What are Stocks?
A stock is a general term used to describe the ownership certificates of any company. A share, on the other hand, refers to the stock certificate of a particular company. Holding a particular company’s share makes you a shareholder. Stocks are of two types — common and preferred. The difference is, while the holder of the former has voting rights that can be exercised in corporate decisions, the latter doesn’t. However, preferred shareholders are legally entitled to receive a certain level of dividend payments before any dividends can be issued to the other shareholders.
Advantages of Stocks
Stock issues provide an important exit strategy to the company founders, early-stage investors, and employees. Typically, a company issues stock in various stages of private stock placements (small, private stock issues to smaller groups of investors) during the growth phase of its life cycle, which is when the company needs cash to fund its high level of growth. When the company reaches a level of stability and growth that begins to attract outside investor interest, the owners can generate large cash paydays for themselves and the employees by participating in initial public offerings (a company’s first sale of stock on a public exchange). These IPOs have the added benefit of making the company’s stock liquid which tends to boost returns.
Return on Investment
Historical returns related to stock market investments outperform many other types of investments. According to Vanguard, the historical average return on stocks from 1926 to 2017 is 10.3 percent. In contrast, the average return on bonds during the same period is 5.4 percent. Placing your personal finances in the stock market gives you the opportunity to grow your finances over the long term. Many well-established companies also pay dividends to their investors, which increases the overall return on investment.
Ownership Stake in a Company
Investing in the stock market is one of the easiest ways to become a minority owner within a company. When you buy shares of a company’s stock, you take an ownership stake in the business. Although the ownership percentage is relatively small, you receive the right to vote on certain business decisions and corporate leadership. Unlike some other types of businesses, you can easily exit out of your ownership stake by simply selling the shares to someone else desiring to invest in the stock market.
Disadvantages of Owning Stocks
When investing in the stock market, the higher the return, the greater the risk of losing money. Stock market prices are linked to the issuing company’s earnings. When a company is experiencing financial difficulties, the price of the stock can decline rapidly. Stock market volatility can lead to a substantial loss of investment. If the majority of the market is experiencing loss and leaving the market because of economic factors, you may find it difficult to sell your shares to someone else. Investing in the stock market is not like playing the lottery. You need to perform proper research and investment analyses to find the potentially profitable stock. For many individuals, investing in the stock market is a complex, time-consuming task. Even after you find a stock to buy, you must monitor the movement of the stock’s price. Although many investors implement a long-term buy and hold strategy, it is important to know when to exit a stock position if it turns out to be a bad investment choice.
Content: Kaif Ahmed
Graphics: Pradatta Nigamanshu
Editor: Prachi Prafull