In The Trade | Stocks & Mutual Funds |
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A Basic Overview of Financial Markets - Stocks and Bonds
Do you know the difference between a stock market and a bond market?The purpose of financial markets is to provide their participants with the most favorable conditions for the purchase and/or sale of financial instruments - stock, bonds, mutual funds and commodities. Their major functions are: guaranteeing liquidity (stocks and bonds are avialable to be exchanged), forming assets prices within established propositions and demand (determining the current stock price), and decreasing the operational expenses (broker commissions, etc.), incurred by the participants of the market.Financial market are comprised of a variety of instruments, hence its functioning (how well it is doing today), totally depends on the instruments held. Usually individual markets are classified according to the type of financial instruments the market adminsiters and according to the terms of the instruments' paying-off. Generally a finacial market can be divided into two types: Promissory Notes (bonds) and Securities (the stock market). The first type contains promissory instruments with the right for its owners to get some fixed amount of money in the future. This is called the market of promissory notes or bond market. On the other hand, stocks bins the issuer to pay a certain amount of money according to the return received after paying-off all the promissory notes. This is called a stock market. These financial instruments can quickly get more complicated. There are also types of securities referring to both categories as, for example, preference shares and converted bonds. These are also called the instruments with fixed return. Another classification catagory is due to the paying-off terms of instruments. These are: Market of assets with high liquidity (money markets) and Market of capital. The first one refers to the market of short-term promissory notes with assets age up to 12 months. The second one refers to the market of long-term promissory notes whose instrument age surpasses 12 months. This classification can be referred to the bond market only as its instruments have fixed expiry date. The stock market's instruments have no expriation date - as long as the issuing company is still around... Let's look at the stock market a bit more. As implied earlier, the purchaser of ordinary shares are investing their funds into the company-issuer and become the company's owners. Their weight in the process of making decisions in the company, of course, depends on the number of shares that he or she possesses. When one considers the financial experience of a company and its current place in the marketplace, and the future potential value of shares can be divided into several groups. 1. Blue Chip Stocks - Shares of large companies with a long record of profit growth, annual returns over $4 billion, large capitalization and a constancy in paying-off dividends are referred to as blue chips. 2. Growth Stocks - Share value (stock price) of a growth stock company grows faster than the average. Sucha company's managers typically pursue the policy of reinvestment of revenue into further development and modernization of the company. These companies rarely pay dividends and when they do, the dividends are minimal as compared with other companies. 3. Income Stocks - Income stocks are the stocks of companies which high and stable earnings. They pay high dividends to the shareholders. The shares of such companies are often found in a mutual fund's portfolio that is geared towards middle-aged and elderly people participants. 4. Defensive Stocks - These are stocks whose prices stay stable when the market declines. They do well during recessions and are able to minimize risks. These terms for the different catagories of stocks are widely used in mutual fund portfolios. If you have a 401k fund to manage, for example, these stock terms are often used to seperate different investment options. Thus for better understanding of the investment process, it is useful to keep in mind these divisions. There are basically two ways to profit from share ownership: 1. Selling stock that has increased in price value. 2. Receiving quarterly dividends. Both of these depend on: The type of share, the financial state of the company, share category, and other variables. Ordinary shares do not guarantee dividends will be paid. Dividends are issued by a company depending on its profitability and cash flow (spare cash). The amount of a dividend paid usually differs from quarter to quarter, sometimes being higher as well as lower varying with the financial health of the company. There are periods when companies do not pay any dividends at all. This could be due to a business being in financial distress. It can also be the case that company executives have decided to reinvest income into the development of the business - hoping for greater profits in the future. When purchasing shares of stock, it is important to examine the company you are considering carefully. Look at its profit/loss accounting, balance sheet, cash flows, distribution of profits between its shareholders, managers' and executives' wages, etc. Look at it annual dividend rate, have dividends been growing or shrinking, and what is the prospect for future growth? The more of the ins and outs of a company you know about the better you will know if a stock price is fair. If you are not confident of the information, it is more advisable hold such shares for onlhy a short time. About the Author: Scott Harker is the publisher of several websites including: Sherlock Holmes Pastiches, Harvest The Sun | Renewable Energy, Grilled To Perfection - Barbecue, Dieting Help | Move More - Eat Less, and On The Hook | Fishing Supplies. News about Financial Markets
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