 2-3%. The key lies in making informed investment decisions that consistently outperform basic savings options.

Investing in the stock market begins by opening a trading account, which can be done through providers like E*TRADE or free platforms such as Robinhood. Free services eliminate brokerage fees, allowing you to invest all your money without additional costs. Once set up, selecting stocks requires thorough research into companies' financial health and expert opinions while considering personal risk tolerance. Stocks vary widely in price; some are affordable while others require significant capital upfront.

The stock market's fundamentals, its functioning, and beginner-friendly ways to get started were discussed. Technical analysis for evaluating companies or advanced trading methods like margin trading weren't covered intentionally. For beginners, the best approach is starting small with money they can afford to lose while learning through practical experience.