Last updated: April 21st, 2024
ASX’s 2023 investor survey shows a 13% increase in beginner investors since 2020. Despite 13 consecutive interest rate rises, more than one million Australians plan to start investing via stock exchanges in the coming year.
For first-time stock market investors, confusing financial language (e.g., what are mutual funds?) can reduce your confidence in making good decisions.
It pays to understand the stock market basics before you start your investment journey. Let’s begin!
How Does The Stock Market Work?
When a company ‘goes public’, it gives the general public a chance to take part ownership by issuing a certain number of shares in the company.
- A float describes the process of issuing shares to the public.
- A primary market is the way investors directly buy issued shares initially from the company.
- An initial public offering (IPO) is one common type of primary market sale.
Once company shares have been issued, they can be freely bought and sold on the stock market.
This happens through stock exchanges such as the Australian Securities Exchange (ASX) in Australia or the New York Stock Exchange (NYSE) in the US, sometimes called secondary markets.
- Stock exchanges around the world facilitate access to shares in publicly listed companies. While an Australian-based company would generally list on the ASX, a company may be listed on multiple exchanges.
- Stockbrokers, online brokerages, and platforms are the only authorised agents/firms registered with an exchange. These middlemen can initiate purchases and sales via exchanges.
- Individual investors open a brokerage account with a stockbroker, an online brokerage or an online share trading platform to acquire or sell individual stocks in their portfolios.
Each exchange is similar to an online retail marketplace like eBay, where the price of items fluctuates depending on availability and the price people are willing to pay.
Important!
If a large number of investors want to buy a particular stock, but few people are selling, each share’s price is likely to rise in value because they are scarce but desirable.
Collectively, these global markets for trading stocks are called stock markets.
Finance types or news anchors might refer to ‘the stock market’ or ‘the market’ when describing changes or trends in share prices nationally, or across multiple exchanges, industries and geographies.
Did You Know?
Indexes like the S&P/ASX 200 provide a benchmark for the market’s performance. In the case of the ASX 200, by tracking the top 200 companies listed on the ASX based on their market capitalisation. A range of other indices exist to give investors a quick snapshot of different aspects of the market.
Shares Vs. Stocks Vs. Equities.
Stock is the more generalised term used to describe the overall ownership of a publicly-listed company, while a share is the most accurate way to describe the smallest, single unit of ownership in a specific company.
Most people invest in multiple shares across multiple companies, so the terms “stocks” and “shares” are used interchangeably to talk about company ownership.
Investing in a company can be described as having equity, so you might also hear shares called equities.
Did You Know?
Another investing term that can muddy the water is securities, which is a broader label for any tradable financial asset like stocks, bonds, options, futures, and derivatives.
What Does Being A Shareholder Mean?
Companies, institutions and individuals can all own a company’s stock by buying shares. Even owning one share makes you a shareholder.
Shareholders don’t own the company’s assets, and they’re not responsible for the company’s liabilities (e.g., debt), but they do gain several rights, including being able to:
- Vote for company directors, and on other big decisions at the annual general meeting (although few individual investors take up this opportunity).
- Be informed about the company’s operations and financials through access to reports.
- Receive a portion share of the company’s profits if it distributes dividends.
- Access future equity actions like share buybacks, new share issues or mergers.
While ‘ordinary’ shares are the most common type issued, companies can issue different kinds of shares with different rights attached.
For instance, preference shares (sometimes called hybrids) entitle holders to be paid ahead of ordinary shareholders.
Important!
Also, the number of shares available in the market can change. For example, a company might issue more shares to raise money, which can dilute the value of shares held by existing shareholders.
Why Do Ordinary Australians Invest In Shares?
Investing in shares of companies with the potential for growth and long-term positive results means you’ll benefit from any associated increases in share prices, plus receive a share of any profits distributed.
Returns on stock market investments fall into two main categories:
1. Capital Gains.
Essentially, the difference between what you paid for your shares and the price you can sell them for.
Important!
The value of the shares you hold (your capital) increases as share prices lift over time, but conversely, capital losses are possible if your shares lose market value.
Capital gains or losses are only realised when you choose to sell.
2. Dividends.
A discretionary payment distributed from a company’s profits as a way to reward shareholders, typically paid annually, at an amount proportional to the number of shares you hold.
Did You Know?
Not all companies pay dividends (e.g., Apple and Tesla famously don’t), and the amount paid varies.
Some people keep dividends as income, while others use company dividend reinvestment plans (DRP) to purchase more shares and keep growing their portfolio.
How Many Australians Invest In the Stock Market?
Investing in shares is a common wealth-generation tactic in Australia.
For both beginners and more experienced individual investors in Australia, directly owning shares in Australian companies listed on the ASX is the most popular investment outside of superannuation or owning their own home.
Did You Know?
In 2023, 58% of Australians directly held Australian shares. The next most popular stock market listed investment was exchange-traded funds (ETFs) at 20%, followed closely by direct ownership of international shares (16%).
Are Shares A Safe Form Of Investment?
There are no guarantees in investing and no perfectly safe way to get rich.
However, you can take some reassurance from the fact that investing in shares is a widely practiced approach.
Cash in the bank and government-issued bonds are considered low-risk investments, but the returns are usually lower than what you could reasonably expect from the share market when holding your investments long-term.
Did You Know?
Over a 20-30 year timeframe, the Australian share market has enjoyed strong returns in the 8-9% vicinity, despite intermittent ups and downs caused by events like the Global Financial Crisis (GFC) and the recent Covid-19 pandemic.
This begs the question: how risky are shares?
The main risk is that the value of the shares you hold will drop, rather than increase. This can happen when:
- The wider share market declines or crashes due to poor economic conditions, major disruptions and disasters, or panicked investors selling off their shares.
- Companies fail or fall from grace through underperformance, unsustainable debt, being ousted by a competitor, or reputational damage from unethical or non-compliant operations.
Markets can be volatile, and backing the wrong companies can turn out badly.
Living with some level of variability in share prices is something that most investors are comfortable with, but it depends on your risk tolerance.
Why Do Investors Diversify Their Portfolios?
Diversification is a core tenet of a good investment portfolio, because it spreads your risk. If one company or industry experiences a downturn, others may be unaffected or even buoyed.
A fund managed on your behalf by an investment firm might include anywhere from 20-200 different stocks, which would be adjusted by a dedicated expert.
Individual investors may have less experience and less time to handle a large collection of stocks bought directly.
Did You Know?
Affordably achieving diversification draws many investors to Exchange Traded Funds (ETFs) — which can be bought and sold via stock exchanges just like shares.
When you buy units of ETFs, you pool your money with others to gain exposure to a collection of assets, like shares within an index or focused on a specific industry.
- The key difference from directly buying stocks is that you don’t own the shares in the ETF. The ETF provider holds the underlying assets.
- ETFs are simpler because you get a stake in multiple stocks with one trade, which can lower your brokerage costs. Note that ETFs do charge an annual management fee.
- You still benefit from any capital growth of shares’ value (the ETF units you hold will be worth more on the market) and still receive a portion of any dividends paid
How Much Does Investing In Shares Cost?
First, remember that most brokers (e.g., Selfwealth and eToro) require you to buy at least $500 worth of shares when purchasing for the first time.
Did You Know?
Most low-cost stock brokerages like Moomoo and Webull have no minimum deposit requirements.
Remember, each trade will come with transaction costs.
Some brokers have very simple fee structures (e.g., Selfwealth charges $9.5 commission per trade – that’s it), while others are very convoluted (e.g., Interactive Brokers has a tiered fee structure, and it varies depending on the asset you’re buying).
We recommend you get a feel for different brokerage fees by reading our guide to the best stock trading apps.
Important!
To make investing in shares worthwhile, you need to make returns that exceed the cost of your investments.
How To Choose Which Shares To Invest In?
If you want to buy individual shares in a company directly, you’ll need to assess its market value and decide whether you think it will thrive in the future.
Successful investors start by getting an in-depth knowledge of how the company operates, its financial performance, and its strategic growth plans.
They contrast this know-how to broader economic conditions, industry trends, and challenges that could impact the company and review its major competitors and their performance.
They pay specific attention to the following core metrics.
1. Market Capitalisation.
It offers a sense of how the company is valued based on equity, which is different from its value based on its balance sheet.
Market cap is calculated by multiplying the current share price by the total number of shares on issue.
Important!
Obviously, a large market cap is usually related to a company’s size and success.
However, regardless of how profitable the company currently is, demand for its shares among investors can boost its share price, raising the stock’s overall value in the market.
2. Historical Share Price.
Has the share price been steadily rising or declining over time? A downward trend could indicate the company poses a higher risk.
A rapid rise in share value might indicate high levels of speculative buying (e.g., not based on the company’s inherent value and potential), which can create bubbles that eventually burst.
3. Dividend Yield.
If income is a driver for the investor, they’ll review the stock’s dividend yield to see if it’s both attractive and appears to be sustainable.
Important!
Exceptionally high dividend yields can arise because a stock’s share price has depreciated (because the yield percentage reflects the annual dividend divided by the current stock price).
This might indicate that a company is in decline and will not be able to distribute profits in the future.
4. Price-To-Earnings Ratio.
In addition to the actual price of each share or unit in a fund, investors consider its price-to-earnings ratio (P/E).
P/E ratio reveals roughly how much was paid for each dollar returned, based on dividing the share price by the previous year’s earnings per share (EPS).
Important!
P/E ratios are a useful guide to a share’s price relative to earnings. This can help investors decide if shares look cheap or expensive. However, remember that while a higher earnings multiple could indicate a stock is overvalued, it also shows that other investors have been willing to buy the stock because they see potential in it.
What Investors Do Before They Invest Money.
The difference between experienced and beginner investors is preparation.
While beginners tend to act impulsively and think short-term, experienced investors start by understanding their investment goals and building an investment strategy that helps them achieve them.
Experienced investors:
1. Know Their Financial Position.
This includes cash flow and budget for spending and saving.
They know how much they can put towards investments without impacting their financial health.
Important!
Any money invested is at risk.
2. Clarify Their Financial Goals.
Both short and long-term.
The big one is retirement, but other goals can include getting married, buying a home or a new car, becoming a parent, starting a business, returning to study, and taking a major holiday.
Did You Know?
Best financial goals are specific and measurable. For example, “I want to retire with $50,000 of annual cash flow from my Australian stock market investments.”
3. Estimate The Rate Of Return.
Experienced investors know which investment choices can help them reach their financial.
Importantly, they sense-test it against the level of risk they’re prepared to accept, and the kind of returns different investment types have historically been capable of delivering.
Where there’s a mismatch, they adjust their investment strategy or expectations.
4. Determine Asset Allocation.
In other words, which types of assets belong in the investment portfolio, and what share of the portfolio should they take up?
Shares typically form a significant part of the average Australian’s portfolio, balanced by a portion of other assets such as bonds, cash (term deposits), real estate, commodities like gold and silver, and increasingly, cryptocurrencies.
Once the investors know how much they’re willing to commit to shares, they decide on the ideal mix.
For example:
- Conservative investors looking for stable returns might choose shares in established large and mid-cap companies (e.g. so-called blue-chip shares).
- People closer to retirement sometimes leverage their capital to gain passive income by skewing towards dividend-paying shares or ETFs.
- Those with a shorter timeline for achieving returns — who are prepared to accept more risk — sometimes favour growth stocks with potentially higher returns.
- Eco-conscious or ethical investors might avoid companies in fossil fuel industries, or screen shares based on companies’ commitment to ESG principles.
Final Words On Stock Market Investing.
Learning about investing is a lifelong process. We suggest you learn as much as possible about the stock market before you start investing.
When you’re prepared and purposeful, you’re more likely to make wise choices. Even Warren Buffet, despite his wealth of experience, still spends most of his days reading.
Learning never stops.
Finally, consider obtaining investment advice from a professional financial advisor. This article is written for entertainment and informational purpose only – it doesn’t take your personal financial situation into account.
Jody
Nelson says:
I attempted to use the “hack” to dodge conversion fees, but sadly after converting AUD to USD on a Wise account, there doesn’t seem to be a way to deposit that money into eToro; i.e. eToro recently disabled Wire transfers and Wise doesn’t support SWIFT transfers for sending USD to a bank in the US?
John Keys says:
CMC Invest are an abysmal in turning around new accounts.
Over 1 month to setup up an account with an investment trust, and still waiting. I was promised 5 business days.
Reg Watson says:
Given that China’s economy is going down the toilet how the heck do we expect an appreciation of the Aussie in 2024 ? We are tied to China.