A stock (also called equity) is essentially a piece of a corporation. This security gives its owner the right to a portion of the corporation's assets and profits. This portion is equal to how much stock they own.
Units of stock are called "shares." When private corporations go public through an initial public offering (IPO), they will have to sell their stocks to raise capital to fund their businesses. There are two main types of stocks: common and preferred.
Stocks are usually bought and sold on stock exchanges. However, investors can buy stocks privately as well (for example, in small, unlisted companies).
How can I use stocks/equities when investing?
- You can receive dividends from the issuing corporation. A dividend is a distribution of profits (if there are any) by a company to its shareholders. Any amount not distributed is usually re-invested in the business (this is called retained earnings). Thus, when a company's earnings increase, it is a good buy signal as you can expect to receive a higher dividend if the proportion of dividend to the corporation's profits does not change. Furthermore, suppose you possess preferred stocks of a corporation. In that case, it means that you are a preferred stockholder and you will be the first to receive dividends when the company issues them, as compared to common stockholders, who may not receive any dividends if the company does not do well.
- You can also earn a profit through capital appreciation – an increase in the stock price. This is called "going long". For example, if you had purchased Apple's stocks when it went public in 1980, you would have gained an astounding return of 112,900% due to the stock price's massive capital appreciation over the years. However, investing in stocks does not always guarantee a positive return as high market volatility caused by events like the recent COVID-19 pandemic can cause massive drawdowns. If you had decided to invest in any corporation's stocks before the March crash, you would have suffered an initial loss.
- You can also make a profit by "shorting" a stock that you believe has a negative outlook. However, bear in mind that going short is much riskier than going long: your losses are potentially unlimited. In the long-term, as corporations grow bigger, there is also the possibility that passive investment funds start buying their stocks to include in their holdings. This can distort the demand for the stock and keep pushing its price automatically higher.
Debt to Equity Ratio
Used to evaluate a company's financial leverage and is calculated by dividing a company's total liabilities by its shareholder equity.
Profit is the financial benefit realized when revenue from a business is higher than the costs and taxes involved in operating that business.
Alternative investment class composed of funds that invest directly in private companies or that buy public companies and take them private
Time of declining economic activity, lasting more than a few months, normally visible in real GDP, real income, employment, industrial production, and sales.
A stimulus package is a coordinated effort by the government to increase spending and investment to "stimulate" an economy out of a downturn.
Shorting a stock
Trading strategy that tries to take advantage of the decline in a stock price by borrowing a stock and sell it now while planning to repurchase it later for a lower price.
Market-capitalization-weighted index tracking the performance of the 500 largest U.S. companies