NEW YORK — Wall Street's Crash of 1987 has given the public a graphic view of the stock market, with television footage of harried traders in New York, Los Angeles, Chicago and elsewhere. Here's a primer on how the market works, where it originated, why it exists, why it matters and other basic questions:
Q: Why should I care about the stock market if I don't own any stocks? A: Many people are affected by the price movement of stocks without realizing it. Your insurance premiums may be affected by your insurance company's gains or losses from its large stock portfolio, for example. Many more people than in the past now are members of stock ownership plans sponsored by their employers. These plans have gained great popularity since 1982, when the bull market began. Brokerages have also attracted into the stock market billions of dollars of money in individual retirement accounts, or IRAs, often through mutual funds that own stocks on behalf of their customers. So the assets of millions of Americans are tied up in the stock market.
Moreover, the level of the stock market can affect the decisions that individuals and companies make about their own spending. Following Monday's crash, many individuals may defer their spending on homes, cars, even Christmas presents. So home builders, auto manufacturers and department stores may suffer, perhaps laying off employees, restricting raises and putting off investments in new factories and the543387502In this way, the impact of the market ripples through the entire economy.
Q: Is there only one stock market? A: In this country, there are actually three major stock markets and several regional stock markets. The largest is the New York Stock Exchange, at Wall and Broad streets in Manhattan, where the stocks of about 1,575 U.S. and foreign corporations are traded. The dollar value of these trades reached a record $1.4 trillion last year. This year, it is certain to be even higher.
Stocks of smaller companies are traded a few blocks away at the American Stock Exchange. And stocks of even smaller enterprises are traded in what is known as the over-the-counter market operated by the National Assn. of Securities Dealers. Unlike the NYSE and the Amex, the over-the-counter market is not run out of a single building where brokers meet to arrange stock trades. Instead, trades are arranged over a telephone network connecting thousands of individual stockbrokers.
Stocks are also traded on the Pacific Stock Exchange, with operations in Los Angeles and San Francisco, and on the Boston and Philadelphia stock exchanges. These markets function like the New York and American exchanges--in fact trading many of the same stocks--but they are much smaller.
Q: How did the New York Stock Exchange begin? A: In 1792, a small group of brokers began to meet regularly by a buttonwood tree on Wall Street, arranging trades of stock in the country's fledgling businesses. That May, the brokers organized themselves into a guild that would become the New York Stock Exchange. The 24 individuals and partnerships that signed the so-called Buttonwood Agreement established a
fixed rate of commissions and a system of giving each other preference in their trading. Since then, the exclusivity of the exchange has often been challenged and its franchise eroded (fixed commissions were outlawed in 1975), but it remains the most powerful trading organization in the finance world.
Q: What does a share of stock actually represent? A: Theoretically, a stockholder owns a portion of a company's equity, or that part of the company's net worth not pledged to banks and other lenders. Generally, this gives the shareholder a right to a piece of any company profits, a portion of which may be distributed to holders every three months in the form of dividends, most often in cash. Because annual dividends customarily amount to only a tiny percentage of the purchase price of the stock, most stockholders really expect to make more money by a rise in value of the stock on the exchange. This is known as a "capital gain." The expectations of millions of stockholders that these gains would indefinitely continue their rise of the last five years were dashed by Monday's crash.
Q: What determines a stock's price or value? A: The price of a company's stock is based on the most recent trade of each of its shares on an exchange; the price of each trade is immediately transmitted to the exchange's computers for moment-by-moment updates. Thus, if you bought a share of IBM for $120 several months ago, its current price may be only $105 because that is the level at which a block of its shares was purchased earlier Thursday. In the same way, if you bought your house for $80,000 three years ago, its price now might be affected by the $100,000 your next-door neighbor got for an identical home last week.