What Are Stocks?
Stocks are a type of security that gives stockholders a share of ownership in a company.
Companies sell shares typically to gain additional money to grow the company. This is called the initial public offering (IPO). After the IPO, stockholders can resell shares on the stock market.
Stock prices rise or fall and are typically driven by expectations of the corporation’s earnings, or profits.
Types Of Stocks
There are two main kinds of stocks, common stock and preferred stock.
- Common Stocks
Common stock entitles owners to vote at shareholder meetings and receive dividends.
- Preferred Stocks
Preferred stockholders usually don’t have voting rights but they receive dividend payments before common stockholders do, and have priority over common stockholders if the company goes bankrupt and its assets are liquidated.
Common and preferred stocks may fall into these commonly used categories:
- Growth Stocks
Growth stocks have earnings growing at a faster rate than the market average. They rarely pay dividends and investors buy them in the hope of capital appreciation. A start-up technology company is likely to be a growth stock.
- Income Stocks
Income stocks pay dividends consistently. Dividends are a portion of the company’s earnings paid to shareholders. Investors buy them for the income they generate. An established utility company is likely to be an income stock.
- Value Stocks
Value stock shave a low price-to-earnings (PE) ratio, meaning they are cheaper to buy than stocks with a higher PE. Value stocks may be growth or income stocks, and their low PE ratio may reflect the fact that they have fallen out of favor with investors for some reason. People buy value stocks in the hope that the market has overreacted and that the stock’s price will rebound.
- Blue-Chip Stocks
Blue-chip stocks are shares in large, well-known companies with a solid history of growth. They generally pay dividends.
Potential Benefits Of Investing In Stocks
The potential benefits of investing in stocks include:
- Potential capital gains from owning an stock that grows in value over time
- Potential income from dividends paid by the company
- Lower tax rates on long-term capital gains
Potential Risks Of Stocks
The potential risks of investing in stocks include:
- Share prices for a company falling, even to zero
- If the company goes broke, you may be the last to be paid, so you may not get your money back
- The value of your shares will go up and down, and the dividend may vary
Buying And Selling Stocks
The following are the most common ways to buy stocks:
- Direct Stock Plans Through Companies
Some companies allow you to buy or sell their stock directly through them without using a broker. Some companies limit direct stock plans to employees of the company or existing shareholders. Some require minimum amounts for purchases or account levels.
- Dividend Reinvestment Plans
These plans allow you to buy more shares of a stock you already own by reinvesting dividend payments into the company. You must sign an agreement with the company to have this done. Check with the company or your brokerage firm to see if you will be charged for this service.
- Discount Or Full-Service Broker
Brokers buy and sell shares for customers for a fee, known as a commission. Many brokers run websites where you can buy stocks.
- Stock Funds
Stock funds are another way to buy stocks. These are a type of mutual fund that invests primarily in stocks. Stock funds are offered by investment companies and can be purchased directly from them or through a broker or adviser.
Before investing in a stock it’s a good idea to research the company and the stock’s performance history.
Information you should consider researching include:
- Annual Reports
One of the best sources of information is a company's annual report. Review a company’s annual report to learn about its business activities, whether it’s making a profit or loss, and the company’s strategy for the future..
Companies issuing shares are required to file a prospectus with the U.S. Securities and Exchange Commission. A prospectus is a formal legal document that gives details about the investment.
- Stock Reports
There are various reports available about a stock’s performance. Ask your stock broker or investment adviser for more information.
Work With Licensed Professionals and Registered Products
Investment professionals need to be licensed with the Washington Department of Financial Institutions (DFI). In addition, most investment products sold need to be registered with DFI. To check the licensing status and to find out if there are any complaints against an investment professional or investment product, contact the Washington State Department of Financial Institutions at 1.877.RING DFI (746-4334).
If you live outside of Washington state, contact your state securities regulator.
Questions you should ask about the investment and professional selling the investment:
- Is the investment registered?
- Have investors complained about the investment in the past?
- Have the people who own or manage the investment been in trouble in the past?
- Is the person selling the investment licensed in my state?
- Has the person selling the investment been or trouble with the state in the past?