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HOW DOES THE STOCK MARKET WORK

The stock market serves two main functions. The primary market function of the ASX is to facilitate a company’s raising of funds by issuing securities (shares) to investors. If a company wishes to set up a new business or expand its current business, it can raise money by issuing securities to investors. The secondary market function is where investors buy and sell shares on the stock market.

ITS

ITS (Integrated Trading System) is the ASX electronic trading system on which the buying and selling of shares takes place. ITS matches all buying and selling orders by price and when a buy order and sell order are matched, the trade occurs thus resulting in a trade. If two buy orders are at the same price, they are further sorted by the order in which they were entered in the system. Once a transaction takes place, money and shares are exchanged accordingly so that settlement takes place 3 days after the trade (known as T+3).

What are the All Ordinaries and ASX 200 indices?

Stock market indices are used to measure the movement of a certain chunk of the market. This enables one to get a broad idea of how the market is performing on the whole. Standard & Poor’s, an international credit ratings agency, calculates various indices on the ASX.

The All Ordinaries Index is for many the predominant measure of the overall performance of the Australian stock market at any given point in time. It is calculated using the share prices of the 500 largest companies listed on the ASX, with capitalisation being the only eligibility criterion. The only exception is that foreign domiciled companies are omitted from the index regardless of capitalisation, meaning that News Corporation is no longer part of the All Ordinaries index since Rupert Murdoch moved its domicile to the US. Being a capitalisation-weighted index (capitalisation is the market value of a company), this means that larger companies have proportionately more effect on the All Ordinaries than smaller companies.

The All Ordinaries can move quite dramatically in one day. For example, BHP Billiton, due to its enormous capitalisation, forms a large percentage of the All Ordinaries. Therefore, if BHP Billiton has a strong day, this will dramatically influence the All Ordinaries in a positive way.

The All Ordinaries was established by the ASX at 500 points in January 1980. On 3 April 2000, the All Ordinaries Index was extended from 300 to 500 companies. It is still the ASX’s ‘headline’ index, acting as an umbrella index, with six ASX benchmarking indices beneath it. These are the ASX 300, the ASX 200, the ASX 100, the ASX 50, the ASX 20 and the ASX Small Ordinaries.

The ASX 200 is worth a mention as probably the most recognised barometer of the health of the Australian stock exchange by professional investors. It is the benchmark against which many fund managers rate their performance. This index includes the top 200 stocks by market capitalisation; however, liquidity is also taken into consideration by the S&P Australian Index Committee.

Profile: Warren Buffett

Far and away the most famous and successful stock market investor of all time.

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Why Invest in Shares?

Beyond shares being the best long-term investment and having tax benefits, they also offer other advantages, including flexibility and liquidity.

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