Investing 101: What Is a Stock?

What Are Stocks?

If you own stock, you own part of a company. It's as simple as that. Those shares are literal shares in the success (or failure) of a company. If the company does well, you can benefit from its growth, as the value of the stock increases and sometimes, when it pays out profits as dividends.

Of course, in practice, investing in stocks is more complicated than that -- or everyone would do it.
If you'd like to get started, here's a basic overview of what you'll need to understand before you invest directly in the market:

Stock Equals Ownership. The reason people want to own part of a publicly traded business is that stock entitles investors to a share of that business' earnings and assets.

Stockholders make money from their shares in two main ways: growth and dividends. If a company is growing and making more money (or is simply perceived as being more valuable), its stock price rises. (If this were remotely a simple linear formula -- profits + growth = higher prices -- we could all go home. When speaking of stock prices, some financial gurus talk about the market being influenced by "animal spirits," which is a clear way of saying that your stock price has some voodoo in it. Still, the basic principle is right.) Some stocks also pay out dividends -- a sum of money that's paid out to shareholders on a regular basis, usually quarterly. These payouts usually come out of the company's profits.

A share of stock used to be represented by a piece of paper known as a stock certificate, which proved that the investor owned a share of the company. Today, of course, stock certificates are electronic, which makes trading –- or buying and selling -– much easier. (And odds are, if you do buy stock, those electronic certificates won't technically be held in your name. Don't worry. Your stock is still yours.)

Stocks are bought and sold on through stock exchanges, which exist to make it easier for buyers and sellers to connect. There are two major exchanges in the United States: the New York Stock Exchange and the National Association of Securities Dealers, better known as the NASDAQ.

How Does This Benefit Corporations? On the surface, it might seem like corporations that sell stock would be the losers in the arrangement, as it means they're sharing their profits and assets with shareholders. But selling stock is a way of raising money without having to borrow it from a lender that will charge them interest. For corporations, this is often a smart way to expand their business.

Selling stocks is known as equity financing. It doesn't require the corporation to pay the money earned back, and it involves no interest payments. It also minimizes the financial danger of the company's original owners; it's allows them to take some of their fiscal eggs out of that one risky basket, and invest elsewhere. Then, if the business fails, having shareholders means the losses are spread among all the investors.

No Guarantees. Because corporations aren't responsible for paying back the money that others invested in their stock, the risk is transferred to the investor. There's no guarantee that the share you might purchase today will be more valuable tomorrow -- or be worth anything at all.

Navigating the Stock Market. There are risks to investing in the stock market, but that doesn't mean you should avoid it. In the financial world, higher risk usually means higher rewards, and historically, investing in the stock market has earned a higher return than investing in generally safer instruments such as bonds. But trying to buy and sell individual stocks on your own can be a tremendous amount of work (not to mention intimidating). The average investor has some options available, like investing in a mutual fund or an ETF, which make getting into the stock market easier. (What's a mutual fund? And what's an ETF? Glad you asked. Click on the links, and we'll explain.)

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Kosanya Deakotz

January 22 2014 at 5:34 PM Report abuse rate up rate down Reply