Supply and demand drive stock prices. The stock market is, first and foremost, a market, and prices are determined by supply and demand. Stocks whose companies record increased sales and profits each year are in the greatest demand, and investors bid up their prices. Stock of companies that are reporting losses and have few prospects for improvement have more sellers than buyers and their prices decline.

Growth stocks versus value stocks. The classic growth stock is a relatively young company whose earnings are rising rapidly; investors highly value its growth potential and it has a high P/E ratio. The company doesn't pay dividends because it can better use the money to expand in its business (and thus raise the stock price). Thus the total return an investor receives is likely to come entirely from capital appreciation. The classic value stock is a mature company with relatively slow growth that pays solid dividends. Thus the total return an investor receives will come from both dividends and a higher stock price, but the capital appreciation will likely be less than that for growth stocks. The stock price performance of growth and value stocks vary depending on the state of the economy. Shares of a value stock, like a consumer products company that makes toothpaste, perform better during a recession because everybody still needs toothpaste. Shares of a growth stock, like a new technology company, do better during boom times. Growth stock and value stock are relative terms, and many stocks cannot be easily labeled as one or the other.

Market capitalization. Stocks are also categorized by how much all of their outstanding shares are worth. The exact ranges vary over time, but generally speaking, large-capitalization stocks have market capitalizations (or "market caps," for short) of $5 billion or more. Mid-cap stocks have market caps of $1 billion to $5 billion, and small-cap stocks have market caps of less than $1 billion. As a general rule, large-caps provide less risk and more predictable dividends, while small-caps are riskier but provide better opportunity for capital appreciation. While investors of all ages will want stocks of varied capitalizations in their portfolios, younger investors can afford to invest more in small-cap stocks, while older investors want the security of the dividends and safety of large-cap stocks.

Market Sectors. Stocks are also grouped by their sector, i.e., the industry they are in or the part of the economy to which they belong (e.g., technology). A company's industry strongly determines how it will perform. Most of the companies that make toothpaste, for example, are large consumer products firms that have been around for a long while and produce moderate but stable earnings growth. In contrast, Internet companies like Google are much newer; their stocks are relatively volatile but often offer high growth.

Diversification. Successful long-term investors diversify their portfolio so that when some of their stocks are doing poorly, others do well. They diversify their portfolio by stock type (value versus growth), by market capitalization, and by sector. These categories overlap one another; but to give a simple example, investors want both small, high-growth-but-no-dividend, technology stocks and large, slow-growth-but-stable-dividend, consumer stocks in their portfolios. The proportion of each stock depends on each investor's investment objectives.

Buy different stocks in same sector. Even the stock prices of companies in similar industries with similar products can behave very differently, particularly because of real or perceived differences in the quality of the companies' management team. Thus investors often buy more than one stock within the same sector as well. Two excellent ways to do that is to buy index funds or ETFs (exchange traded funds). Index funds and ETFs are discussed below.

Foreign stocks. Stocks of non-US companies can provide diversity and strong returns, but they also put you at the mercy of often volatile international economies. Many new investors prefer to choose only U.S. stocks.

Dollar Averaging. Investors have various kinds of investment programs to ensure they keep on building their portfolios. One popular technique is dollar averaging, in which the investor adds a fixed dollar amount to the investment at regular intervals, regardless of its price. Since the price of a specific investment goes up and down, under dollar averaging more shares are bought when the price is low, and fewer when the price rises. Dollar cost averaging reduces the per-share price of an investment over time.