Shine trader limited reports:
If the thought of investing in the stock market scares you, you are not alone. Individuals with very limited experience in stock investing are either terrified by horror stories of the average investor losing 50% of their portfolio value—for example, in the two bear markets that have already occurred in this millennium1 —or are beguiled by “hot tips” that bear the promise of huge rewards but seldom pay off. It is not surprising, then, that the pendulum of investment sentiment is said to swing between fear and greed.
The reality is that investing in the stock market carries risk, but when approached in a disciplined manner, it is one of the most efficient ways to build up one’s net worth.2 While the value of one’s home typically accounts for most of the net worth of the average individual, most of the affluent and very rich generally have the majority of their wealth invested in stocks.3 In order to understand the mechanics of the stock market, let’s begin by delving into the definition of a stock and its different types.
Stocks, or shares of a company, represent ownership equity in the firm, which give shareholders voting rights as well as a residual claim on corporate earnings in the form of capital gains and dividends.
Stock markets are where individual and institutional investors come together to buy and sell shares in a public venue. Nowadays these exchanges exist as electronic marketplaces.
Share prices are set by supply and demand in the market as buyers and sellers place orders. Order flow and bid-ask spreads are often maintained by specialists or market makers to ensure an orderly and fair market.
Definition of ‘Stock’
A stock or share (also known as a company’s “equity”) is a financial instrument that represents ownership in a company or corporation and represents a proportionate claim on its assets (what it owns) and earnings (what it generates in profits).4
Stock ownership implies that the shareholder owns a slice of the company equal to the number of shares held as a proportion of the company’s total outstanding shares. For instance, an individual or entity that owns 100,000 shares of a company with one million outstanding shares would have a 10% ownership stake in it. Most companies have outstanding shares that run into the millions or billions.
Common and Preferred Stock
While there are two main types of stock—common and preferred—the term “equities” is synonymous with common shares, as their combined market value and trading volumes are many magnitudes larger than that of preferred shares.5
The main distinction between the two is that common shares usually carry voting rights that enable the common shareholder to have a say in corporate meetings (like the annual general meeting or AGM)—where matters such as election to the board of directors or appointment of auditors are voted upon—while preferred shares generally do not have voting rights. Preferred shares are so named because they have preference over the common shares in a company to receive dividends as well as assets in the event of a liquidation.5
Common stock can be further classified in terms of their voting rights. While the basic premise of common shares is that they should have equal voting rights—one vote per share held—some companies have dual or multiple classes of stock with different voting rights attached to each class. In such a dual-class structure, Class A shares, for example, may have 10 votes per share, while the Class B “subordinate voting” shares may only have one vote per share. Dual- or multiple-class share structures are designed to enable the founders of a company to control its fortunes, strategic direction and ability to innovate.6