What is a stock exchange?

Definition and meaning: what is a stock exchange?

A stock exchange is a centralised location where the shares of publicly traded companies are bought and sold. It’s important to note that the stock exchange differs from other markets where securities are bought and sold, because the tradable assets are limited to shares, bonds and other financial instruments like exchange traded funds (ETFs).

Sellers of stocks initially comprise of companies that apply to list on an exchange for the purpose of raising capital. They'd do this, if their application is successful, by selling shares to interested institutional and retail investors via an initial public offering (IPO), special purpose acquisition company (SPAC), or through a direct listing.

After this, the stocks can be freely bought and sold on the exchange. Then, if you want to take ownership of the company shares, the stock exchange is where the equity will be listed. It’s important to note that the company stocks are not sold by the exchange, though the sale is facilitated there.

Some of the most popular exchanges in the world include the New York Stock Exchange (NYSE), the NASDAQ, and the Tokyo Stock Exchange (JPX). Other well-known stock exchanges include the London Stock Exchange (LSE), the Shanghai Stock Exchange (SSE) and the Bombay Stock Exchange (BSE).

How are share prices on stock exchanges set?

The stock exchange mirrors the marketplace where the supply and demand of shares determines the price. The seller of the stock will present the initial value and – like in an auction – there’ll be bids from buyers for the shares until they settle on the price.

The initial share price is set based on various factors, like the company’s expected long-term earning potential, which can attract or repel buyers. Over time, the performance of the company (tracked over four quarters of a fiscal year) can increase the price, especially when there’s a high demand. Conversely, poor performances will have an adverse effect, in which investors could opt to sell their stock.

While internal events in the company can impact the share price (like changes in management, quarterly performances, etc.), external changes in the market can also influence the value of the stock. For example, political and economic events can restrict or improve the company’s potential to meet its expected returns, which can impact the share price.

How is a stock exchange different to the stock market?

The stock exchange is a physical infrastructure – although accessible digitally – that enables buyers and sellers of shares to meet in a common place where their transactions can be regulated.

The stock market, on the other hand, is an all-encompassing term that refers to the non-physical place where financial transactions of listed companies take place. The transactions performed in the stock market are conducted through an exchange or over-the-counter (OTC) marketplace.

The two terms may be used interchangeably; however, they represent two different things. The stock market functions as a result of the existence of stock exchanges. Investors can track real-time pricing information from the stock exchange, then decide to buy or sell the shares in the market.

Stock exchanges vs over the counter (OTC) trading

Over-the-counter or OTC trading refers to the buying and selling of securities that’s not conducted on a formal exchange venue or platform. Instead, it’s a decentralised market, where most trades are performed between two parties (the buyer and seller) and are often handled via a dealer network.

Unlike exchange-based trading, OTC trades are less regulated, which creates a range of opportunities – but also some risks, which you need to bear in mind.

The main difference between using a stock exchange and OTC methods of trading is that, on an exchange, transactions are mediated rather than taking place directly between two parties. This means that there are stricter regulations imposed on investors and speculators, as well as on the companies listed.

There are different ways that institutions get listed on an exchange, either via a Special Acquisition Purpose Company (SPAC) merger, an Initial Public Offering (IPO) or direct listing.

How to trade on a stock exchange

With over 12,000 shares available, you can take a position on popular stocks and ETFs via CFDs. We’ve compiled a comprehensive guide that features a list of steps to get you started:

1. Research your preferred market
2. Open an account or practise on a free demo
3. Select your opportunity
4. Set your position size and manage your risk
5. Place your deal and monitor your position

Trade stocks and ETFs with CFDs

With CFD trading, you’ll get exposure to an underlying asset without taking ownership of it. Instead, you’ll speculate on its price rising and falling. You’ll buy contracts agreeing to exchange the difference in the price of an asset from the point at which the contract is opened to when it is closed.

Using CFDs, you’ll trade on leverage, where you’ll need at least 20% of the full value size as your deposit to open a position.

You should remember that leverage trading will amplify your risk, as both your profits and losses will be calculated based on the full size of your trade, not the deposit you used to open the position. Therefore, it’s important to take steps to manage your risk.

Trading with CFDs enables you to hedge your trades so that you don’t miss an opportunity when the market moves against your initial position.

Pros and cons of stock exchanges

Before you get started trading or investing via the stock exchange, you need to consider the pros and cons of choosing this avenue:

Pros of stocks exchange

• You can get exposure to company stock via an exchange by buying shares to have equity ownership and earn dividends if the company grants them
• Several companies want to be listed on a stock exchange. A listing comes with a certain level of recognition and prestige. While there are many stock exchanges worldwide, the older ones like Amsterdam, London, and New York stock exchanges hold a certain esteem among the public
• The stock exchange is a heavily regulated entity, which lessens the risk for traders of counterparty default in comparison to OTC trading
• People who don’t have sufficient experience trading on the stock exchange can use the assistance of an online brokerage firm to gain exposure to company shares

Cons of stock exchanges

• Getting a company listed on a stock exchange typically takes time and money to complete. Once the company is listed on the stock exchange, it has responsibilities towards shareholders
• There’s no guarantee of stability when trading on the stock exchange. Every company stock can be positively or negatively impacted by market volatility as a result of political or economic events around the world
• While occurrences of the stock exchange crashing are few and far between, previous experiences of this event happening have had an impact on the value of stocks
• Like any investment, there’s risk of losing your capital if the company performs poorly. The sequence of events will include investors selling their stake in the company and the stock price will drop

Stock exchanges summed up

• The stock exchange is a physical venue (although available online as well) where buyers and sellers can meet to trade publicly listed company shares
• The share price of companies listed on the stock exchange is determined by how much the seller values them, the demand from buyers of the stock, the performance of the company and market conditions
• The stock exchange is infrastructure where listed company shares are bought or sold while the stock market represents the transactions of securities that take place in exchanges
• OTC trading involves transactions between two parties, the buyer and seller which differs from getting exposure to company shares through a centralised and regulated stock exchange
• You can get exposure to shares of publicly listed companies on the stock exchange by trading CFDs with us