INTERNAL TRADE VERSUS EXTERNAL TRADE IN STOCK MARKET - A COMPARISON

 INTERNAL TRADE VERSUS EXTERNAL TRADE IN STOCK MARKET - A COMPARISON

A stock market, also known as equity market, refers to a market where shares of publicly listed companies can be traded. Reasons as to why a company would want to sell shares include: getting access to capital without borrowing from a bank, paying off debts, launching new products, expanding into new markets and enlarging facilities or building new ones. Reasons why investors may choose to buy shares are: they get to own a slice of the company, capital appreciation (which happens when shares increase in value), to get dividend payments when a company distributes some of its earnings to shareholders and the ability to vote shares and influence the company. 

There are two main types of stocks that can be bought:-

· Common stock

Common stock gives one the right to vote at shareholders’ meetings and to obtain dividends whenever they are released.

· Preferred stock

The entities that hold preferred stocks have no voting rights at shareholders’ meetings but they receive dividends before the common stockholders receive theirs. Also, if the company goes bankrupt and is forced to liquidate, preferred stock holders get priority over the common stock holders.

There is a primary market and a secondary market in any stock market. A primary market is where companies float their shares to the public in an Initial Public Offering (IPO) in order to raise capital. The secondary market is where one investor buys shares from another investor at the prevailing market price or at the price at which both the buyer and the seller agree. The secondary market is also known as the stock exchange and has to be regulated by the regulatory authority in that particular country. During the early days of the stock market, stocks were traded on the floor of the stock market. However, with the new technology, almost all stocks these days are traded electronically. The stock market provides stock brokers who act as an intermediary between the buyer and the seller. Some of the biggest stock exchange markets in the world include the New York Securities Exchange, the NASDAQ, the London Stock Exchange, the Deutsche Boerse and the Japan Exchange group to name but a few.

Needless to say, the stock market is extremely vital to any free market economy. Stock markets have two types of trade:-

· Internal trade

· External trade

INTERNAL TRADE

Internal trading in the stock markets occurs in internal markets. Private companies that do not wish to list their shares publicly also need to have a system in place whereby investors can cash out their private company stock or transfer the stock to other beneficiaries who may be designated. For example, an individual who wants to become the majority shareholder of a particular private company can buy shares from the other company investors privately without interference from the public. This way they increase their shareholding percentage. Many private companies, however, apply a particular form of restriction whereby a certain level of shareholding is maintained at all times. The reason for this may be to prevent a single entity from owning a large slice of the company thereby having the ability to “bully” the other shareholders due to having a bigger say in the direction of the company. Internal trading involves the use of trading windows whereby private company stock can be redeemed or sold. Different groups of shareholders may have different trading windows. It is of paramount importance that private company shareholders have a clear picture of what windows are applicable to them and when the windows will be “open” to trade. The advantage of internal trading is that the trading is kept in check and is not allowed to spiral out of control. The main disadvantages of internal trading are that there is only a particular time when to trade (trading window) and entities wishing to become majority shareholders are restricted in the case where company regulations keep the shareholding percentages in check.

EXTERNAL TRADE

Just like internal trading, external trading is trading that happens in external markets. External markets include the New York Securities Exchange, the NASDAQ, the Dow Industrial and S&P 500. Companies that have listed their shares publicly in the external markets sell their shares through external trading. Also, individuals or investors who hold shares in publicly traded companies can sell or buy shares from other investors through external trading. Members of the general public are allowed to buy shares in companies as long as these companies are publicly traded. External trading employs the use of the stock index or the stock market index which is a measurement of the value of a certain section of the stock market. It is the weighted average of the prices of selected stocks. Investors, financial managers and stock brokers use the stock market index to describe the market and to compare the return on specific investments. The advantage of external trading is that everyone is free to buy stock and investors can buy enough stock to become majority shareholders. The cons of external trading are that companies are susceptible to hostile take overs, greedy stock brokers can rip off members of the public who want to buy stock but do not have adequate information and illegal activities such as insider trading are rife. Insider trading refers to the illegal practice of trading a publicly listed company’s stock or other securities by individuals who have access to confidential or non-public information about the particular company. It is illegal because these individuals with the insider information have an unfair advantage over the individuals without the information. 

Having adequate knowledge on the stock exchange market or having someone trustworthy to seek for advice from is of great importance to anyone who is thinking of venturing into buying of stocks, becoming a finance manager or becoming a stockbroker. Billions of dollars are lost each and every year by clueless people who decided to buy stock only to lose their life savings to greedy stock brokers who ripped them off. 

Hopefully, this article goes some way in providing valuable information that one may require before diving into the volatile world of stock trading.