More on stock exchanges
We saw what shares are, here. Let’s dig deeper.
By definition, a share is a tiny part of the ownership of a company. With simple arithmetic, if there are 10 shares of a thing, divided among 10 (or 5) people, then all of them have equal weightage or ownership of the thing. In the case of business shares, there will a very large number of shares and thus a very large number of shareholders. When any decision is to be taken, simple logic dictates that all shareholders have a say in the matter. But practically, a shareholder with 0.001% of the company cannot possibly have a genuine understanding of the full context. Even if only the large shareholders are considered, it might not be practical to hear everyone out. For many such practical and financial reasons, shares are broadly typified as voting shares and non-voting shares. Self-explanatory. Those with voting shares can vote in matters relating to the company and the others cannot. During the process of going public, there can be an uneven split where some shares are held at a higher monetary value than that of the open market with the same voting rights (say 1 per share) or at the same monetary value but at higher voting rights (say 2 per share). Various reasons exist for this which are beyond the scope of this post. Beyond the scope of my understanding, really, but let’s leave that aside. That’s the oversimplification. As ever, remember that a simplification intentionally discards the details so that the base concept is clear.
Moving on, how and why do the values of shares fluctuate? The simple answer is supply and demand. If there are a limited number of shares on the market of a company and if a lot of people want to buy these shares, the value of it naturally rises. And the opposite holds as well. For example, given the current pandemic, companies dealing in the manufacture of medical equipment and medicines are seeing a surge in their valuations and companies like fast food chains are falling.
That (finally) brings us to the original point. Is it plain gambling then? Quite the opposite. Successful investors know where to look and what to look for before buying shares. The word “public” makes sense here. Most, if not all, critical documents of a company and its operations are available for the general public to examine and decide between buying its shares. In these documents, many things help create a picture of the health of the business. These pointers can be ranging from the details of the founders, their compensations, the promoters, etc. As per rules, at the end of every quarter, companies are required to declare their financials. This is usually when there is a noticeable variation in the share price. Apart from that, there are a lot of ratios that can be used to determine if a company’s shares are good or not. As a random example, the dividend ratio helps understand how much of the profit is given back to the investors on a per-share basis. The higher the ratio, the higher is the dividend, making it an attractive share. Again, this post will not get into the depths of such ratios and other finer details.
When they say “buy low and sell high,” a casual investor may not be able to determine what is low and high for a company or an industry, despite these public documents, thus making it appear to an outsider as a gamble.
Some really smart investors avoid the main stock exchanges and go for the smaller, less crowded ones. No, not a typo. There are more than two exchanges in India. The BSE and NSE are just two most famous ones. Even the USA and China have more than one major stock exchanges. The government body overseeing the share market in India lists nine exchanges on its website here. The MCX, for example, deals with commodities, or goods instead of company shares. Goods such as crude oil, metals including gold and others, and agricultural products are traded on this exchange.
So there you have it. A simple introduction to shares and stock markets. Questions, anyone?
Originally published at https://abhikb2005.substack.com.
