How the stock markets work

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A stock market is a platform where investors come to trade in financial instruments like shares, bonds, and derivatives. The stock exchange works as a facilitator of this transaction and enables the buying and selling of shares.

Introduction to the Indian Stock Market

Stock markets are among the largest avenues for investments. There are primarily two stock exchanges in India, the Bombay Stock Exchange (BSE) and the National Stock Exchange (NSE). Companies list their shares for the first time on a stock exchange through an IPO. Investors may then trade in these shares through the secondary market.

The two stock exchanges in India have on some occasions witnessed stocks worth INR 6,00,000 crores being traded. The uninitiated in India often consider investing in stocks markets gambling, but a basic understanding of the share market can change that perception.

Regulation of the Indian Stock Markets

The regulation and supervision of the stock markets in India rest with the Securities and Exchange Board of India. SEBI was formed as an independent identity under the SEBI Act of 1992 and has the power to conduct inspections of the stock exchanges. The inspections review the operations of the market and the organizational structure along with aspects of administrative control.  The main role of SEBI includes:

  • Ensuring a fair and equitable market for investors to grow in
  • Compliance of the exchange organization, the system its practices in accordance with the rules framed under the Securities Contracts (Regulation) Act (SC(R) Act), 1956
  • Ensure implementation of the guidelines and directions issued by the SEBI
  • Check if the exchange has complied with all the conditions and has renewed the grants, if needed, under Section 4 of the SC(R) Act of 1956.

Types of Share Markets

There are two kinds of share markets namely the Primary and Secondary Markets.

Primary Share Market

It is in the primary market that companies register themselves to issue their shares and raise money. This process is also known as listing on the stock exchange. The purpose of entering into the primary market is to raise money and if the company is selling their shares for the very first time it is referred to as the Initial Public Offering (IPO). Through this process, the company becomes a public entity.

Secondary Market

The shares of a company are traded in the secondary market once the new securities are sold in the primary market. This way investors can exit by selling their shares. These transactions that take place in the secondary market are called trades. It involves the activity of investors buying from each other and selling amongst themselves at an agreed-upon price. A broker is an intermediary that facilitates these transactions.

How do the Share Markets work

Understanding the Stock Exchange Platform

A  stock exchange is precisely a platform that conducts the trading of financial instruments like stocks and derivatives. The activities on this platform are regulated by the Securities and Exchange Board of India. The participants have to register with SEBI and the stock exchange in order to conduct trades. Trading activities include brokering, issuing of shares by companies, etc.

Listing of the Company in the Secondary Market

The shares of a company are listed on the secondary market for the first time through an Initial Public Offer or IPO. The allotment of stocks takes place before listing and investors who bid for the stocks get their share depending on the number of investors.

Trading in the Secondary Market

Once the company has been listed, stocks can be traded in the secondary market by the investors. This is the marketplace for the buyers and sellers to transact and make profits or in some cases, losses.

Stock Brokers

Because of the magnitude of investors who number in the thousands, it is difficult to have them assemble at one location. Therefore, to conduct trade, stockbrokers and brokerage firms come into the picture.

These are entities that are registered with the Stock Exchange and serve as intermediaries between the investors and the exchange itself. When you place an order to buy any share at a given rate, the broker processes it at the exchange where there are multiple parties involved.

Passing of your order

Your buy order is passed on to the exchange by the broker, where it is matched for a sell order for the same. The exchange takes place when the seller and the buyer agree upon a price and finalize it; the order is then confirmed.

Settlement

Once you finalize a price, the exchange confirms the details to ensure that there is no default in the transaction. The exchange then facilitates the transfer of ownership of the shares which is known as Settlement. You receive a message once this takes place. The communication of this message involves multiple parties like the brokerage order department, the exchange floor traders, etc.

The settlement time earlier took weeks to materialize which now happens in T+2 days. This means that if you trade today, the shares are reflected in your Demat account in two working days time. Investing in the share market is subject to market risks. It is recommended you seek expert guidance before investing. Visit ClearTax to browse through our handpicked mutual funds and pick one based on your suitability.

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