How (stock) equity investing works

What can I invest in the stock market?

To understand how stock and equity investing work, you must first understand what “the stock market” encompasses. The term “stock market” is used to describe a variety of financial instruments and markets, including equity and fixed-income securities. While the stock market is often equated with the purchase and sale of equity securities, it is also home to other types of investments—such as bonds, mutual funds, and options—which are purchased through brokers.

Equity Stocks

Equity stocks are the stocks/shares of a publicly listed company. These are the ones traded on the stock market. They represent a certain percentage of the company’s capital. If you buy an equity stock, you are a certain percentage owner of the company. Depending upon how many shares there are in existence, and how many you own, determines your ownership percentage. If you have more than 5% ownership of a certain company, you have the power to call a general (shareholder) meeting or attempt to take over with 51% ownership; but, yes, you should report this to the Securities and Exchange Commission (SEC) and express formally as interest.

What are Bonds and how do they work?

Bonds are a way in which companies or governments borrow money from the public. Investors who buy bonds are lending their money to the issuer and receive interest payments in return.

Derivates

Derivative instruments are financial contracts whose values are derived from the value of underlying assets, such as commodities, stocks, bonds, and interest rates. There are numerous examples of derivative instruments, including futures contracts and forward contracts.

Forward vs Future contracts

Forward contracts and future contracts are similar in that they both allow you to agree to buy or sell something at a specified price in the future. However, a forward contract is an OTC (Over the Counter) product not listed on an exchange, while a future contract is listed on an exchange and has a clearing corporation as an intermediary. The clearing corporation is there so that if one party doesn’t fulfill their end of the bargain, the other party won’t be left out in the cold.

Forward contract

A forward contract is not updated everyday. For example: Let’s say you and I enter into a forward contract and agree that three months from today, I will buy from you 1000 barrels of oil at $90 /barrel. We agree on this and then don’t meet for three months. Three months later, the price of oil drops drastically to say $50 /barrel. Now, this is a blow to me because of obvious reasons; so instead of paying $40 more than what I had agreed upon in our contract, I decided that it would be better to face charges instead of paying more than what was supposed to be paid according to our contract. In the case of a forward contract, however, if there are any fluctuations in price either party has to pay the difference to the other one.

Future contract

A future contract is marked to market every day while a forward contract is not marked to market. This means that a future contract is signed every day and the price fixed then is revised every day so that it best reflects the sentiments of the market.

Options

Options: Options are a call-and-put placement. A call option is a bet that the price of a stock will go up. A put option is a bet that the price of a stock will go down. People use these contracts in various combinations to hedge their risks or speculate on a particular stock’s movement.

Commodities

In addition to buying and selling stocks and bonds, yes people can trade commodities like rice, sugar, and other goods on the commodity market. The forward contract is one of the most popular instruments in this area.

Trading metals

Trading metals: Trading metals is like trading commodities, you can trade precious and non-precious metals—including gold, copper, and aluminum—on the stock market.

Currency trading

Currency trading is the buying and selling of currencies. If you look at a currency pair, say $/INR, $/Yen and so on, their conversion values go up and down. For example, there was a time when $1 could buy you 45 Indian rupees. Now, it has gone up to around 81 rupees. People trade in currencies too and there are futures markets for currencies too.

Check out more articles