Stock Exchange

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Definition of a Stock Exchange:

A stock exchange is where stocks and bonds are traded.

Detailed Explanation:

Stock exchanges provide the vital role of bringing buyers and sellers together to purchase stocks and bonds. Liquidity is enhanced by increasing the number of buyers and providing a means of quickly converting shares of ownership into cash. Without the stock exchange, stocks and bonds would be illiquid because companies would have trouble finding an investor to purchase any given shares. Potential investors would be reluctant to invest if they had to hunt for buyers whenever they wanted to sell shares. Trading shares on an exchange promotes economic efficiency by increasing the number of buyers and sellers. The law of supply and demand determines stock prices. An interested buyer puts in a bid, while a seller provides an asking price. Rarely is there a large difference between the bid and ask prices because of the large pool of buyers and sellers. 

Stock exchanges channel savings into investments. Most investors would not be able or willing to invest their money in massive amounts, so a company’s ownership interest is broken into smaller pieces called “shares." This enables a person to invest a few hundred dollars for a very small ownership interest in the world’s largest companies, like Exxon Mobil. By facilitating the transfer of money from savings into productive investments, the stock exchanges play a vital role in financing economic growth. 

Stock exchanges are vitally important in maintaining the stability of a nation's economy through issuing IPOs in the primary market. An initial public offering(IPO) is the first time a financial security is sold directly to the public. IPOs take place in the primary market. It is in the primary market that companies and governments (federal and municipal) raise capital by selling stock or bonds. Later, these investors sell their securities in the secondary market. The primary market is used to raise capital, while the secondary market assures the liquidity of the securities by enabling shareholders to quickly convert shares to cash. 

The overall performance of a stock exchange, or stock market, is measured by a market index. Often, stocks move together. When the economy is prosperous, most stock values tend to increase. This is called a bull market. A bear market occurs when pessimists rule and most stock prices are falling. The Dow Jones Industrial Average (DJIA) is the most frequently published market index. This index is a weighted average of stocks of the 30 largest companies listed on the exchange. The purpose of an index is to provide investors with a quick idea of how their investments are doing. Assume you are a busy investor. You do not have time to look at all of your investments every day, but indices are widely published and provide you with a quick way to see how most stocks have fared on a given day, or over a period of time. For example, if the DJIA is up, it is likely (but not guaranteed) that your stocks have also increased. A market index is also a great way to measure the performance of your portfolio against the market in general. If your portfolio under-performs the indices you should find out why and consider changing your investments.

To view the current performance of several of the world stock exchanges visit CNN Money.

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