InvestorQ : Can you tell me about some of the key functions that the stock market performs?
Aashna Tripathi made post

Can you tell me about some of the key functions that the stock market performs?

Tisha Malhotra answered.
3 years ago

A stock market performs a few key functions. Some of these functions are highlighted hereunder:

· It brings buyers and sellers of shares together under a common platform. In the absence of the stock market, the buyer will not know where the seller and the seller will not know where the buyer is. That is the gap that the market fills up.

· It enables the buyer to buy at the lowest available price and the seller to sell at the highest available price through the best buy system followed by the exchanges. Due to this system, the market platform automatically gives the buyer the best available (lowest) price and the seller also the best available (highest) price.

· Computer based trading brings transparency since the buyers and the sellers can see bid and ask quantities and prices on the screen and place orders accordingly. Gone are the days when the trader would place an order and not know if the order has been placed and at what price.

· Stocks markets in India also take away the counter party risk in such transactions. This requires a more detailed explanation. Let us assume that Ramesh buys 500 shares and Paresh sells 500 shares. On the appointed data, Ramesh needs to ensure that he pays the money and Paresh needs to ensure that he delivers these shares.

· What happens if either of the parties defaults on their side of the commitment? This is where the exchange comes in. The exchange acts as counter-party to each transaction. So in the above case, Ramesh buys 500 shares from the Exchange and Paresh sells 500 shares to the exchange. If one of them defaults, the exchange will honour that side of the commitment and then recover the dues from the defaulter. As a buyer or seller of shares in the stock exchange, you are absolutely safe.

· Stock markets also have another very important function. They act as a platform for Initial Public Offerings (IPOs). When a company wants to raise money, they come out with an IPO. This IPO is sold by brokers through the exchange and a week after the issue closes, it lists on the exchange. Thus you are now able to buy and sell the shares of this IPO like any other normal share in the market after listing.

· Finally, stock markets help in price discovery. What is price discovery? How do you decide whether Tata Steel is worth Rs.300, Rs.350 or Rs.400. Stock price is a matter of opinion and the market helps put a number to this opinion. The fluctuations that you see in the price of shares are the effect of estimates and opinions of a stock varying.