A stock exchange is an organization where various stock brokers and traders can buy and sell shares of various companies. It is the part of the overall capital market industry. A stock exchange may be an independent legal entity or can be operated by a government agency, authorities, company or non-profit organization.
In this article we shall be looking at what a stock exchange is and how we get familiar with the market.
What is Stock Exchange (SE)?
A stock exchange is simply an institution, a platform, or a facility where different stockbrokers and traders can interact and bring about transactions by buying and selling shares. They can be shares of a stock, a bond or any other related financial instrument. People involved in the business of a stock market can be anyone, ranging from individual stock buyers to even big trade investors and conglomerates. Participants can be based anywhere in the world without any restrictions. Stock exchange markets also include banks and insurance companies who trade in stock with other organizations.
It is a place where shares of pubic listed companies are traded. The primary market is where companies float shares to the general public in an initial public offering (IPO) to raise capital.
Another definition: A stock exchange is a marketplace where securities, such as stocks and bonds, are bought and sold. Bonds are typically traded Over-the-Counter (OTC), but some corporate bonds can be traded on stock exchanges. Stock exchanges allow companies to raise capital and investors to make informed decisions using real-time price information. Exchanges can be a physical location or an electronic trading platform. Though people are typically familiar with the image of the trading floor, many exchanges now use electronic trading.
Description: Once new securities have been sold in the primary market, they are traded in the secondary market—where one investor buys shares from another investor at the prevailing market price or at whatever price both the buyer and seller agree upon. The secondary market or the stock exchanges are regulated by the regulatory authority. In India, the secondary and primary markets are governed by the Security and Exchange Board of India (SEBI).
A stock exchange facilitates stock brokers to trade company stocks and other securities. A stock may be bought or sold only if it is listed on an exchange. Thus, it is the meeting place of the stock buyers and sellers. India’s premier stock exchanges are the Bombay Stock Exchange and the National Stock Exchange.
urpose of Stock Exchanges
Stock exchanges act as an agent for the economy by facilitating trade and disseminating information. Below are some of the ways exchanges contribute:
1. Raising Capital
Through initial public offerings (IPO) or issuing of new shares, companies are able to raise capital to fund operations and expansion projects. This provides companies with avenues to increase growth.
2. Corporate Governance
Companies that are publicly listed on a stock exchange must conform to reporting standards that are set by regulating bodies. This includes having to regularly and publicly report their financial statements and earnings to their shareholders.
The actions of a company’s management are constantly under public scrutiny and directly affect the value of the company. Public reporting helps ensure that management will make decisions that benefit the goals of the company and its shareholders, thereby acting efficiently.
3. Economic Efficiency
In addition to encouraging management efficiency, exchanges also facilitate economic efficiency through the allocation of capital. Stock exchanges provide an avenue for individuals to invest their cash, as opposed to merely saving these funds. This means that the capital that would otherwise be untouched is utilized towards economic benefits, resulting in a more efficient economy.
In addition, exchanges also provide liquidity, as it is relatively easy to sell one’s holdings. By providing liquidity and real-time price information on company shares, the stock exchange also encourages an efficient market by allowing investors to actively decide the value of companies through supply and demand.
Functions of Stock Exchange in Detail
Having an idea about the functions of the stock exchange can be highly advantageous in the contemporary world. The stock exchange is a crucial part of the modern world of finance and business. Discover below some of the different functions of the stock exchange.
1. One of the primary functions of the stock exchange is to provide a quick, persistent and constant demand for the purchase and sale of securities. It has a ready outlet for the purpose of buying and selling these securities. It also functions as an outlet for the sale of securities that are listed on the stock exchange.
2. Among different functions of the stock exchange, one is to speed up, as much as possible, the whole process of capital accumulation and formation. It induces or inculcates the habit of saving and investing and risk-taking among the investors. The stock exchange aims at converting their precious savings into profit. It also serves as a tool for capital formation. It functions as a medium for a secure and profitable investment.
3. It is among the fundamental functions of stock exchange to impart necessary and essential information to the potential and current investors. Such information can be easily found on their websites. They regularly put out advertisements in various newspapers, business magazines and television channels regarding different investment opportunities and provide proper guidance. This is aimed to encourage investors and make them aware of stock market investments.
4. It is one of the top priority functions of the stock exchange to provide a safe and secure way of conducting business and investments. The transactions in the stock exchange are done under clearly outlined rules and regulations. It is the responsibility of the authority body of a stock exchange to keep in check its employees. Practising forgery is discouraged and swiftly dealt with.
5. In a stock exchange, the companies which are listed have to consistently comply with the already well-defined rules and regulations. Before enlisting themselves they are asked to submit various documents, providing all the information about their return. Providing the documents acts as an instrument to monitor any important activity that the organization is planning to undertake in the course of the future. These rules and regulations have been made to ensure the safety of investments and funds.
6. Another important function of stock exchange is to aid and enable the creation of new business ventures. For a venture to be able to function, it needs financing and capital. This is done by stock exchanges. They act as a major platform for the new business to raise capital to meet their financial needs. Stock exchanges help in the establishment of new ventures.
7. A stock exchange not only helps individuals and business ventures to raise funds for their financial needs but functions as a platform for a government to raise money for its major development and expansion projects. Many times central, as well as, state governments have raised millions to meet their growing needs.
Important stock exchange participants
Stock exchanges have quite a few moving parts and everyone involved plays a specific and necessary role. Here’s a breakdown of who’s who:
- Brokers: Brokers are professionals or firms that act as intermediaries between outside investors, who don’t have access to the inner workings of the exchange, and the market. Brokers represent their clients’ best interests, aiming to buy or sell at the price most beneficial to the investor, and are usually paid on a commission basis.
- Dealers: Dealers are firms or individuals who execute trades for themselves, rather than for a client or third party, in an effort to maximize their own profits. Dealers make money by selling stocks at higher prices than they initially paid.
- Market makers: Market makers are dealers who aim to increase the liquidity of the entire exchange, buying and selling a large-volume of stocks to ensure trades occur . This heightened liquidity benefits all parties involved by making trading more efficient.
- Broker-dealers: As the name suggests, these individuals or firms are a combination of brokers and dealers, serving the interests of both themselves and their clients.
Major stock exchanges
There are many stock changes around the world. Here is a look at a few, along with their most current market cap.
New York Stock Exchange (NYSE)
Founded in 1792, the New York Stock Exchange is by far the largest exchange in the world. As of March 2018, the NYSE’s market capitalization was US$23.12 trillion.
2. NASDAQ
Founded in 1971, NASDAQ is a US-based stock exchange. With a market capitalization of US$10.93 trillion as of March 2018, it is the second-largest in the world by market capitalization. Many tech and growth firms choose to be listed on the NASDAQ.
3. Shanghai Stock Exchange (SSE)
Founded in November 1990, the Shanghai Stock Exchange is the fourth-largest exchange in the world. It reported a market capitalization of US$5.01 trillion in March 2018. There are two types of stocks listed on the SSE, ‘A shares’ and ‘B shares’. Shares are quoted in RMB, with trading in A shares historically restricted to domestic investors.
In July 2018, China announced additional plans to allow foreign investors to access A shares through domestic brokerages. B shares are quoted in USD and are open to domestic and foreign investors alike.
Listing Requirements
All companies that wish to go public must satisfy certain reporting requirements as outlined by the securities commissions of their respective jurisdictions.
In the United States, the Securities and Exchange Commission dictates that companies must discuss and publish their financial statements, as well as make other disclosures. These are published in the form of quarterly and annual reports.
On top of these requirements, in order to be listed on an exchange, a company must also satisfy the requirements of the stock exchange they wish to be listed on. Below are some examples of listing requirements by the three aforementioned exchanges. Listing requirements may also differ for initial public offerings (IPO).
New York Stock Exchange (NYSE):
- Pre-tax income for the past 3 years must be at least US$10,000,000
- The market capitalization of publicly held shares must be at least US$100,000,000
- Publicly held shares must be greater than 1,100,000
- Pre-tax income for the past 3 years must be at least US$11,000,000
- The market capitalization of publicly held shares must be at least US$45,000,000
- Publicly held shares must be greater than 1,250,000
Shanghai Stock Exchange (SSE):
- Capital stock must exceed RMB¥50,000,000
- Publicly issued shares must account for at least 25% of all shares; if the company’s capital stock exceeds RMB¥400,000,000, publicly issued shares must account for at least 10% of all shares
- No major legal violations in the past three years or fraudulent records in the company’s financial reports
Please note this is not an exhaustive list of the requirements to be listed in each respective stock exchange.
Primary Market
When a company issues new securities that did not previously exist on any exchange, it issues securities to the primary market. Undergoing an IPO is an example of this. The company offers securities to the investors to raise capital and becomes listed on the stock exchange.
Secondary Market
After a company undergoes an IPO, its shares continue to be traded between investors on the market. This is referred to as the secondary market. The company is no longer involved in any of these transactions. The stock exchange facilitates trade between buyers and sellers in the secondary market.
Conclusion
Now you probably know thae stock exchange, or stock market, and how it works. Just as corporate boards can be formed as a way of bringing stakeholders together to manage their mutual financial interests, a stock exchange is a space where securities are traded and investors connect. The world’s first stock market was created in 1792, inspired by the changes in the industrial revolution.