What Are Stocks?
Put in the most basic terms a stock is a small piece of a company. By buying a stock you are buying a small piece of ownership of that company that has issued the stock.
While it is possible to buy stocks of a private company, when most people talk about stocks they are referring to publicly traded stocks. While the vast majority of corporations are privately owned, larger corporations that are looking to expand further may consider “going public”. When a company goes public, the owners of the corporation issue shares or stock to be sold to the public. This is referred to as an Initial Public Offering (or IPO in finance terms). After the IPO, purchasers of the stock can resell the shares on a stock market, such as the New York Stock Exchange.
How Do You Make Money from a Stock?
There are two primary ways you as an owner of a stock can make money.
1. Dividends
2. Growth of the Stock Price
When a company has profits it may choose to pay all or some of those profits to it’s shareholders (owners of the company’s stock) through dividends. Dividends are a company’s way of incentivising people to invest in their company.
The other way investors make money from stocks is through growth in the stock price. A companies stock price generally increases in value when it’s profits increase or if its profits are expected to increase.
Let’s say you buy a share of stock of “Company-A” for $100. 3 months later Company-A reports a 200% increase in profits. This would result in the demand for the stock of Company-A to increase (people love to jump on the bandwagon). With the increased demand for the stock, comes more competition and a higher stock price. The stock you purchased for $100 3 months ago could be worth $200 or more if you sold it today.
Why Would a Company Want to Issue Stock?
OK, so we have a good handle on why an investor would want to purchase stock, it sounds like a sweet deal (when corporate profits are up). But what is in it for the company? Why would the founders of a company want to give up ownership and pay out profits to shareholders?
The primary reason a company would issue an IPO and “go public” is to raise capital. If the price of the shares is high enough, the money brought in by the company through the initial shares it sells could be enough to finance significant R&D projects, pay down debt or other significant investments that will help the company grow and expand. Companies that go public can finance these investments without incurring debt, which helps the companies cash flow.
Common Stock VS Preferred Stock
Generally speaking there are two types of stocks an investor can own; common stock and preferred stock.
If you own any stocks, its more than likely you own what is called common stock. The majority of stock that most companies issue are common stocks. Common stocks generally give an investor voting rights within the company. How many votes you get will be dependent upon how many units of the companies stock you own. Many investors who are only owning stock to receive dividends and gain through capital appreciation of the stock price do not exercise their right to vote at shareholder meetings.
Preferred stock holders on the other hand, generally do not have voting rights. They do however have first claim (or a preferred claim) on the companies assets. If the company goes bankrupt preferred stockholders are typically paid before common stockholders.
So there you have it, a very brief overview of stocks. If you want to dive into a bit more detail on stock-related topics check out
This article on mutual funds and;
Questions, comments, discussion points, things you think I should write about in the future? Leave a comment below!
This article is for informational purposes only, it should not be considered Financial or Legal Advice. Consult a financial professional before making any major financial decisions.
