Understanding How the Stock Exchange Works

There’s a lot of confusion about the stock exchanges. While you do not yet have the clearest understanding of it and how it works, please do not rush and start recklessly putting your hard-earned money in stocks.

First, the stock market and the stock exchange are different. The stock index is also a different thing altogether. But yes, these three are related to stocks.

In this article, we’ll explain everything you need to know about stock exchanges. And we hope you’ll be able to know how the stock exchange is different from a stock index and the stock market after you read through.

What stock exchanges are

The centralised location where you can buy and sell financial instruments, including but not limited to stocks or equities, is what we call a stock exchange.

The most prominent example you might know is the New York Stock Exchange (NYSE) and the Nasdaq, where you can buy and sell US stocks, such as Apple, Amazon, or Google. There are also local stock exchanges, such as the Singapore Stock Exchange (SGX) or the Kuala Lumpur Stock Exchange (KLSE).

A stock exchange can facilitate your trades because they’re regulated by government entities. This is so that investors and their money are protected.

Buying securities would depend on whether they’re listed in a stock exchange. This means you cannot trade Google or Alphabet on SGX, as it’s not listed there. There’s an entirely different process that determines whether a stock can be listed in a specific exchange or not, but we’ll get to that later.

Meanwhile, when we say “stock market,” it’s an encompassing term that refers to activities and processes that allow investors and traders to buy and sell stocks. But where all these happen is the stock exchange.

A stock index, on the other hand, serves as a benchmark for the market’s performance. If you’ve heard about the S&P500, it’s the most popular stock index composed of the top 500 companies. When the performance of this index is good, we often hear that the market is performing well.

What you need to understand about stock exchanges is just one thing: they allow you to buy and sell stocks.

How stock exchanges work

Stock exchanges act as a marketplace. Companies are the sellers, investors are the buyers (they can also be sellers), and equities (including stocks, bonds, commodities) are the products being sold.

Companies list in a stock exchange because they want to raise capital. They do this through the shares being sold to investors. So when you buy shares of a stock, for example, Facebook or Meta, you are investing in the company. The company will use the money you invested to further grow their business.

When they perform well or make a profit, the investors also get profits through capital appreciation. They can sell their stocks at a higher price or they can wait for their investment to be compounded through time and get higher returns. Some companies give out dividends to shareholders whenever they profit, so it’s another way to make money from the stock exchanges.

This means stock exchanges do not own any shares. They’re just a mediator for investors and companies to come together. And with this mediator role comes an important role of ensuring that trades are done proficiently, thereby, helping companies provide accurate financial information that investors need.

But the role of stock exchanges does not stop with just being a marketplace. They also provide liquidity in the market, so we know there are enough buyers and sellers. Otherwise, trades won’t be efficiently carried through.

How stocks are listed in an exchange

When you have a company and want to list it on a stock exchange, the first step is to conduct your IPO (initial public offering).

During an IPO, you’re basically selling your company’s shares to a primary market or an initial set of shareholders.

Once this step is done, the shares held by the primary market can then be sold or bought in the exchange. With this, the general public will be able to buy and sell your company’s shares.

How to buy/sell in stock exchanges

The primary number in a stock exchange that you need to know about is the stock price or the share price. This is the price that the stock is currently selling for.

But you might ask how stock prices are determined. How come they change so quickly? This is because stock prices depend on supply and demand.

Let’s say you’re interested in a stock and you want to buy a share for $75. This amount will be what you’ll put as the stock’s bid price or the maximum amount you’re willing to pay to buy the share. If ever you want to sell the stock you’re holding for $76, you’ll put $76 as the asking price or the minimum price you’re willing to sell the share for.

Share prices go up if the demand for the stock goes up as well. This means a lot of investors are willing to buy shares. On the other hand, you’ll see a stock’s price drop whenever the demand is low or investors are frantically selling their shares.

Yes, the stock exchange actually works like an auction. And you can take part in it by buying and selling stocks.

By now you must be all excited to start trading in a stock exchange. But wait… how can you buy and sell?

You can carry out your trades through a broker. Nowadays, investors use online brokerages, such as Saxo, Tiger Brokers, or TD Ameritrade.

Through these brokers, you can just open your account, deposit money for trading, and then start buying and selling. You can buy and sell by inputting which stock you wish to trade, what action you want to do (sell or buy), and how many shares you want to buy or sell. All transactions will be done immediately and electronically.

Of course, investing in stocks is not as easy as opening a broker account and trading in the stock exchange. You need to do a significant amount of stock analysis for each of the stocks you’re interested in, do portfolio management, and even review your investments every year or every quarter. All these are crucial so that your investment journey would not suffer losses.

To understand more about the most profitable way to invest in stocks and use the stock exchanges, come to our complimentary investing bootcamp.