What Is the Stock Market? How Does It Work? | Finances | MD&D #16

Evidence based insights into physician compensation, RVUs, contracts, healthcare economics, and personal finances. For residents, fellows, and early-career attendings.

Life and Finances, in Medicine.

If you live in the United States, there is almost no way you have not heard about the stock market. The stock market can sound complicated, but the basic idea is simple: it is a marketplace where people buy and sell ownership in companies.

When you buy a stock, you are buying a small piece of a company. That piece is called a share. If a company has one million shares and you own 100 of them, you own a very small percentage of that company.

For example, imagine you buy 10 shares of Tesla. You now own a tiny portion of the company. In theory, that makes you one of Elon Musk's fellow owners (Don't expect an invitation to sit at the decision table anytime soon, nonetheless). You may own part of the company, but owning a few shares does not mean you make decisions about how the company is run.

Why Do Companies Sell Stock?

Imagine you own a company and you want it to grow. You may want to open new locations, hire more employees, or develop new products. One way to raise money is to sell a small portion of your company to investors in the form of shares.

When a company first sells its shares to the public, this is called an initial public offering, or IPO, a term you may have heard frequently in the news, particularly with new technology and AI companies.

After that, investors can buy and sell those shares among themselves on stock exchanges.

What Is a Stock Exchange?

A stock exchange is a marketplace where stocks are traded.

Two of the best-known exchanges in the United States are the New York Stock Exchange and Nasdaq.

Back in the day, much more trading was done in person and manually. Remember the old Eddie Murphy movie Trading Places? Today, things have changed quite a bit. Most trading happens electronically.

You do not need to physically go to an exchange. When you place an order through a brokerage account, such as Fidelity, Vanguard, or E*TRADE, the system helps match buyers and sellers.

Why Do Stock Prices Move?

Stock prices change because buyers and sellers are constantly deciding what a company is worth at a particular moment.

And that perceived value can change based on almost anything affecting expectations about the company. How much money did the company make? Does it have a promising new product? How is it doing compared with the competition? How is the overall economy doing? Has government policy changed? Sometimes prices also move simply because of investor sentiment. As you can see, there can be plenty of speculation involved.

Then come the basic principles of supply and demand. If many investors want to buy a stock, its price tends to rise. If many investors want to sell it, its price tends to fall.

In the short term, stock prices can move for many reasons. Over longer periods, however, investors generally care about whether companies can grow profits and create value.

How Do Investors Make Money?

There are two main ways.

The first is increase in value or price appreciation. You buy a stock for $50 per share and later sell it for $70 per share.

The second is through dividends. Some companies distribute part of their profits for a specific period of time directly to shareholders.

Neither is guaranteed. A stock can fall in value, and a company could eliminate its dividend program.

Do You Have to Pick Individual Stocks?

No. And personally, I do not recommend doing this unless you enjoy adrenaline and extreme sports. Many investors instead own hundreds or even thousands of companies through investment funds. An investment fund can allow you to own a small piece of many companies at once. That is why investing in the stock market does not necessarily mean trying to guess which individual company will be the next winner.

The stock market is a marketplace where stocks are bought and sold. The price of each stock is influenced by many factors, but perhaps one of the most important is the investors’ collective expectations about a company’s future. Stock prices reflect a form of “educated speculation”, where investors use the information to estimate what a company may be worth in the future.

✓ The stock market is simply a marketplace for ownership in businesses.

✓ You buy shares because you believe those businesses may become more valuable over time. Prices will rise and fall along the way. That volatility is part of investing.

✓ Understanding that basic idea makes everything else much easier when we start diving deeper into the world of finance.

“If you aren’t planning to own a stock for 10 years, don’t even think about owning it for 10 minutes”

Warren Buffett

Have a question about compensation, contracts, personal finance, or life decisions in medicine? Send it to MD&D. Your question may be answered in a future article, podcast, or Q&A.

email: [email protected]

MD&D is a FREE platform for residents, fellows, and early-career attendings who want to better understand RVUs, compensation, contracts, and finances in medicine.

Website:
mddecisions.org

Newsletter:
read.mddecisions.org

Free RVU Playbook:
playbook.medicinedollarsanddecisions.com

Join a growing community of medical professionals dedicated to understanding the business of medicine.

Bruno Casanova, MD

Founder & Host

Medicine, Dollars & Decisions

Life and Finances, in Medicine.