To buy and sell publicly-traded shares, you must use a broker. Just like any middleman, the brokerage company will charge a fee for its services. Privately held stocks, however, are an exception, as they can be bought directly and do not involve a fee. Understanding the difference between public and private stocks, and the associated expenses, will help you trade with confidence.
Public Stock Exchange
When buying or selling stocks, most investors prefer publicly-traded shares; these are the stocks that change hands in a public stock market, such as the New York Stock Exchange or the London Stock Exchange. Such markets are accessible to anyone with money and are fully transparent. In other words, the prices at which stocks have been traded, the prices at which buyers and sellers are willing to engage in further transactions, as well as past price, data are available free of charge. This does not mean, however, that any investor can walk into the buildings or log into the computer systems to trade with other buyers and sellers. Instead, investors must use brokers to trade on public stock exchanges.
An institution qualified to directly access the stock market is referred to as a brokerage firm or, colloquially, a broker. To trade public stocks, you must open an account with a brokerage company and place a trading order. The broker will then locate a buyer or seller, who may be doing business with the same broker or another one, to facilitate your transaction. All brokers charge a fee, also referred to as a commission, for this service. In fact, you will have to pay not only when buying, but also when selling your stocks. The good news, however, is that stock trading commissions are relatively affordable.
Here is what a broker does to facilitate a trade and why it must charge you. Say you wish to buy a major bank's stock and you are willing to pay, at most, $10 per share for 100 shares. You log in to your brokerage account from your computer and enter a "buy order" specifying what stock to buy and how much you are willing to pay. The broker will then route your order into an electronic network which all other brokers have access to. The computerized systems will then try to find a seller willing to accept $10 per share for his stock holdings in the same bank and match the two of you. Cash from your account will then be transferred to his, while his stocks will be transferred to your account.
Stocks of most medium and small corporations are privately held. This means that you won't be able to see a most recent transaction price or past price history or purchase such shares through a broker. Instead, you must contact the shareholder directly and bargain with him. Since there is no person or institution involved in this transfer, you will not pay a commission. However, purchasing such shares involves substantial risk. While companies with publicly-traded shares are closely monitored by the Securities and Exchange Commission and must periodically publish key financial data, privately held companies make far less information available. Unless you have a personal connection to the shareholders or employees of a private company, it is hard to evaluate the company's prospects.
Hunkar Ozyasar is the former high-yield bond strategist for Deutsche Bank. He has been quoted in publications including "Financial Times" and the "Wall Street Journal." His book, "When Time Management Fails," is published in 12 countries while Ozyasar’s finance articles are featured on Nikkei, Japan’s premier financial news service. He holds a Master of Business Administration from Kellogg Graduate School.