Identification

• Corporations raise financing for themselves by selling shares of stock to investors at initial public offerings (IPOs). In exchange, investors are granted ownership rights above the underlying company. Although shareholders are owners, their asset claims are subordinate to bondholders and creditors. In the event of bankruptcy, lenders must be repaid first from asset liquidations. After the IPO, investors trade, or buy and sell shares, between themselves on the secondary market. The New York Stock Exchange and NASDAQ function as the main stock markets in the United States.
  
  

Features

• Individual share prices track corporate earnings. Share price values increase when annual reports, sales figures and favorable government legislation, such as tax cuts, support improved earnings power. Additionally, stocks react to prevailing interest rate levels. Traders prefer lower interest rates, which reduce borrowing costs for corporations. Lower interest rates also increase demand for stocks. At that point, savers are less likely to accept the relatively small returns offered on savings accounts and bonds. In the United States, the Federal Reserve Board manages interest rates through open market transactions, where it buys and sells U.S. treasuries to affect the money supply. Successful traders monitor current events and business news frequently as part of their decision making process.
  
  

Considerations

• Stock market indexes are averages that gauge economic performance. In the United States, the Dow Jones Industrial Average, Standard and Poor's 500 Index, and NASDAQ are the primary stock market indicators. The Dow Jones Industrial Average is an average of 30 large capitalization stocks. The Standard and Poor's 500 Index is composed of 500 large companies, while the NASDAQ predominately tracks the technology sector. Your portfolio of U.S. stocks is likely to be making money when all three major indexes post strong daily gains above 1 percent.
  
  

Strategy

• Trade stocks and build your asset allocation according to your risk profile. Younger savers and the independently wealthy can afford to take on more risk than middle-class retirees. Younger savers may prefer to invest larger amounts of money into small capitalization stocks. Small capitalization stocks identify companies valued at less than $2 billion, which offer large growth potential alongside increased risks of bankruptcy. Retirees, however, are typically better served to trade shares of more established companies. Large capitalization stocks often pay dividend income, which stabilizes the volatility of your returns.
  
  

Risks

• All stocks are exposed to systematic risks. Systematic risk refers to financial system collapse. At that point, banks refuse to make loans and panicked investors liquidate their holdings en masse. Stocks then crash, or fall dramatically in value. The Federal Reserve generally responds by lowering interest rates to encourage investors to recommit themselves to the stock market.