A stock exchange is really a large auction, like ebay, but for company shares. Stock exchanges allow anyone with a bank account to buy shares in companies and Exchange Traded Funds (ETFs). Companies sell small amounts of themselves to the public in exchange for ownership shares in an Initial Public Offering (IPO).
For example, Acme Inc might try and sell 1,000,000 shares of itself for $50 per share in order to raise $50,000,000, or more if investors think Acme Inc is going places. If things go well for Acme Inc, they will have traded tiny slices of ownership for at least $50,000,000. This would be called Acme Inc’s IPO, they can then use the new money to invest in their business (maybe acquire a rival, update their factories, etc).
IPOs also allow founding shareholders the chance to sell some of their shares to the public for what can be a small fortune.
For Acme Inc, raising money on a stock exchange might be better than borrowing money from a bank, or raising $50,000,000 from one person or small group of people who would then be able to exert control over the inner workings of a company.
Companies that have shares on a public exchange, like the TSE or the New York Stock Exchange (NYSE), are called ‘public companies‘ because any member of the public can own a part of these companies by buying shares on a stock exchange. Companies on exchanges are subject to various rules and restrictions though. For example, they have to publicly announce the status of their operations and finances every 3 months (quarterly reports), they have to publicly declare who is on their board of directors, which typically represents the biggest share holders of a company. Also, their finances have to be in good shape, or they will kicked off the exchange.
Most of the time, when you buy shares on a stock exchange, you are not buying them from the company you wish to invest in, but from another investor. You are only buying shares from a company directly if it has an IPO, or secondary public offering, or third, etc. Otherwise, you are buying from another investor. It is important to know that people will sell shares for many reasons, but will generally only buy shares in a company if they feel that the worth of the company will go up.
And the worth of the company is often described as its market capitalization: the number of available shares it has, multiplied by the value of each share. So Apple, the largest company in the world currently, has a market capitalization of $740 billion, and a current share price of $127.09, making the number of Apple shares available at 5.8 billion. Market capitalization is generally considered how much it would cost to buy a publicly traded company, if you wanted to completely buy Apple, the company, that would cost you $740 billion today.
But we’re not looking to buy a company, only the S&P 500. Our next step is setting up a self directed investment account.
In order to invest your money with the S&P 500 you need to open a special kind of bank account, a self directed investment account. Because the specific S&P 500 investment we want to make takes the form of an ETF, we need access to the Toronto Stock Exchange (TSE).
The S&P 500 itself is an index, an index that can be easily duplicated with a basic formula. Other financial companies have created funds using this simple formula, and made these funds available on the TSE, Canada’s main stock exchange.