When you purchase shares, where does the money go?

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mowill74
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When you purchase shares, where does the money go?

Post by mowill74 » Thu Jun 15, 2017 12:06 pm

Hello, I am new to investing and I am trying to understand the stock market as a whole.
The company that I work for uses Vanguard for our 401k retirement accounts. I have the Vanguard Target Retirement 2035 fund and the Vanguard Target Retirement 2040 fund. Every pay period money is taken out to buy shares in the fund. Can someone explain the process of what happens to the money when you buy shares in a mutual fund or shares of stock? Does the money go to the companies themselves that you are buying the shares from? I know there are fees involved but wasn't sure where the money actually goes when you buy shares in a fund or a stock. Thanks,

mcraepat9
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Re: When you purchase shares, where does the money go?

Post by mcraepat9 » Thu Jun 15, 2017 12:10 pm

mowill74 wrote:Hello, I am new investing and I am trying to understand the stock market as a whole.
The company that I work for uses Vanguard for our 401k retirement accounts. I have the Vanguard Target Retirement 2035 fund and the Vanguard Target Retirement 2040 fund. Every pay period money is taken out to buy shares in the fund. Can someone explain the process of what happens to the money when you buy shares in a mutual fund or shares of stock? Does the money go to the companies themselves that you are buying the shares from? I know there are fees involved but wasn't sure where the money actually goes when you buy shares in a fund or a stock. Thanks,
It goes to the mutual fund company (in the case of Vanguard TR 2035, Vanguard), which in turn uses the funds to purchase the underlying securities that make up the fund. If there is a load or purchase fee (none with this particular fund, but some fund companies have them), the mutual fund company deducts that amount first before purchasing the underlying securities that make up the fund.
Amateur investors are not cool-headed logicians.

mowill74
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Re: When you purchase shares, where does the money go?

Post by mowill74 » Thu Jun 15, 2017 12:16 pm

So the mutual fund company purchases the shares. Where does the money go after that? Meaning does a portion of it go to Apple, Microsoft, the companies that make up the funds?

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simplesimon
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Re: When you purchase shares, where does the money go?

Post by simplesimon » Thu Jun 15, 2017 12:17 pm

When the mutual fund company or the individual uses cash to buy stock, it doesn't go to the company itself. The company already received cash for this stock when it was first issued because it was the company's stock to sell. Once the share is out in the market, you're buying and selling between other individuals or institutions.

bigred77
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Re: When you purchase shares, where does the money go?

Post by bigred77 » Thu Jun 15, 2017 12:19 pm

mowill74 wrote:So the mutual fund company purchases the shares. Where does the money go after that? Meaning does a portion of it go to Apple, Microsoft, the companies that make up the funds?
When the mutual fund purchases shares, they do so on the open market (I'm not counting IPOs here, because most index funds don't buy IPO shares). So they pay whoever is selling those shares. Could be your uncle bob, could be a hedge fund, could be another mutual fund, whoever. They exchange cash for shares and that cash goes to whoever sold those shares.

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Earl Lemongrab
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Re: When you purchase shares, where does the money go?

Post by Earl Lemongrab » Thu Jun 15, 2017 12:21 pm

mowill74 wrote:So the mutual fund company purchases the shares. Where does the money go after that? Meaning does a portion of it go to Apple, Microsoft, the companies that make up the funds?
Buying shares in an IPO (rare) is like buying a new car. Buying existing shares on the market is like buying a used car. The money goes to the person that owned them before.
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MindBogler
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Re: When you purchase shares, where does the money go?

Post by MindBogler » Thu Jun 15, 2017 12:24 pm

Earl Lemongrab wrote:
mowill74 wrote:So the mutual fund company purchases the shares. Where does the money go after that? Meaning does a portion of it go to Apple, Microsoft, the companies that make up the funds?
Buying shares in an IPO (rare) is like buying a new car. Buying existing shares on the market is like buying a used car. The money goes to the person that owned them before.
The company selling shares can also choose to issue additional stock after the IPO and sell it on the open market. On the other side, they can also choose to buy back shares at market prices.

mowill74
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Re: When you purchase shares, where does the money go?

Post by mowill74 » Thu Jun 15, 2017 12:29 pm

Gotcha!! This really helps! I am starting to understand.

an_asker
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Re: When you purchase shares, where does the money go?

Post by an_asker » Thu Jun 15, 2017 12:38 pm

MindBogler wrote:The company selling shares can also choose to issue additional stock after the IPO and sell it on the open market. On the other side, they can also choose to buy back shares at market prices.
I don't know why I didn't think of this question before - can a company issue additional shares anytime they want? Or are restricted from doing so by some version of the "gold standard"?

mcraepat9
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Re: When you purchase shares, where does the money go?

Post by mcraepat9 » Thu Jun 15, 2017 12:42 pm

an_asker wrote:
MindBogler wrote:The company selling shares can also choose to issue additional stock after the IPO and sell it on the open market. On the other side, they can also choose to buy back shares at market prices.
I don't know why I didn't think of this question before - can a company issue additional shares anytime they want? Or are restricted from doing so by some version of the "gold standard"?
The board alone is permitted to issue as many shares as is authorized in its certificate of incorporation. To issue more than that, they must get approval from their stockholders.
Amateur investors are not cool-headed logicians.

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simplesimon
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Re: When you purchase shares, where does the money go?

Post by simplesimon » Thu Jun 15, 2017 12:45 pm

an_asker wrote:
MindBogler wrote:The company selling shares can also choose to issue additional stock after the IPO and sell it on the open market. On the other side, they can also choose to buy back shares at market prices.
I don't know why I didn't think of this question before - can a company issue additional shares anytime they want? Or are restricted from doing so by some version of the "gold standard"?
Theoretically they can but practically it is a long and expensive process. Issuances also dilute current shareholders.

an_asker
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Re: When you purchase shares, where does the money go?

Post by an_asker » Thu Jun 15, 2017 12:54 pm

That makes sense - shareholders need to be asked as they will get diluted! Now, do companies typically hold back a bunch of shares? I am assuming they do, how else do they give (restricted or unrestricted) shares to employees? So, if they do, what fraction of the total number of shares would be typical?

mcraepat9
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Re: When you purchase shares, where does the money go?

Post by mcraepat9 » Thu Jun 15, 2017 1:12 pm

an_asker wrote:That makes sense - shareholders need to be asked as they will get diluted! Now, do companies typically hold back a bunch of shares? I am assuming they do, how else do they give (restricted or unrestricted) shares to employees? So, if they do, what fraction of the total number of shares would be typical?
The certificate of incorporation typically authorizes more shares than they initially plan to issue in an IPO - it varies based on the company. If you search on EDGAR for Form S-1 filings for companies IPO-ing, there is usually a section entitled "Description of Capital Stock" that explains how many shares are authorized. There is no uniform standard.
Amateur investors are not cool-headed logicians.

NoVa Lurker
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Re: When you purchase shares, where does the money go?

Post by NoVa Lurker » Thu Jun 15, 2017 1:23 pm

mcraepat9 wrote:
an_asker wrote:That makes sense - shareholders need to be asked as they will get diluted! Now, do companies typically hold back a bunch of shares? I am assuming they do, how else do they give (restricted or unrestricted) shares to employees? So, if they do, what fraction of the total number of shares would be typical?
The certificate of incorporation typically authorizes more shares than they initially plan to issue in an IPO - it varies based on the company. If you search on EDGAR for Form S-1 filings for companies IPO-ing, there is usually a section entitled "Description of Capital Stock" that explains how many shares are authorized. There is no uniform standard.
Further to this, a shareholder that does not exercise any control over the company's actions (a passive shareholder) may not care about getting diluted. If a company issues more shares, it gets money in exchange for those shares. It can use that money to expand its operations, acquire new assets, etc.

The effect of the new share issuance on the value of earlier existing shares will depend on the market's perception of why the company is issuing new shares, and how well the company will be able to use its new equity capital.

(I'm adding this explanation because OP implied that dilution would be a bad thing --> not necessarily. I might rather own a smaller percentage of a bigger company, rather than a larger percentage of a smaller company.)

an_asker
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Re: When you purchase shares, where does the money go?

Post by an_asker » Thu Jun 15, 2017 2:01 pm

NoVa Lurker wrote:
mcraepat9 wrote:
an_asker wrote:That makes sense - shareholders need to be asked as they will get diluted! Now, do companies typically hold back a bunch of shares? I am assuming they do, how else do they give (restricted or unrestricted) shares to employees? So, if they do, what fraction of the total number of shares would be typical?
The certificate of incorporation typically authorizes more shares than they initially plan to issue in an IPO - it varies based on the company. If you search on EDGAR for Form S-1 filings for companies IPO-ing, there is usually a section entitled "Description of Capital Stock" that explains how many shares are authorized. There is no uniform standard.
Further to this, a shareholder that does not exercise any control over the company's actions (a passive shareholder) may not care about getting diluted. If a company issues more shares, it gets money in exchange for those shares. It can use that money to expand its operations, acquire new assets, etc.

The effect of the new share issuance on the value of earlier existing shares will depend on the market's perception of why the company is issuing new shares, and how well the company will be able to use its new equity capital.

(I'm adding this explanation because OP implied that dilution would be a bad thing --> not necessarily. I might rather own a smaller percentage of a bigger company, rather than a larger percentage of a smaller company.)
Thanks.

So, if the company needs new capital to expand its operations, it can go through a (what might be laborious) process to "create" and issue new shares on the open market. The money it acquires as a result can be used as the C-suite see fit (hopefully, they will put it where they said they would put it when they announced the share creation process). Most normal shareholders (active or passive) might not have the leverage to stop a company from doing so, but some activist hedge fund owners/mutual funds might create some brouhaha. Depending on the public perception, the share price might go up, go down, or remain steady. And since there is some time between announcement and the actual share issuance, the company will be getting funded based on the "new" stock price.

Hopefully, that about covers it.

psteinx
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Re: When you purchase shares, where does the money go?

Post by psteinx » Thu Jun 15, 2017 2:22 pm

There are a variety of ways new shares can be created. Among them:

Pre-IPO:
Founding stock
Early investors - angel funds, venture capital, strategic partners
Early employees

At IPO itself (some of the IPO might be some of the above selling out, but often there is new stock issuance as well

Post-IPO:
Secondary offerings
(Exercised) employee stock options or perhaps stock grants
Stock used to acquire other companies
Convertible bonds that get converted
Some debt restructurings and/or bankruptcies or the like

(Even my order/grouping pre/at/post-IPO is rough. Stock options, for instance, can be pre-IPO as well as post)

psteinx
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Re: When you purchase shares, where does the money go?

Post by psteinx » Thu Jun 15, 2017 2:25 pm

And even though Investor A buying 500 shares of XYZ from investor B for $20/share probably doesn't directly benefit XYZ company, there are indirect benefits to a company to having folks buy, and perhaps bid up, their shares on the secondary market. The post-IPO items I list above are generally less dilutive to existing shareholders, if the stock price is higher rather than lower, ceterus parabis.

alex_686
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Re: When you purchase shares, where does the money go?

Post by alex_686 » Thu Jun 15, 2017 3:08 pm

For some companies the biggest issuance of new stock is via employee stock options, 401(k) matching contribution, so something along this vein. Issuing new stock this way is very cheap to do. No underwriting fees, filling fees are minimal, etc.

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Phineas J. Whoopee
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Re: When you purchase shares, where does the money go?

Post by Phineas J. Whoopee » Thu Jun 15, 2017 9:02 pm

When a company issues new shares and sells them, which is called the primary market, there's a price they get for them which is determined by the marketplace, although many of the intermediaries are different and the fees are usually higher than when individuals or institutions buy and sell among themselves on the secondary market.

Assuming the primary market price is approximately fair, and there is no precise way to calculate it nor any authority to set it other than the marketplace itself, in exchange for giving up more ownership shares to more investors, the corporation gains assets, which is to say the cash they sold the shares for, which makes the pie bigger. As a result, the corporation becomes more valuable because it now owns the newly-raised cash.

I am not expressing a political opinion, just describing what some people think, when I say high-level employees who are granted stock options in lieu of cash compensation save the corporation the money it otherwise would have paid. Not needing to spend $100 is exactly equivalent, on an after-tax basis, to receiving $100.

I make no political point in this post about whether executive pay is fair, nor about whether using stock options and related mechanisms in that way is a public good.

PJW

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TD2626
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Re: When you purchase shares, where does the money go?

Post by TD2626 » Thu Jun 15, 2017 10:13 pm

Earl Lemongrab wrote:
mowill74 wrote:So the mutual fund company purchases the shares. Where does the money go after that? Meaning does a portion of it go to Apple, Microsoft, the companies that make up the funds?
Buying shares in an IPO (rare) is like buying a new car. Buying existing shares on the market is like buying a used car. The money goes to the person that owned them before.
I like this point. When you buu a used car, you are supporting the company that made the car, since you creat demand for its cars in general. Buying new is more direct support to the company but is far less common. (Also, "IPO investing" is something that is very risky and not for most investors)

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