Stock Market Basics

This detailed explanation of the stock market includes some good advice about where and why you should invest.

In this article, you will find:

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Don't Go There

If you've ever entertained the notion of day trading, forget about it. It's a dangerous business, and most people don't know enough about the stock market to be effective in day trading.

We frequently hear people talking about the stock market. When the market was great in the late 1990s, everybody wanted to talk about the market and how well their investments were doing. People quit their jobs to become day traders, those steel-nerved folks who watch the market carefully, buying and selling stock in hopes of hitting it big and making tons of money. More people invested in the market than ever before, fueling the economy and keeping stockbrokers extremely busy.

In these days of market plunges, however, many investors aren't quite so anxious to talk about their stocks. Folks are still day trading, but many of them have given up the dream and gone back to “real” jobs. Stockbrokers are still busy, but these days a lot of that business entails reassuring clients.

So just what is this thing called the stock market, and how does it work? Why does it rise dramatically one day, only to take a plunge the next?

The stock market is a generic term that encompasses the trading of securities. The security can be a bond or a stock, and it's traded on an exchange. There are three major exchanges in the United States.

Formed in 1792, the New York Stock Exchange (NYSE) is the largest organized stock exchange in this country. Companies must meet certain requirements in order to be listed on the NYSE, so not all stocks are traded there.

If you want to buy a stock, your broker will relay your wish, either by telephone or the Internet, to a member of his firm who's on the floor of the NYSE. The order will then go to another broker on the floor who specializes in trading the particular stock you want to buy, and he'll make the trade for you. You can actually visit the NYSE and watch all the action.

Go Figure

When the stock market experiences an upward trend, we call it a bull market. When the trend is continuously downward, it's a bear market.

The National Association of Securities Dealers Automated Quotation System, or NASDAQ, on the other hand, trades exclusively with computers. The trading is not conducted in a central location like the NYSE, but from different locations, via computers.

A third stock exchange, the American Stock Exchange, or AMEX, was known before 1951 as the American Curb Exchange. That's because trading was conducted on the curb of Wall and Broad streets in New York City. The AMEX does not have as stringent requirements as the NYSE, which makes it attractive to many smaller companies.

The overall performance of the stock market is evaluated in different ways. The Dow Jones Industrial Average is one measure of the market, and the one we most often hear about.

The Dow Jones Industrial Average is a composite, or group, of 30 selected stocks with a daily average. If the average price of the stocks goes up, the Dow Jones Industrial Average goes up for that day. If the average price of those 30 stocks goes down, we say the Dow Jones is down. Trading depends on many factors, and the stock market can have major fluctuations in its averages. The 30 stocks change infrequently, decided upon by a group of members of the New Stock Exchange. Mergers between large firms (like Mobil and Exxon becoming Mobil Exxon) require the addition of a new company onto the Industrial Average. Cisco was added in early 2000.