You’ve seen footage of people in suits at the stock exchange, looking at a black board with gazillions of numbers. Some are frantically making phone calls while others are shouting. That was the stock exchange of years ago. These days it all happens electronically, but what exactly are they exchanging?
A stock exchange, also called a stock market, is like any other market except that, instead of fruit and vegetables, shares (a small piece) in companies are sold.
Why would a company sell small pieces of itself?
For a company to grow and expand it needs capital (money). Companies can get capital by:
- Applying for a loan
- Using the profit they make and ploughing it back
- Convincing private investors to give them money
- Or listing on the stock exchange and getting money from the public.
Companies can access much larger amounts of capital by listing on a stock exchange than with the first three options.
Ata wants to know…
How did the stock exchange begin?
After gold was discovered in South Africa in 1886, many new mining and financial companies were established. The mining companies needed money to excavate and buy machinery, while many well-moneyed folks from Europe flocked here to make more money. They needed a central place to meet and trade. The first trading took place in a miner’s tent and then moved to the stables at the corner of Sauer and Commissioner Streets in Johannesburg. The Johannesburg Stock Exchange (JSE) was founded on
8 November 1887.
When a company lists on the stock exchange, it must issue shares in the company. Investors (individuals or organisations such as retirement funds) can buy shares and “own” a small part of the company – they are called shareholders. If the company performs well, the shareholders receive a percentage of the profit, which is called a dividend. This dividend is paid into the shareholder’s bank account or reinvested.
Shareholders can also vote on certain company matters at the company’s annual general meeting.
While the shareholder owns shares, the value of those shares can increase or decrease, creating the opportunity to profit when the share is sold at a price higher than what was paid.
Ata wants to know…
Are there other stock exchanges in South Africa?
Yes, the Cape Town Stock Exchange (CTSE), A2X Markets (A2X) and Equity Express Securities Exchange (EESE). The JSE is the largest stock exchange in Africa.
Two types of trading take place at the stock exchange:
- Companies raise capital by listing on the exchange and selling their shares to investors for the first time. In finance speak this is called an initial public offer (IPO) on the primary market.
- Once a company is listed on the stock exchange, investors buy and sell shares to make a profit. The company does not receive any money. This is called the secondary market.
Nomnikelo explains….
Thabo and Sesi start a company selling solar lights, called Ilanga Lights. For now, Ilanga Lights is a successful private company that is owned by only two individuals. Soon the business is growing rapidly, and they want to open many more shops, but they need money to buy buildings and stock and appoint more people. They decide to list Ilanga Lights on the JSE and sell shares in the company; the shares are sold at R100 each.
Ilanga Lights is now a public company with various “owners” or shareholders. Thabo and Sesi can’t just make decisions on their own, like in the old days. Certain decisions must be approved by their shareholders first.
As Ilanga Lights expands to the rest of Africa, the share price increases to R110. This makes the shareholders very happy as the value of their shares have increased by 10%.
For a company to be listed on the stock exchange it must meet certain requirements – this is to prove that the company is credible. These requirements differ between exchanges, but typically the company must be of a certain size and have a minimum number of shareholders (owners) already. The company pays a substantial fee to be listed.
Once the company is successfully listed, it continues paying yearly fees to the stock exchange and must meet another set of criteria. It is now a public company. So, certain of the company’s dealings should be public knowledge. The stock exchange ensures that companies file financial reports, are audited, and inform shareholders of significant new developments.
The stock exchange is supervised by a financial watchdog. In South Africa, our exchanges are regulated by the Financial Sector Conduct Authority (FSCA) and the Reserve Bank.
In return, the stock exchange offers a secure and transparent environment for investors, traders and companies to buy and sell shares.
Ata wants to know…
Why does a country need a stock exchange?
A stock exchange makes it possible for companies to raise the capital they need to expand and develop; to bring to life innovative ideas that will grow the economy and create jobs. Most importantly, it allows the public (you and me) to participate in the economy – it is a safe and convenient platform for you to invest your money to pay for your retirement one day.
Sources:
Listed equity investing
Investment Fundamentals I
smartaboutmoney.co.za
This article was funded by Fairtree Asset Management.
