Last updated September 21st, 2019.5 minute read
If you’re new to investing (or even if you aren’t!), you might ask yourself: what does a stock represent?
Simply put, a stock represents a share in the ownership of a publicly-traded company. That’s why you might sometimes hear them referred to as “shares.”
Stocks can come either in the form of preferred stock or common stock.
Investing terminology can get a little jargon-y at times, but don’t let that scare you. Thought things can be a bit complicated at times, the more basic concepts don’t have to be.
Let’s dig a little deeper into what stocks represent.
If you’re wondering about the difference between a stock and a share, there really isn’t one. Or, to be more clear, these aren’t mutually exclusive ideas.
Stock represents ownership of a publicly-traded company. Therefore, a share is simply a single unit of that stock. Many things can cause the value of a stock to fluctuate, including the perceived value of the company as well as market conditions.
Initial Public Offering
If you’re wondering how companies issue stock in the first place, it starts with an initial public offering, or IPO. In many cases, companies can exist for years before ever having an IPO.
As the name suggests, an IPO is a single day on which stock is initially offered to the public. This IPO investment allows individual investors and other companies to buy a piece of the company going public.
Companies typically offer shares in order to raise capital to fund projects. They also do so to grow the company. Oftentimes, IPOs are highly speculative. Although a company offering an IPO might seem quite valuable, determining the “true” value of a company is a very difficult task.
The shares bought during the initial public offering can then be bought and sold on the open market.
Stock Represents Voting Privileges
One of the most important features of stocks is voting privileges. These voting rights allow shareholders to vote in company decisions.
This means that shareholders who own more stock have more voting power. This makes sense since they are more heavily invested in the company.
Stocks Represent Ownership
In addition to voting rights, shareholders own the company. For example, if the firm offers 1,000 shares and you buy 100 of them, you now own 10% of the company. This ownership gives you more rights in some cases than others.
This is one of the biggest differences between preferred stock vs. common stock. Preferred stock is given higher priority for dividends.
Because shareholders own the company, they also claim rights to company assets in the event of a liquidation. In a very real sense, shareholders are entitled to those assets in such cases.
Although a company’s initial public offering (IPO) is when it first offers shares to the public, that is not the only time this happens.
Companies may offer additional shares at any point after the additional IPO. They usually offer additional shares for the same reasons thy had an IPO.
Note issuing additional shares could dilute the existing shareholders’ stake in the company.
Stocks Represent Growth Potential
Another one of the benefits of stocks is their growth potential. While money might be less volatile in a savings account for example, it probably won’t grow very much there.
Stocks, on the other hand, usually grow in the long run. The 100-year history of the stock market shows a clear upward trend. Sure, there have been periods of time when the market shrunk. Still, we can see from this chart that the market has grown to nearly 20 times its 1918 size.
Keep in mind that this history is also the entire stock market. Plenty of individual companies have failed in this time period. That’s why total market index funds are so nice. Even if many of the companies that are a part of that fund fail, your money will likely still grow overall.
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Hopefully you have found this information useful. Stocks can seem complicated, but they don’t have to be!