The Basics: Personal Finance Lab

Stock Market Basics

  • Q: What is a Stock?

    Companies initially raise money by selling their stock. A share of stock represents fractional ownership of a business. When you buy shares of stock in a company, you are buying a small fraction of the business and all the profits that go along with it. For example, if ABC Company needed to raise $1,000,000 they could sell 100,000 shares at $10. Each share that you owned would represent 1/100,000th ownership of the company.

    Keep in mind that some companies are “public” and some companies are “private”. Private companies are smaller companies that have raised money through a small number of investors and their stock does not have an active market where it can be bought and sold. Public companies have sold their stock to many investors (shareholders) and have registered their shares with the Securities and Exchange Commission and with an exchange (ex. NYSE, AMEX, or NASDAQ) and hence their shares can be bought and sold with ease on an exchange.

    The two main types of shares are common and preferred stocks. Common stock gives the owner the right to vote at shareholder meetings and receive dividends if any are declared. While preferred shares typically don’t confer voting rights, they have priority over common shares for earnings and assets. This means when a company declares dividends, preferred shareholders are paid before common ones and have a higher claim to assets if the company goes bankrupt and is liquidated.

    When you buy stocks on Personal Finance Lab, they are almost always shares of common stock.

  • Q: How does one decide which stock to buy or sell?

    A wise investor will always conduct some type of analysis before making an investment– acting on hot tips or blindly following the crowd rarely pays off. You can start off by watching the spending habits of your friends and family. What are they buying? Are they buying more than they used to buy? What products do you always use and trust, and which ones don’t you use anymore? Start watching the business channels on TV, and start reading a few of the popular stock market websites like finance.yahoo.com, forbes.com, investors.com, fool.com.

    There is also a Research link on the Personal Finance Lab website that will contain many valuable links.

  • Q: What does it mean to “Long” or “Short” a stock or the stock market?

    Everyone has heard the old adage “Buy low and sell high.” When a trader buys a stock, he is said to have a “long” position. He is “long” because he believes the stock price is going higher. This is also known as being “Bullish” or a ‘Bull” on the market.

    Conversely, a trader can also make money when he thinks a stock is going to decrease in price. Instead of buying low and selling high, a trader can “Sell high and buy low.” In this instance, a broker will actually loan the trader shares of stock that the trader then sells. At this point, the trader has “sold short” the stock and believes the price is going to be lower. This is also known as being “Bearish” or a ‘Bear” on the market. When the price has fallen, the trader buys the stock at a lower price and “covers” his “short” position. The trader then takes the shares that he just bought and returns them to the broker from whom he borrowed the shares.

  • Q: What is a bid/ask?

    The stock exchanges provide the valuable service of bringing together all of the buyers and the sellers of stocks each day and matching the buyers and sellers that agree on a price. The exchanges keep track of all of the open orders and show the highest buy order price as the “bid price” and show the lowest sell order price as the “ask price.” The “ask” is the price the person who owns the stock is asking to sell his shares.

    On Personal Finance Lab your buy orders will get filled with the ask price and your sell orders will get filled at the bid price.

  • Q: What is an Investment Portfolio?

    An investment portfolio is a collection of investment assets, such as stocks, bonds, ETF’s, mutual funds, derivatives, real estate and commodities. Investment portfolios should be constructed after carefully assessing the investor’s goals, objectives and portfolio, such as age, growth and income requirements, risk tolerance and liquidity needs. At Personal Finance Lab your investment portfolio is comprised of stocks in companies that are publicly traded in the U.S. markets. To verify if this simulation includes other security types, hold your mouse over the “Make a Trade” tab and see what other options are below the “Trade Stocks” link. Each security type will have a separate trading page.

  • Q: What is a Market Order?

    A market order is an order to buy or sell a specified number of shares (or bonds, etc. ) at the best available price when the order is submitted. All orders that don’t bear a specific price are considered market orders.

    Market orders placed while the markets are closed or before the market opens will be executed at an appropriate bid/ask price shortly after the market opens and contingent to trading volume on that particular stock. If the stock requested does not have sufficient volume to execute, then that order will stay pending until filled or canceled.

  • Q: What is a Limit Order?

    A limit order is an order in which a specific price is set to buy or sell a security. If the price point is hit and there is sufficient volume at that price point or better, your order will be filled. Limit orders may be placed as “Day” orders which are good for the day only, or as “GTC” orders, which are good until canceled.

  • Q: What is a Stop Order?

    A stop order is an order to buy or sell a stock when the stock price reaches a specified price, which is known as a stop price. When the specified price is reached, the stop order becomes a market order.

    (a) A Sell Stop Order is used by investors and traders long a stock to protect an existing profit or avoid further losses if the stock price drops. A stop order to sell must be placed below the current market price.

    (b) A Buy Stop Order is used by investors and traders short a stock to protect a profit or limit a loss if the stock price increases. A stop order to buy must be entered at a price above the current market price.

    Stop orders may be placed as “Day” orders which are good for the day only, or as “GTC” orders, which are good until canceled.

    For example, if you own 100 shares of IBM at $100/share and you want to sell it if the stocks goes up to $110, that would be a limit sell order; but, if you wanted to sell if the stock price drops to $95 so as to limit your losses, that would be a stop sell order.

  • Q: What is an Open Order?

    A market order that was placed when the market was closed and has not filled yet, or a limit/stop order that has been placed but the price has not been met yet and therefore has not executed yet is called an open order. At the Personal Finance Lab, all orders are either market orders or GTC orders.

  • Q: What is buying power?

    In many of our stock market simulations, accounts are margin accounts, which mean that we will loan you a certain amount of funds. In these cases, the buying power calculation is the amount of stock purchases that you can make if you want to become fully invested and take the full amount of available loans. For simulations that do not permit buying on margin, than buying power equals the amount of available cash in your account. To see if this simulation permits buying on margin, just check under the “Contest Parameters” on the Account Balance Page.

  • What time does the stock market open?

    The North-American stock markets open at 9:30AM ET and close at 4:00PM ET. Any trade made when markets are closed will be processed the next business day.

    Markets are CLOSED for these Federal Holidays in the U.S.: New Year’s Day, Martin Luther King, Jr. Day, Presidents’ Day, Memorial Day, Independence Day, Labor Day, Thanksgiving Day, and Christmas Day. On the day following Thanksgiving and frequently the day before Christmas, the market will close at 1:00 pm ET.