What is the Stock Market & How Does It Work?

What Is the Stock Market & How Does It Work?

By Matthew Frankel, CFP – Updated Oct 14, 2026 at 5:51 PM EST | Fact-checked by Frank Bass

Key Points

Stock markets enable the trade of stocks, connecting buyers with sellers, not directly with companies.
Stock prices are determined by demand, bid being the maximum buyers pay, ask being the minimum sellers accept.
Indexes like the S&P 500 track aggregate stock performance, providing benchmarks for market trends.

It's well known that investing in stocks can be a great way to build wealth over time. While they have their own pros and cons, stocks have the potential to outperform almost every other major asset class over time.

But does the stock market actually work? Do you know how to buy and sell stocks? What even is a stock?

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An infographic defining and explaining the differences between a stock market, stock exchange and stock index. — Image source: The Motley Fool.

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Stock market basics

Stock markets facilitate the buying and selling of stocks among individual and institutional investors, as well as companies.

The vast majority of stock trades take place among investors. If you want to buy shares of Microsoft (MSFT +1.08%), you can hit the "buy" button through your broker's website. When you do, you are buying shares that another investor has decided to sell -- not from Microsoft itself. By purchasing shares of a stock, you become an investor in the company.

What is a stock?

Stocks represent an ownership interest in businesses that choose to have their shares available to public investors. These are known as publicly traded companies. You may also hear stocks referred to as equities, equity securities, or simply securities.

A share of stock represents an ownership interest in a company. If you buy a share of Apple (AAPL -0.28%), you own a small part of the business and get to share in the company's success.

Instead of being privately held by an individual or a group of investors, some companies (such as Apple) choose to "go public" through an initial public offering (IPO). This means that anyone can become a part-owner by purchasing shares of the company's stock.

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How are prices determined on a stock market?

Stock prices on exchanges are governed by supply and demand, plain and simple.

At any given time, there's a maximum price someone is willing to pay for a certain stock, known as the bid price. There's also a minimum price someone else is willing to pay for the shares, known as the ask price.

If there is a lot of demand for a stock, investors will buy shares more quickly than sellers want to get rid of them. This can move the price higher. On the other hand, if more investors sell a stock than buy, the market price will drop.

There are plenty of catalysts that can push the market up or down. For example, a market can fall due to inflation pressures, supply chain issues, rising interest rates, and recession fears. These factors can lead more investors to sell than buy, potentially triggering a stock market crash.

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Financial Securities

A tradeable asset that holds monetary value.

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Market makers ensure there are always buyers and sellers

A key concept for understanding the stock market is the role of a market maker.

Think of it this way. There aren't always buyers to match up with sellers of stocks. However, stock trades typically settle within seconds. How can brokers buy and sell stocks in your account instantaneously?

Market makers act as intermediaries between buyers and sellers. This ensures there's always a liquid marketplace for stocks on an exchange. With a liquid market like this, investors can buy and sell shares immediately during market hours, whenever they want. Here's a rundown of what investors should know about the process:

Market makers buy and hold shares and continually list buy and sell quotations.
The highest offer to buy shares listed from a market maker at any given time is known as the bid. The lowest price at which a seller is willing to sell is known as the ask.
The difference between the two is called the spread.

Because of market makers, you'll never have to wait to sell stocks at their full market value.

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Bid and Ask

Bid and ask are two points of a price quote. Bid is the price investors will pay for an asset, while ask is the price they’ll sell it for.

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What happens when you buy a stock?

Investors must carry out stock transactions through a broker. In a nutshell, a broker is simply an entity licensed to trade stocks on a stock exchange.

Throughout most of the stock market's history, a broker has been an actual person whom you tell what to buy and sell. In the modern era, however, it is an online stock broker -- say, Schwab or Fidelity. Firms like these usually process the entire transaction electronically, although most still allow trades to be completed by phone.

When you buy a stock, here's the simplified version of how it works:

You tell your broker (or enter it electronically) which stock you want to buy and how many shares you want to buy.
Your broker relays your order to the exchange. A market maker sells you shares at the current market price.
The shares are then delivered to your account.

It works the same way when you choose to sell a stock.

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How does a stock index track the stock market?

When discussing the stock market, people often generalize "the market" to a stock index. Stock indexes, such as the S&P 500 or the Dow Jones Industrial Average (Dow for short), represent the performance of a large group of stocks or a particular stock market sector.

These are used as a benchmark to compare the performance of individual stocks or an entire portfolio. For example, the S&P 500 index tracks the performance of 500 of the largest publicly traded companies in the U.S.

It's important to understand that the major stock indexes you see on TV and in the news do not fully represent the entire stock market. A stock can decline even if a certain index is up, and vice versa.

The only true way to understand what the stock market is doing is to look at the average of multiple sector indexes.

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"The Market is Up!"

When someone says "the market is up" or that a stock "beat the market," they are usually referring to a stock index.

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Stock markets, stock exchanges, and stock indexes

There are three different terms here with similar and often misunderstood meanings:

Stock market: The process and facilitation of investors buying and selling stocks with one another.
Stock exchange: The actual intermediary that connects buyers with sellers, such as the New York Stock Exchange (NYSE).
Stock index: A numerical representation of a group of stocks that is used to track their collective performance, such as the S&P 500 or Nasdaq Composite.

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The bottom line on stock markets

Knowing the basics of how stock markets work can help make you a better investor and open the door to potential long-term wealth.

Without understanding why your investments can be bought and sold at a moment's notice, the stock market's auction-like system, or why prices fluctuate, you'll never become the wise investor we aim to make everyone.

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About the Author

Matt Frankel, CFP®, is a contributing Motley Fool stock market analyst specializing in the real estate and financial sectors. Prior to The Motley Fool, Matt taught high school and college mathematics. He holds a bachelor’s degree in physics from the University of South Carolina, a master’s degree in mathematics from Nova Southeastern University, and a graduate certificate in financial planning from Florida State University. He won a SABEW award for coverage of the 2017 Tax Cuts and Jobs Act. He is also regularly interviewed by Cheddar, Globe St, The National Desk, and other TV networks and publications for his real estate, financial, stock market, and investing expertise.

TMFMattFrankel

@MattFrankelUSC

Matt Frankel, CFP has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Apple and Microsoft. The Motley Fool has a disclosure policy.

What Is the Stock Market & How Does It Work?

Key Points

Stock market basics

What is a stock?

How are prices determined on a stock market?

Financial Securities

Market makers ensure there are always buyers and sellers

Bid and Ask

What happens when you buy a stock?

How does a stock index track the stock market?

Stock markets, stock exchanges, and stock indexes

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