How the Stock Market Works

The stock market for beginners is easiest to understand as two separate things. First, a way for companies to raise money by selling slices of ownership. Second, a place where those slices change hands between investors afterwards. Almost everything you will see on a price screen belongs to the second part.

What a share actually is

A share is a unit of ownership in a company. Owning one gives you a proportional claim on the company's profits and assets, usually a vote at shareholder meetings and, if the board decides to pay them, dividends. If the company grows its profits over time, the value of that claim tends to grow too. If it fails, shareholders are last in line after lenders and suppliers, and can lose everything they put in.

This link to real profits is what separates a share from most other things that trade on a screen. A share's price can swing wildly in the short run, but over long periods it tends to be pulled toward what investors think the underlying business will earn.

Primary and secondary markets

When a company first sells shares to the public, in an initial public offering, the money goes to the company. That is the primary market. After that, shares trade between investors on an exchange, and the company receives nothing from those trades. That is the secondary market, and it is what people usually mean by "the stock market". Its job is to give investors a fair price and the ability to sell when they want to.

Exchanges and their hours

Each exchange runs a central order book during a fixed session on weekdays, closed at weekends and on local public holidays. Session length varies considerably:

Outside these hours the price of a listed share effectively pauses. News that arrives overnight shows up at the next open, sometimes as a gap. Many brokers offer limited pre-market or after-hours trading on US shares, with thinner liquidity and wider spreads.

Brokers, custody and settlement

Individuals do not deal directly with an exchange. A licensed broker places the order and, in most cases, holds the shares on your behalf in a nominee account that is legally separate from the broker's own assets. If a regulated broker fails, those segregated assets should be returned to clients, and in many countries a compensation scheme covers shortfalls up to a limit. That protection covers the failure of the firm, not a fall in share prices.

Settlement, the moment cash and shares actually change hands, happens after the trade. US equities have settled on T+1, one business day later, since May 2024.

US rules for frequent traders also changed in 2026. The pattern day trader requirement of $25,000 was replaced by an intraday margin framework after the SEC approved FINRA's new rule on 14 April 2026, with effect from 4 June 2026. Long-term investors who buy and hold are rarely affected.

Placing an order

Buying a share takes a few seconds on a broker's app, but several choices sit behind the button. A market order buys at the best price currently offered; for large, heavily traded companies during normal hours, that is usually close to the last price shown. A limit order sets the maximum you will pay, which protects you in thinly traded shares or at the volatile open, at the risk of not being filled. Orders can usually be set to expire at the end of the day or stay open until cancelled.

The bid-ask spread is small on the largest companies and can be surprisingly wide on smaller ones. It is a real cost even when a broker charges no commission.

How shareholders earn a return

There are two sources. Dividends are cash payments from profits. A share priced at £25 that pays £1 a year has a dividend yield of 4%. Capital growth is the rise in the share price as the company's expected earnings grow. Some companies pay generous dividends and grow slowly; others pay nothing and reinvest everything. Neither is guaranteed, and dividends can be cut.

For long-term investors, reinvesting dividends matters a great deal, because each payment buys more shares that then earn their own dividends.

What a share price reflects

Analysts often start with earnings per share: the company's profit divided by the number of shares. The price-to-earnings ratio (P/E) compares the share price with that figure. A share at $150 with earnings of $6 per share trades on a P/E of 25, meaning investors are paying 25 years of current profits. A high ratio usually signals expectations of strong growth; a low one can mean the market expects trouble, or has overlooked something. Neither is a buy or sell signal on its own.

Prices also move with interest rates. When safe investments such as government bonds pay more, investors demand a higher expected return from shares, which tends to lower the price they will pay for a given stream of profits.

Indices and funds

An index tracks a basket of shares to show how a market is doing. The S&P 500 covers around 500 large US companies weighted by float-adjusted market value. The Dow Jones Industrial Average holds just 30 companies weighted by share price. The FTSE 100 covers the largest companies listed in London, and the DAX 40 companies in Frankfurt.

An index fund or exchange-traded fund (ETF) buys every share in an index, or a representative sample. One purchase then spreads your money across dozens or hundreds of businesses, so the failure of any one of them has a limited effect. For many long-term investors this is the simplest way into the stock market.

Costs, taxes and tax wrappers

Costs include broker commissions, the bid-ask spread, currency conversion fees on overseas shares, account or platform fees and, in some countries, a tax on purchases. UK share purchases, for example, usually carry 0.5% stamp duty. Our guide to trading fees goes through each one.

Tax wrappers can shelter returns. In the UK, adults can invest up to £20,000 a year across their ISAs in the 2026/27 tax year, and gains and income inside an ISA are tax-free. Other countries have their own schemes; check the rules where you live.

The risks worth planning for

• Volatility. Broad markets have fallen sharply many times and taken years to recover. Money you may need within a few years is exposed to that.
• Concentration. A handful of individual companies can underperform for a very long time or fail outright.
• Currency. Overseas shares carry exchange-rate risk on top of company risk; see our forex guide.
• Leverage. Share CFDs are capped at 5:1 for UK and EU retail clients, but even that multiplies losses fivefold.
• Behaviour. Selling after a fall and buying after a rise is the most common way investors turn market swings into permanent losses.

Illustrative example. Buying 40 shares at $150 costs $6,000 before fees. A 20% fall takes the holding to $4,800; recovering to $6,000 then needs a 25% rise. That asymmetry is one reason diversification and patience matter.

Sources

• US Securities and Exchange Commission, T+1 settlement cycle
• FINRA and SEC, 2026 replacement of the pattern day trader rule
• HM Revenue and Customs, Stamp Duty Reserve Tax and ISA allowances
• Exchange trading-hours pages: NYSE, LSE, Deutsche Börse, JPX, HKEX, ASX, NSE