This is part three in a series of posts that aims to explain the current financial news to a sixth grader. New readers of this blog might want to click here to read the first post in the series.
After several days of losses, something finally was “up” with the economy on Tuesday 🙂 The markets rebounded a little.
Here’s the front page of Wednesday morning’s Washington Post:
It looks like something called the “Fed” controls interest rates, and by keeping those rates “ultra low,” the Dow went up 4%.
But if I’m a sixth grader, I probably don’t understand what a “market” is, and I’m likely hazy on the concept of “stock” as well — so let’s start with the basics.
Let’s say two friends have an idea for a company that helps people search the internet — their mission is “to organize the world’s information and make it universally accessible and useful.” Let’s call this company Google. The friends — let’s call them Larry and Sergey — work on the company from 1998 to 2004.
After those six years of incredible growth, the company, which had been privately held, decided to offer shares of the company to the public. If you wanted to buy a share of this company, you would buy those shares, hoping they would go up in value as the company becomes more valuable.
To keep things simple, let’s say the company decided to issue 1000 shares of stock, each priced at $100. If they want to keep control of the company, they need to keep a majority — or 501 of the 1000 shares of stock that they are issuing. If they sell the other 499 shares at $100 each, they would raise $499,000 that the company could use to expand.
If people look at the company and say “this is a great company — I want some Google stock, too!” the people who own the stock might sell their shares. Let’s say one buyer wants my stock… I might sell it — but I want to get more than the $100 I paid for it. I might sell for $110, or I might hold onto the stock, thinking it is worth $120. The stock is worth whatever people agree to pay for it, based on their evaluation of the company.
Let’s look at Google from Tuesday’s trading:
It last sold for $573 per share, and there are 322.89 million shares of stock available. The value of the company, also known as the market capitalization, is shares times price, which in this case is $185 billion.
(with students at the school I plan to open in 2013, we would do a month-long simulation so students can experience trading stocks over an extended period)
Now, there are more companies than just Google. And companies trade on various stock markets. One measure of the U.S. stock market is the average price of 30 representative companies, called the Dow Jones Industrial Average (DJIA). Here are the first few companies in the DJIA, listed alphabetically, from Wikipedia’s DJIA article:
The idea is that if you follow the Dow, you get a sense of the performance of thousands of other companies in the stock market. When the Dow is up, that’s generally good. When it’s down, that’s generally bad. Other market indicators include the S&P 500 (so named because it tracks 500 stocks) and the NASDAQ, among others.
** SEE UPDATE AT THE END OF THIS POST **
Okay — so the Dow went up 429 points in one day. Let’s try to get some context for that:
Now, how did I find that? Well, here’s a 4-minute video I made that explains how a student could look up the Dow Jones Average. The audio quality is not great, so you may want to turn up the volume:
Now, the market is still big news because on Wednesday, the Dow lost the entire gain of 429 points from Tuesday, plus nearly 100 more points:
The word of the week seems to be volatility. That’s a great vocabulary word for a sixth grader:
We will continue to follow the market today (Thursday) and on Friday. We’ll see if the volatility continues, and we’ll also explore why people would move money to gold as a safe investment.
And we’ll figure out what the “Fed” is all about — it seems to be run by someone named Bernanke — at least that’s the clue we can get from the Wall Street Journal from Wednesday morning:
That’s all for this morning. To be continued…
** UPDATE **
This front-page article from the Washington Post on Thursday around noon provides a nice summary of the three major US market indexes — the Dow, the S&P 500, and Nasdaq: