The Stock Exchange is a place where Investors come together to trade stocks. The trade of stocks is not done directly between buyers and sellers but via Brokerages who are members of the stock exchange.
Since millions of dollars change hands through stock exchanges each day, they remain one of the most regulated industries in the United States.
The Stock Market is made up of many Stock Exchanges with The New York Stock Exchange (NYSE) and The National Association of Securities Dealers Automated Quotations (NASDAQ) being two of the biggest and most popular ones.
While, in the past, Stock Exchanges used to be a physical location where every transaction happened on paper, with time, all stock exchanges turned electronic and became interconnected allowing the Stock Market to function as a single unit.
Since specific stocks are listed on specific exchanges and with trades concentrated in one place, a Stock Exchange can track the supply and demand of a stock determining it's price in real-time. Along with the price, Investors use media reports, the news, and lots of other factors to make purchase or sell decisions.
A Stock Exchange is a SUBSET of the Stock Market
When you hear a newscaster use the word Market on the news - they are referring to 'the entire market' as one entity when in fact, it's made up multiple different stock exchanges.
While people use the word market loosely, remember that references to the market treat the entire set of stock exchanges as one entity when in fact, there are several stock exchanges in most developed countries.
Other Functions of a Stock Exchange
Avenue to Raise Capital for growing companies- While companies have other avenues to raise funds for growth and expansion, the Stock Exchange remains one of the primary sources of funds for companies that seek large amounts of capital. Companies that meet certain requirements may qualify for raising capital from the public by selling their shares. This process is called an Initial Public Offering or an IPO and you can learn more about it by clicking here.
Liquid and Transparent Market for Investors- The strict rules and regulations imposed by the government with regards to companies listed on the Stock Exchange to submit Quarterly (Form 10-Q) and Annual Financial Statements (Form 10-K) allows a layer of transparency which is not available with many other investments.
Also, due to the high volume of trading in Stock Exchanges, Investors with limited capital and short term time horizons can step in and out of the market and be assured that their investments can be converted into cash whenever they want.
Economic and Forecasting Barometer- A strong earnings season for publicly traded companies is accompanied by a subsequent rise in stock prices. Stock prices also fall when companies post losses in relatively poor economic conditions. As such, a stock exchange provides a reliable barometer to measure economic health and activity in a country.
Also, if a multitude of companies in a sector post improved (or declining earnings) it may be a sign of things to come and subsequent improvements (or declines) may be seen in the countries macro economic data.
How do stock exchanges make money?
Stock exchanges run to make a profit. As such, their goal is to make money.
While Stock Exchanges have multiple ways to earn income, the most popular ones are
1. Companies pay Listing Fees - Exchanges earn revenue from the listing fee charged to companies during the IPO process and other follow-on offerings.
2. Investors pay Transaction Fees - The most consistent source of income for stock exchanges are revenues from transaction fees (fees per trade) that are charged for each trade carried out on their platform.
3. Users pay Service Fees -
a) To access market data- With active investors and the advent of high-frequency trading, real-time data has become a valuable commodity. When you watch the price of a stock or index change on a website, on a charting software from your broker or on the news, exchanges are making money behind the scenes.
b) Technology Fees- The exchange also makes profits by licensing their indexes and methodology which are commonly used as a benchmark for launching various products like Mutual Funds and Exchange Traded Funds.
4. Membership Fees- Stock Exchanges like the NYSE and the AMEX are private associations that sell memberships, or seats, permitting brokers to trade on the exchange.
5. Other Income-
a) Many exchanges provide courses and certification on various financial topics and earn revenues from such subscriptions.
b) Exchanges charge a fee to switch from one exchange to the next.
There are stock markets everywhere, but the NYSE is the big kahuna.
It's been around since 1792 when 24 stockbrokers put on their finest short-pants and top hats and got together under a buttonwood tree on Wall Street in New York City.
Today, its where shares in big traditional companies like IBM and GE are traded.
The NYSE is often recognized by its physical location and takes full advantage of the latest technology to maximize the efficiency and volume of their trading.
Stock Exchanges are a business and like any business, they have competitors.
The NASDAQ is considered the closest rival to the NYSE competing for the most recognized and valuable of companies.
It was formed in 1971 and doesn't have a physical location as all trading on the NASDAQ happens electronically.
That's where you find tech companies like Apple, Microsoft, and Facebook.
NASDAQ is much more than a stock exchange. It’s also a publicly-traded company, listed on its own exchange.
Unlike the NYSE, the NASDAQ has no central trading location and exchange floor.
Being a stock exchange is a competitive space.
Like any Business, Exchanges need to manage and diversify their offerings to keep pace with market developments.
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