Why Does the Stock Market Exist?

Before we answer the big question, meet the person whose story answers it. Her name is Maya. She makes burgers, and she wants a restaurant of her own.

Maya is a young cook. For years she has grilled burgers for friends and family, and everyone asks for seconds. She has a skill that people love, and a dream: a place of her own where strangers can taste her food too.

Her plan is a small burger restaurant: a kitchen with a griddle, a few tables for people who eat in, two delivery scooters for homes nearby, and a listing on a food app so that orders can find her.

Why does a burger restaurant belong in a lesson about the stock market? Because Maya is a business owner, and every company on a stock market began with someone like her. Each step of her story, from her first rupee to the day hundreds of people own a part of her restaurant, shows one more reason the stock market exists.

Mr. Chartist is a market guide. He will walk Maya through each step, and you along with her. You do not need to know anything about shares or markets yet: every new word is explained the first time it appears.

Maya wants to open a burger restaurant. She doesn't want to risk everything she owns, so she needs someone to put in the rest.

Maya has added up what it will take to open: ₹10 lakh. That pays for a kitchen with a griddle, a few tables, two delivery scooters, the food-app listing and the first months of wages for her staff.

Maya has saved ₹9 lakh. She could stretch herself and find the last ₹1 lakh alone, but then every rupee she owns would sit inside one new restaurant. A new restaurant can have a slow first year. If it failed, she would lose everything she has worked for.

So Maya has two needs. She needs ₹1 lakh more. And she wants someone to share the risk with her, so that she is not carrying all of it on her own.

Not far away lives a young professional who works in an office. He has some savings sitting in the bank, growing very slowly. He has no wish to cook burgers or run a kitchen. But he would be happy to put his money into a good business that someone else runs well, if he could share in its success.

A person who puts money into a business so that he can own a part of it is called an investor: show the note on Investor. In this story we will simply call him the investor.

Look at what each of them has. Maya has the skill, the plan and the energy to work every day, but not quite enough money. The investor has money, but no restaurant and no wish to run one. Each has exactly what the other is missing.

The reason, so farSo here is where the story begins: a business that wants to grow needs money from someone else, and someone with savings is looking for a good business to put it in.

The investor gives Maya ₹1 lakh, and in return he gets one tenth of her restaurant. That part of a business has a name, a share: show the note on Share, and owning one makes him a part-owner.

Ownership: show the note on Ownership means who a business belongs to. Today Maya's restaurant belongs to her alone: she has all of the ownership, 100%. If the investor puts in money, he will want a part of that ownership in return.

How big a part? The restaurant is worth ₹10 lakh, and the investor gives ₹1 lakh. ₹1 lakh is one tenth of ₹10 lakh, so he gets one tenth of the ownership: 10%. Maya keeps the other nine tenths, 90%.

A part of the ownership of a business is called a share. Here, Maya's restaurant is cut into ten equal shares of ₹1 lakh each. The investor holds one share, and Maya holds the other nine.

A person who owns a share is called a shareholder: show the note on Shareholder. The investor is now a shareholder in Maya's restaurant: a part-owner. Maya is a shareholder too, with nine shares, and she still runs the kitchen every day.

What does the investor get for being a part-owner? If the restaurant makes a profit and Maya shares some of it out among the owners, 10% of that payout is his. And if the restaurant does well, his 10% will be worth more than he paid for it. If it does badly, his 10% will be worth less, and if it closes, it could be worth nothing.

What happens to the ₹1 lakh itself? It goes into the restaurant, not into Maya's pocket. With Maya's ₹9 lakh, it pays for the griddle, the tables, the scooters and the first wages. Maya never has to pay it back, because it was not a loan: show the note on Loan, money that must be paid back with extra on top, called interest. The investor did not lend Maya money; he bought a part of her business.

The reason, so farSo here is the second step: an investor gives money to a business, and in return he gets a share, a part of its ownership. That makes him a shareholder.

A year later the investor needs cash. He cannot take it back from the restaurant, because his money is now inside it. His way out is to sell to someone else.

Can he simply ask Maya to pay it back? Think about where his ₹1 lakh is now. It is not sitting in a drawer. A year ago it became the griddle, the tables, the delivery scooters and the first month's wages. The money has turned into the restaurant itself.

To hand him ₹1 lakh in cash, Maya would have to sell a scooter, or the griddle, or stop paying her staff. That would hurt the restaurant badly. And it would hurt Maya too, because she owns 90% of it.

There is a second reason. His ₹1 lakh was never a loan. He bought a share, a part of the business. The restaurant never promised to give the money back, so it does not owe it to him.

The reason, so farSo the investor has a problem. He owns 10% of a busy restaurant, but he needs cash, and the restaurant cannot be the one to give it. Is his money stuck forever?

No. There is another way out, and it does not touch the restaurant at all. It is the way anyone sells a plot of land: the owner does not dig up the soil, he sells the plot to someone new. The investor can sell his share to someone else.

The reason, so farSo here is the third step: an owner who wants his money back cannot take it out of the business without hurting it. He has to sell his part to another person.

Someone with savings wants to own a part of a good business. She pays the investor and takes his place as the owner of the 10%. The restaurant is not part of the deal.

Across town lives a woman who has saved some money. She does not want it to sit in the bank doing very little; she is looking for a good business to own a part of. She has eaten at Maya's restaurant, and she has seen how busy it is.

In this story we will call her the new buyer: show the note on The new buyer. A buyer is a person who pays money to get something. Here, what she wants is the investor's share: his 10% of Maya's restaurant.

The investor and the new buyer meet and agree on a deal. She pays him money, and he hands his share over to her. From that moment she owns the 10%, and he does not. She is now the shareholder; he is not.

Look at what each of them gets. The investor gets cash, which is what he needed. The new buyer gets a part of a busy restaurant, which is what she wanted. Each gives the other what they were missing, just as Maya and the investor did a year ago.

And what changes for Maya? Nothing. Not a single rupee leaves her restaurant, and not a single rupee comes in. The money goes from the new buyer straight to the investor. Maya's kitchen keeps cooking, her scooters keep delivering, and she still owns her 90%. Only the name of the person who owns the other 10% has changed.

This is an important idea. The restaurant got the investor's money once, on the day he first joined. After that, when one owner sells a share to another, the money passes only between those two people. The restaurant is not part of the deal.

The reason, so farSo here is the fourth step: when an owner sells, a new buyer pays him and takes his place. Ownership changes hands, and the business carries on as before.

In one year the restaurant has done well, so it is worth more. The 10% share is worth more too. Had the restaurant done badly, the share would be worth less.

A year ago the restaurant was new and untested. It was worth ₹10 lakh, and 10% of it cost the investor ₹1 lakh. Since then it has done well: more people eat there, more orders go out, and it makes more money every month.

A business that earns more is worth more, because whoever owns it gets a part of bigger profits. Looking at how well it is doing, people now agree that the whole restaurant is worth about ₹20 lakh: show the note on The restaurant, a year later.

So what is 10% of it worth? 10% of ₹20 lakh is ₹2 lakh. That is the price of the share today. The new buyer pays the investor ₹2 lakh, and the 10% ownership moves to her.

Why is she happy to pay ₹2 lakh when the investor paid only ₹1 lakh? Because she is not buying last year's restaurant. She is buying a part of today's restaurant, a busy one that earns far more than it once did, and she hopes it will keep growing. What the investor paid a year ago does not matter to her.

For the investor, this is good news. He paid ₹1 lakh and gets ₹2 lakh. His gain is ₹2 lakh − ₹1 lakh = ₹1 lakh. He took a risk by putting money into a new restaurant, and the risk paid off.

Now picture the other story. What if the restaurant had done badly: empty tables, few orders, and rent still due every month? Then people might think the whole restaurant is worth only ₹6 lakh, and 10% of ₹6 lakh is ₹60000: show the note on If the restaurant had done badly. A buyer would pay about that much, and no more. If the investor needed the cash and sold, he would get ₹60000 for the ₹1 lakh he put in: a loss of ₹40000.

Nobody promised the investor his ₹1 lakh back, and nobody fixed the price of his share. The share stays the same size, 10%, but its price goes up or down with how the business is doing. The price is whatever a buyer agrees to pay and a seller agrees to take, on the day they deal.

The reason, so farSo here is the fifth step: the price of a share changes. It rises when the business does well and falls when it does badly.

Maya wants a second branch and needs ₹4 lakh. She sells another part of her own ownership to new investors. Her slice gets smaller, but she gets the money.

Another year on, Maya's restaurant is full almost every night. She wants to open a second branch on the other side of the city. For that she needs more money, about ₹4 lakh. Once again, she does not want to borrow it, and she does not have it spare.

But Maya now has something she did not have at the start. She owns 90% of a restaurant worth about ₹20 lakh, so her ownership is worth a lot. She can do what the investor did: sell a part of it.

She decides to sell another 20% of the restaurant to new investors. 20% of ₹20 lakh is ₹4 lakh. Several people buy a part each. One buys 10% for ₹2 lakh. Others buy smaller parts: two of them 3% each for ₹60000, and two of them 2% each for ₹40000. Together that is 20%, and ₹4 lakh.

Now count the owners. Maya had 90%; after selling 20%, she has 70%: show the note on Maya's slice after selling 20%. Outside investors own the other 30% between them: the new buyer with her 10%, and the five new investors with 20%. The restaurant now has seven shareholders.

What does this mean for Maya? Her part of the ownership has shrunk, from 90% to 70%, so she will share more of the profits with others than before. But she has the ₹4 lakh she needed, and she puts it into the new branch. She did not have to borrow it. And she still owns more than all the others together, so she still runs the restaurant.

There is a hopeful side, too. If the second branch does well, the whole business can become worth much more, and 70% of a bigger business can be worth more than 90% of a small one. If the branch does badly, her 70% could be worth less. Selling a part of the ownership is how she shares that risk with others.

The reason, so farSo here is the sixth step: as a business grows, it can bring in more owners. The founder's slice gets smaller, but she gets the money to grow, and others share the risk.

The business has grown, and about 200 people own a part of it. When one of them wants to sell, he has no easy way to find a buyer. Searching one by one no longer works.

Years pass, and Maya's business keeps growing, with branches across the city. Over time Maya sells more of her ownership, and many owners sell their parts to new buyers. To let more people own a part, the ownership has been cut into many more, smaller shares.

Today about 200 people own shares in Maya's restaurants. Together they own about 40%; Maya owns the other 60%. A few of the 200 own a lot, and most own only a little.

Now one of those 200 owners needs cash and wants to sell his shares. How does he find a buyer?

He could call the other 199 owners, one by one, to ask if anyone wants to buy. He could ask friends, neighbours and colleagues. He could search the whole city for someone with spare money who wants a part of a burger business. That could take weeks, and he may still not find anyone.

And he is not the only one. On any day, some owners want to sell and some people want to buy, but they do not know about each other. With 200 owners alone, there are 200 × 199 ÷ 2 = 19900: show the note on Possible pairs among 200 owners possible pairs of people who could deal with each other. Nobody can search through all of them.

Even if a seller does find a buyer, what is a fair price? With nobody else around to compare with, he can only guess. A buyer might offer him too little, and he would never know.

The reason, so farSo here is the seventh step: when a business has many owners, finding a buyer one person at a time no longer works.

Buyers and sellers need one place where they can all meet. That place is called an exchange: show the note on Exchange. A seller goes there to sell his shares, and a buyer goes there to buy them.

An exchange is one place where buyers and sellers of shares meet, so that shares can be bought and sold. Its name says what happens there: ownership is exchanged for money. A seller gives up his shares and gets money. A buyer gives money and gets the shares.

Now the owner who wants to sell does not need to call 199 people or search the whole city. He goes to the exchange, where buyers are already waiting. Each person needs only one link: the link to the exchange. Instead of searching through thousands of possible pairs, everyone deals in one place.

The exchange also solves the price problem. Because so many buyers and sellers are in one place, everyone can see what others are offering to pay and asking to get. The price of a share is the price a buyer and a seller agree on there, in plain view.

And what does Maya's business get from all this? The same as in the new buyer's story: nothing changes in its kitchens. The exchange only helps owners and buyers find each other. Ownership changes hands, and the restaurants keep cooking.

The stock market is the name for this whole idea: owners of businesses selling their shares to people who want to own them. A stock exchange is the real, organised place where it happens, with its own rules and hours; today it runs on computers and screens, not a hall full of people. India's two main stock exchanges are NSE and BSE. The figure below shows NSE's building in Mumbai.

One thing to know: a small private business like Maya's cannot use a stock exchange straight away. A business must first be accepted by an exchange, which is called being listed: show the note on Listed company, and it must then follow the exchange's rules. How a business gets there, and how you yourself can buy a share, come in later lessons.

The reason, so farSo here is the eighth step, and the heart of the story: the exchange is one place where buyers and sellers meet, and where ownership is exchanged for money. That is the main work of the stock market.

Two ideas carry the whole lesson: shareholders and ownership, and the exchange. Here is the story once more, in one breath.

The whole reasonNow put the pieces together. Maya needed money to grow, and the investor gave it in return for a share, a part of the ownership. When he wanted his money back, he could not take it from the restaurant, so he sold his share to a new buyer, at a price that had changed with the business. Maya brought in more owners as she grew, until there were hundreds, and finding buyers one by one stopped working. So buyers and sellers meet in one place: the exchange.

How that meeting place first came about, from a bridge in Amsterdam to a banyan tree in Bombay, is where the next lesson begins.