What is the stock market and how does it work?

Introduction to the stock market

Imagine you and your friends own a lemonade stand. You each own an equal share of the stand, and you all work together to make and sell lemonade.

One day, a customer comes up to your stand and asks if he can buy a share of your lemonade stand. He is willing to pay you Rs.100 for a share. You agree to sell him a share, and now he is a part-owner of your lemonade stand.

The stock market is similar to the lemonade stand example. When you buy a share of a company, you are buying a small piece of that company. You are also entitled to a portion of the company's profits and assets.

The stock market is a place where people can buy and sell shares of companies.

What are shares?

Shares are units of ownership in a company. When you buy shares, you are buying a small piece of the company. Shareholders have certain rights, such as the right to vote on corporate decisions and the right to receive dividends.

What is ownership?

Ownership is the right to use and dispose of something. When you own shares in a company, you have a right to a portion of the company's profits and assets.

How does the stock market work?

The stock market works by matching buyers and sellers of shares. Buyers and sellers come together through stock exchanges, which are electronic platforms that facilitate the trading of shares.

Supply and demand

The price of a share is determined by supply and demand. If more people want to buy a share than sell it, the price will go up. Conversely, if more people want to sell a share than buy it, the price will go down.

Types of markets

There are two main types of stock markets: primary markets and secondary markets.

• Primary markets: Primary markets are where new shares are issued to the public for the first time. This is known as an initial public offering (IPO).
• Secondary markets: Secondary markets are where existing shares are traded between investors.

Stock exchanges

Stock exchanges are electronic platforms that facilitate the trading of shares. The two largest stock exchanges in India are the NSE (National Stock Exchange) and BSE (Bombay Stock Exchange).

Market participants

The stock market is made up of a variety of different participants, including individual investors, institutional investors, brokers, and market makers.

• Individual investors: Individual investors are people like you and me who invest our own money in the stock market.
• Institutional investors: Institutional investors are organizations that invest money on behalf of their clients, such as pension funds, mutual funds, and insurance companies.
• Brokers: Brokers are intermediaries who help buyers and sellers trade shares.
• Market makers: Market makers are firms that ensure that there is always a buyer and seller for a particular stock.

How to buy and sell shares

To buy and sell shares, you need to open a demat account and a trading account with a stockbroker. A demat account is used to store your shares electronically. A trading account is used to place buy and sell orders.

Stockbrokers

Stockbrokers are intermediaries who help buyers and sellers trade shares. Stockbrokers charge a commission for their services.

Demat accounts

Demat accounts are used to store shares electronically. Demat accounts are maintained by depository participants (DPs).

There are two main depositories in India: National Securities Depository Limited (NSDL) and Central Depository Services (India) Limited (CDSL).

When you open a demat account, you will need to choose a depository participant (DP).

Trading accounts

Trading accounts are used to place buy and sell orders. Your trading account will be linked to your demat account. This will allow you to buy and sell shares seamlessly.

When you place a buy or sell order, your stockbroker will execute it on the NSE or BSE, depending on which exchange the share is listed on.

Trading accounts are maintained by stockbrokers. Dhani Stocks is one of India’s leading  stock broker that offers a free demat account and zero brokerage on delivery trades. This makes it a good option for beginners who are just getting started with investing in the stock market.

Order types

There are different types of orders that you can place when buying and selling shares. The most common types of orders are market orders and limit orders.

• Market orders: Market orders are orders to buy or sell a share at the best available price.
• Limit orders: Limit orders are orders to buy or sell a share at a specific price or better.

Order execution

Once you place an order, your stockbroker will send it to the NSE or BSE for execution. The stock exchange will then match your order with an opposing order from another investor.

Settlement

Once your order is executed, the shares will be transferred to your demat account and the funds will be transferred from your bank account to the seller's bank account.

Example of order

Let's say you want to buy 100 shares of Reliance Industries at a price of ₹100 per share. You have a demat account with CDSL and a trading account with Dhani Stocks.

1. You would first log in to your Dhani Stocks trading account and place a buy order for 100 shares of Reliance Industries at ₹100 per share.
2. Dhani Stocks would then send your order to the NSE or BSE, depending on which exchange Reliance Industries is listed on.
3. Once your order is matched with a sell order from another investor, the transaction will be executed.
4. The 100 shares of Reliance Industries will be transferred from the seller's demat account to your demat account with CDSL.
5. The ₹10,000 (100 shares * ₹100 per share) will be transferred from your bank account to the seller's bank account.

The entire process is usually completed within a few minutes.

Risks and rewards of stock market investing

Stock market investing is a risky activity, but it also has the potential to generate high returns. Before you invest in the stock market, it is important to understand the risks involved and to develop an investment strategy that is appropriate for your individual circumstances.