Functions of the Stock Exchange
There are stock exchanges in almost every major city in the world, but perhaps the most important ones are in New York, London, and Tokyo. Stock exchanges are markets where securities – shares and bonds, and also options and foreign exchange-are traded. Therefore, what happens on the exchange is crucial to the economy. It is the stock exchange where funds to finance companies and government projects can be found, where surplus monies can be invested, where the standing of companies can be evaluated, and where people can either limit their financial risks or lose or gain money by speculation.
This element of speculation has resulted in criticism from people who liken stock exchange operations to gambling; in both ventures you can gain or lose vast fortunes without much effort. But whereas in a gambling casino it is mere chance that determines the winning numbers – and ultimately it will be the owners of the casino who will reap a safe and handsome profit – on the stock exchange it is economic forces that work. Here too the distribution and redistribution of the gains have their role and function in the economy. Without stock exchanges, capitalism could not function efficiently.
People buy securities because they want to make a profit. Speculators who hope that the price of stocks and shares will rise and therefore buy them in large quantities in order to sell them later at a higher price are called bulls, and a market in this general mood is called bullish. Speculators who sell their securities in the belief that their price is about to fall are called bears, and a market is bearish when most people want to sell their securities. A speculator who wants to make a profit when he excepts a fall in prices will sell stocks at today’s price for delivery at a later date. He will sell the stocks short, which means he does not own them now, but he hopes he can get them at a lower price when the has to deliver them. The difference between today’s price and the lower price in the future is his profit. Shares bought at an agreed price but delivered and paid for later are called futures, and dealing in different financial futures (not only shares) is an important stock market operation.
Whereas in a futures market the obligation to deliver securities at some future date at a fixed price is bought and sold, buying an option means buying the right to buy or sell at a given price within a given period of time. An option to buy is a call option, and an option to sell is a put option. When a speculator thinks that the price of a security is about to go up, he will buy a call option. If – as he has expected – the price has gone up before the expiry date of the option, he will exercise the option, buy the security at a cheaper price than the current value, and thus make a profit. If the price, however, has fallen, there is no sense in buying the securities. This way he will only lose the option money (premium).
The volume and price of the securities traded on the stock exchange are important indicators of the economy. Price fluctuations reflect market expectations about the performance of the economy, though, of course, sudden changes in stock prices can be caused by the speculative character of the market. A coup in South America, an uprising in Africa, or even the illness of a president may send prices soaring or falling. The most widely quoted indicator of the US stock market is the Dow Jones Industrial Average, which covers the shares of 30 well established companies on the New York Stock Exchange. The FT (Financial Times) index is the London Stock Exchange indicator, and the Nikkei index reflects the mood of the Tokyo exchange.
Participants of the Stock Exchange are individuals and institutional investors (those who collect and invest savings of many others: insurance companies, pension and union funds, unit trusts)
Only Member Firms of Stock Exchange are allowed to take part in dealing on the Exchange floor and outsiders must carry out their buying and selling through them.
The Member Firms are called brokers or dealers and some of these specialise as what are known as Market Makers.
- Broker/Dealers: they buy and sell shares as agents for public investors.
- Market Maker: A dealer who buys and sells shares of any kind on his own account and not as a broker who buys and sells for other persons.
Control: The Stock Exchange Council is elected by the members of the S. E. Functions:
1. It controls the admission of new Members.
2. It disciplines Members who are guilty of misconduct.
3. It formulates the Stock Exchange rules.
4. It settles disputes between Members.
5. It provides settlement and information services to Members.