Capital market basics
Before you begin investing, it is important to understand the language of the capital market. This page explains the central concepts—shares, bonds, dividends, stock exchanges and investment portfolios—and clarifies what each represents, how it may generate a return and which risks matter.
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The world of investing is full of big, complicated words, but surprisingly simple ideas sit behind them. Once you understand the "language," it becomes much easier to understand how the market works, what you are actually buying and how to build a plan that suits you.
In this chapter, we will clarify some of the most important concepts so you can feel more comfortable in the world of investing.
Securities
A "securityA general term for a tradable financial asset (such as a share, bond, or unit in a fund) that represents a right to an asset or to profits." is a general name for any financial product that can be bought or sold in the capital market, including shares, bondsA type of "loan" that an investor provides to a government or company in exchange for repayment of the principal plus interest., exchange-traded fundsA security traded on an exchange that tracks a particular index, allowing an investor to buy a "basket" of assets in a single transaction. and more.
Shares
When you buy a share in a public company, such as Amazon, Apple or Bank Hapoalim (בנק הפועלים), you become the owner of a small part of that company.
The potential gain:
- If the company succeeds, grows and earns profits, the company's value rises, and the price of your share rises with it.
The risk:
- If the company runs into difficulties or loses money, the share price may fall.
What affects a share's price each day?
- The company's performance: Financial statements, sales and sound management.
- The state of the economy: InterestThe "price of money" – the amount paid for the use of someone else’s money, as income to the depositor or as a cost to the borrower. rates, inflationA process of general price increases that reduces the purchasing power of money (the same amount of money buys fewer products)., wars or global crises.
- Supply and demand: When there are more buyers than sellers, the price rises; when there are more sellers than buyers, it falls.
- Investor expectations: Sometimes a company reports excellent profits, yet its share falls simply because the market expected even better results.
Dividends
A dividend is a portion of a company's profits that is distributed to its shareholders. In other words, in addition to the possibility that the share price will rise, some companies choose to transfer part of their profits directly to investors.
Bonds
Unlike a share, which gives you ownership, a bond is a loan agreement. When a government or large company needs to raise money, it can approach the public and issue bonds. You buy the bond—meaning that you lend it money—and in returnThe profit (or loss) from an investment over a certain period, usually expressed as a percentage of the original amount invested. it promises to repay the principal in the future and usually also to pay a predetermined rate of interest, known as the "coupon."
Two types of bonds worth knowing
Government bonds
A government bond is issued by a country. When a country needs money to finance ongoing activity, infrastructure investments, education, security or a budget deficit, it can raise the money from the public by issuing bonds.
In simple terms, instead of taking a loan from a bank, the government asks investors to lend it money. In return, it promises to repay the money in the future and usually also to pay interest along the way.
Government bonds are generally considered a more conservative investment, especially when issued by economically stable countries such as Israel, the United States or Germany. However, it is important to remember that not every country has the same risk level, so even a government bond is not entirely "risk-free."
Corporate bonds
A corporate bond is issued by a business that wants to raise money for its activities. Companies issue bonds to finance investments, expand, develop new products or refinance existing debt.
Here too, investors lend money to the company, and it promises to repay it with interest. Because a company is generally considered less stable than a country, a corporate bond will usually offer a higher interest rate than a government bond.
The risk is also higher: if the company runs into difficulties, it may struggle to repay the debt. As a rule, the riskier a company is considered, the higher the interest rate it will usually need to offer to attract investors.
Government bonds versus corporate bonds
| Feature | Government bond | Corporate bond |
|---|---|---|
| Who issues it? | A country | A business |
| Risk level | Usually lower | Usually higher |
| Expected interest | Usually lower | Usually higher |
| What is the money used for? | State budget, infrastructure, security and education | Expansion, investments, development and financing operations |
| Who may find it more suitable? | Investors seeking relative stability | Investors prepared to take more risk for higher potential returns |
Special types worth knowing
- Inflation-linked bond: A bond whose principal or interest is linked to the Consumer Price Index, helping to preserve the value of the money during periods of inflation.
- Convertible bond: A bond that can be converted, under certain conditions, into shares of the issuing company.
How do you earn money from bonds?
There are two main ways to earn money from bonds:
| Source of profit | How it works |
|---|---|
| Interest payments (coupon) | During the life of the bond, the issuer pays you interest according to the terms set in advance. |
| Capital gainA gain created by an increase in the value of a particular asset (such as a rise in a share price) and realized only when the asset is sold. | If you bought a bond at one price and later sold it at a higher price, you made a gain. |
What affects the price of a bond?
Although bonds are sometimes seen as a more stable instrument, their market price can also change.
The main factors are:
- Interest rates in the economy: When interest rates rise, older bonds with lower interest rates become less attractive, so their price falls. When interest rates fall, existing bonds with higher interest rates become more desirable, so their price rises.
- Inflation: A bond that is not linked to an index may be harmed during periods of inflation because the purchasing power of future payments erodes.
- The issuer's credit rating: The more stable and reliable the issuer is considered, the safer its bonds are perceived to be and the more stable their price usually is.
- Supply and demand: As with any financial asset, market supply and demand continuously affect the price.
The stock exchange and the capital market
A stock exchange is an organized, regulated digital trading venue. It is where buyers and sellers meet, including individual investors, companies and institutional investors such as pensionA monthly payment made to a person after retirement from work in order to help maintain their standard of living. funds.
- Its role
- To set transparent prices, enable companies to raise capital and give investors "liquidityThe speed and ease with which money can be withdrawn from an investment and converted into cash in a bank account without significant penalties."—the ability to buy and sell securities easily and quickly.
- Well-known exchanges
- The Tel Aviv Stock Exchange (TASE), the New York Stock Exchange (NYSE) and Nasdaq in the United States.
Investment portfolio
An investment portfolio is the collective name for all the financial assets you hold in an account, including shares, bonds, cash, deposits and more.
The central idea behind an investment portfolio is financial diversification: do not put all your money in one place. Instead, build a mix that suits your goals, investment horizon and risk level.
Example:
- Aggressive portfolio (for growth): Suitable for younger investors and a long time horizon, and may consist, for example, of 80% shares and 20% bonds.
- Conservative portfolio (for stability): Suitable for someone approaching retirement or investing for the short term, and may consist, for example, of 40% shares and 60% bonds.
Frequently asked questions
If I bought a share, can I go to the company's offices and decide what it should do?
Not at all. Although you are an owner, an individual investor's stake is tiny—a fraction of a percent. Day-to-day management remains in the hands of the CEO and the board of directors. Your right is mainly economic: to benefit if the share rises in value and to receive dividends if the company decides to distribute them. If you buy a significant percentage of the company's shares, you may be able to influence its management and policy, but that would cost a great deal of money.
What happens if a company whose bond I bought goes bankrupt?
This is the main risk in bonds, known as "credit risk" or "default risk." If the company collapses, it may not repay the debt, an event sometimes described in the market as a "haircut." This is why corporate bonds issued by less stable companies offer higher interest rates—to compensate you for that risk.
Why does the interest rate in the economy affect the price of my bond?
The relationship is inverse: when the Bank of Israel (בנק ישראל) raises the interest rate, banks begin offering new, attractive deposits at higher rates. Older bonds, which pay less interest than is now available, consequently become less attractive and investors sell them, causing their price to fall.
In summary
The capital market has two main players: shares, which represent ownership and growth but come with volatility, and bonds, which represent a loan and interest payments and are generally considered more stable. All these securities are traded in the large marketplace called the stock exchange, and the way you combine them in your investment portfolio determines how much you may earn and the level of risk you take.