As COVID-19 raises questions of uncertainty, the extreme changes in the stock market can present even more stress and confusion. The stock market is an intriguing concept, but the complicated lingo used to describe it can be rather intimidating. Most college students know a drop in the stock market is not good news, but could they explain what a “seven percent drop in the S&P 500” means? Let’s explore the basics of the stock market.
Understanding the headlines
Whether it’s Fox, CNN or the Wall Street Journal, when an article about the stock market is published, the headline typically includes one of the following names: S&P 500, NASDAQ or the Dow Jones Industrial Average. These are known as index funds, or funds that hold a group of stocks. Each of these index funds serves as an average for how the market is performing. For example, when a headline reads, “The S&P 500 dropped seven percent today,” it simply means that, on average, stock prices have declined by seven percent.
What happens to your money when the stock market drops
When you invest in the stock market, there are two ways you can make money. One way is to receive dividends. Dividends are portions of a company’s profits that are paid to the shareholders — people who own some of the company’s stock. The second way to make money in the stock market is to sell some, or all, of your shares of a company’s stock when the price of that stock is higher than what you originally paid for it. This is referred to as capital appreciation. When the stock market is performing poorly, the price of your stock may be lower than the price you originally paid for it. In this situation, you can do one of two things:
- You can sell your shares of the stock. This will result in a loss of money because you are selling the stock for less than you paid for it. Or,
- You can hold on to your shares of the stock and wait for the stock’s price to rise. Since you are not selling the stock, you have not actually lost money — the stock has simply declined in value. By holding on to the stock, you have the potential to reclaim the stock’s value if the stock price rises again.
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Why college students should care about the stock market
The idea that studying the past can help us predict the future strongly applies to the stock market. Based on historical trends, for every market downturn — such as the 2008 housing crisis — a market upturn has followed. In other words, the stock market will undoubtedly have periods of poor performance, but those will not last forever.
While most college students are not investors in the stock market, they can still use this unique time in history to see how market downturns play out in the long run. When students graduate and begin working full-time, their work will likely offer them an employer-sponsored retirement plan, such as a 401(k). Observing and understanding market trends now will prepare students for a life of investing in the future.
Lauren Friedlander is a senior majoring in Personal Finance. She is a peer educator with the Badger$ense Financial Life Skills Program in the School of Human Ecology. Learn about Badger$ense courses, workshops, and other opportunities at sohe.wisc.edu/badgersense.