Table of Contents
Chapter 1: Introduction to Trading Stocks
Chapter 2: Different Categories of Stocks
Chapter 3: Functioning of The Stock Market
Chapter 4: Stock Market and Price Movements
Chapter 5: How to Buy Stocks
Chapter 6: Choosing Your Investment Strategy
Navigate This Page
Chapter 5: How to Buy Stocks
– Primary and Secondary Markets
– Stock Trading Account
– Selecting a Broker
– Direct Investment
– Mutual Funds
As mentioned earlier, you cannot just walk into the NYSE to buy or sell your shares. You need a broker to carry out the transaction for you. But before you contact a broker, there are a few things you need to understand.
You can buy stocks either through the primary or the secondary market. Stocks in the primary market are those which are part of an IPO. You can buy the shares directly from the company in an IPO issue. When you need to sell these shares, you find buyers in the secondary market. Any share transaction which is not a public offering from a company is conducted in the secondary market. Most of the daily trading volumes come from this market.
You will need a stock trading account to conduct any kind of transaction in the stock market. The days of having physical share certificates printed on paper are gone and today shares are held in an electronic format. This makes it easy to access these shares when you need to sell them. Your broker will be able to guide you through the basic steps you need to follow to start trading. He will also set up the stock trading account for you.
You can go with one of many different kinds of brokers to trade in the stock market. Each comes with its own package of services and benefits. Before you choose a broker, assess your own knowledge about the markets, your expertise in gauging trends, and how familiar you are with investing. Your skill level will be an important factor in determining the services that you’ll need from your broker. You will need to compensate for your lack of expertise or knowledge by finding a broker who can fill in these gaps. Here is an overview of the different kinds of brokers you can use and the service they offer.
a. Discount brokers
These brokers are the most inexpensive you can find and offer a ‘no frills’ service. If all you need is a broker to handle the technicalities involved with the actual placing of an order and completing it, which you cannot do yourself, then discount brokers are your best option.
You will need to use your own judgment and expertise in making your investment decisions and only leave the processing part to these brokers. Such a broker will not be able to offer any investment advice or track any of your investments with a view to maximizing your returns. For the knowledgeable, self sufficient investor, a discount broker, with his low brokerage rates, is an adequate and cost effective option.
b. Full Service Brokers
As the name suggests these brokers provide a gamut of services to investors. An amateur investor can get expert advice, market tips and portfolio guidance from his full service broker. These brokers offer customized investment guidance to meet the client’s goals, like retirement planning. In this way, full service brokers act as financial advisors to some extent.
Even market savvy financial wizards use full service brokers. For such investors, the broker helps in maintaining a strong portfolio and keeps track of the various investments. Keeping up to date with several investments is a time consuming and tedious task. A full service broker takes care of this activity to help investors who cannot devote a lot of time to maintaining their portfolio. The broker gets a higher commission for providing these services.
Online brokers: These brokers service clients through internet transactions, eliminating the need to go to an office or to make phone calls to place an order. Nowadays, many discount brokers offer their services online and thus can be classified as both online and discount brokers. Their commissions are as low as those of discount brokers. Investors also get increased control over their portfolio and transactions with an online broker. The simplicity, ease and speed with which transactions can be carried out make these brokers very popular.
Another option to invest in the stocks of a company is through Dividend Reinvestment Plans or DRIPs. Existing investors in a company can opt for converting their dividend into new stocks rather than getting a cash payout. Investors can even purchase fractional shares in proportion to the dividend they qualify for based on their existing shareholding.
The biggest advantage of this kind of investing is that you can enhance your investment in the company at the lowest possible cost. DRIPs come commission free because you are buying directly from the company rather than routing the deal through a broker. The stock price is also usually discounted as a reward to loyal share holders. This means that you can buy more shares with a DRIP option than you can buy in the secondary market with the same investment amount.
The company benefits from offering DRIPs because they are an easy means of raising capital in a way similar to a public offering. When potential shareholders buy shares in the secondary market, the company does not get any of that money. A DRIP is a good way to reward loyalty and gain some additional capital in the process.
With mutual funds, you can invest in stocks without making a direct purchase. You invest in a mutual fund company, in return of which you get some share of that fund. The fund manager decides on which investments to make, when to buy and when to sell. The profit earned by the fund is then distributed as dividend to investors. This can turn out to be a safer form of investing as an expert will be making the investment decisions for you.
Next Chapter: Choosing Your Investment Strategy