The question “What is a stock?” is an important one to answer. Stocks are a key factor of most types of retirement plans, and can be leveraged as an additional source of income during your working years. In this blog, La Ferla Group explains what stocks are, what it means to own them and how to make money from them.
What is a Stock?
A stock is simply a small share of a company. Once a company goes “public,” people have the opportunity to buy shares of it, called stocks. Those shares can then be traded to other investors on markets such as the New York Stock Exchange or NASDAQ.
Stock prices are determined based on a number of factors, such as supply and demand, and positive or negative company news. Prices fluctuate over time, making it necessary for potential investors to consider their risk tolerance and asset allocation models before investing.
What is a Stock Owner Entitled to?
Does stock ownership equate to company ownership?
When you own stock in a company, you technically own part of that company. However, the stock shares you own don’t mean you’re the boss of the company, or that you own the company’s supplies.
Most well-established companies are divided into millions, even billions of shares. The stocks owned by most individual investors pale in comparison to the aggregate number of shares. In other words, the average investor has minimal influence over corporate issues.
What rights does stock ownership grant?
In general, public companies issue two types of stock: common and preferred. Both types of stock grant shareholders the right to share in the profitability of the company, but there are a few differences.
Common stockholders
One of the major differences between the two is that common stockholders have the right to vote in some corporate matters, such as the election of company board members and other major issues.
Preferred stockholders
While they sacrifice their right to vote on corporate issues, preferred stockholders are typically first in line to receive payment in the form of dividends, which will be explained later in this blog.
In the event that the company is liquidated, preferred stockholders may liquidate their shares before common stockholders. This makes it more likely they will get their money back.
How do you Make Money from Stocks?
Capital Gains
When people think of making money from stocks, they tend to think about capital gains. Capital gains occur when a stock is purchased at a given price, then the price increases. Once the stock has been sold, the gain is realized.
Capital losses are the opposite. If a stock is purchased at one price, then the price decreases, a loss is incurred.
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Dividends
Dividends are portions of company profit paid to stockholders, usually quarterly. They may be paid in the form of cash or additional shares of stock.
Companies pay dividends for two main reasons:
- To show appreciation for current shareholders
- To signal to potential investors that the company is financially healthy
Not all companies pay dividends. For example, companies that are still growing may choose to reinvest their dividends to continue their expansion. It’s often relatively older, more established companies that pay dividends.
The stock market is complex. It is highly recommended that prospective investors conduct their own research, as well as consult with a Certified Financial Planner™ to have the best chance at meeting financial goals.
