DEFINITION:
Stocks are investments that let you own a piece of a company that's publicly available for purchase.
Stocks represent ownership in companies that are available for purchase by the public. When you buy stocks, you become a part-owner of that company. For instance, if a company has 100,000 shares and you buy 1,000, you own 1% of the company. Owning stocks lets you benefit from the company's growth and gives you the right to vote on certain decisions. Other terms for stocks include shares and equity.
Businesses sell stocks to raise more money to expand, introduce new products, or settle debts. When a company first offers stocks to the public, it's called an "initial public offering" (IPO). Afterward, shareholders can sell their shares on the stock market, where prices change based on how many people want to buy or sell.
The price of a stock goes down when more people want to sell it, and it goes up when more people want to buy it. Usually, stock traders make decisions based on how they think a company will earn money. If they believe a company will make big profits, they'll pay more for its stock.
Investors make money by selling their shares for more than they bought them. But if a company doesn't do well and its stock price drops, selling it could mean losing some or all of your investment.
The profit made from selling a stock is known as "capital gains."
Shareholders can also make money through dividends. These are payments made by companies to their shareholders out of their profits. It's a way to thank the shareholders, who are the owners, for investing in the company. Dividends are crucial for companies that don't grow rapidly but still make profits.
Frequently, dividend-paying stocks are referred to as value or blue-chip stocks.
Another riskier way to make money from stocks is through derivatives. These financial contracts derive their value from underlying assets like stocks and bonds. Stock options, for example, give you the choice to buy or sell a stock at a set price by a certain date.
A call option grants you the right to buy at a fixed price. If the stock price increases, you profit by purchasing it at the lower price and selling it at the higher current price. On the other hand, a put option allows you to sell at a fixed price. You earn money when the stock price falls. In this scenario, you buy at the lower price and sell it for the agreed-upon higher price.
Many financial planners suggest that holding stocks for the long term in a diversified portfolio is a smart way to get good returns with lower risks.
There are two primary kinds of stocks: common and preferred.
Common stocks are part of indexes like the Dow Jones Industrial Average and the S&P 500. Their prices change based on when they're bought and sold. People who own common stocks can vote on important decisions of a company, like electing the board of directors or agreeing to mergers.
But, if a company faces financial trouble and needs to sell its assets, common stock owners are the last to receive money after bondholders and preferred stockholders get paid.
Preferred stocks are another type of ownership in a company, but without the power to vote on company decisions. People who own preferred stocks receive fixed dividend payments, so they know how much they'll get. These stocks can sometimes be changed into a different type of ownership.
Apart from those basic groups, there are other methods to sort and group stocks.
Stocks can also be categorized according to the types of companies they represent. These classifications cater to the diverse requirements of shareholders. Stocks can be grouped by industry sectors, such as:
Certain stocks can be categorized based on their potential and value. Growth stocks are anticipated to grow quickly, often without paying dividends. These companies might not be profitable yet, but investors think their stock prices will increase. Usually, these are younger companies with plenty of space to expand their business and make changes to their business model.
A value stock refers to a company whose stock price is lower compared to its basics, like dividends or other key measures. It's not anticipated that the stock price will increase significantly. These are often big, established companies that the market overlooks. Smart investors consider their prices undervalued considering what these companies offer.
Blue-chip stocks are solidly valued and may not grow rapidly, but they've shown to be dependable companies in steady industries for a long time. They pay dividends and are viewed as safer investments compared to growth or value stocks. They're also known as "income stocks."
