Chapter 2 - Understanding Stocks and Shares

Introduction to Stocks and Shares

Welcome to the world of investing, where dollars can grow wings and fly. In this chapter, we're diving into the fundamental building blocks of the stock market: stocks and shares. If you've ever wondered what it means to own a piece of a company, you're in the right place. We'll break down the complexities, making them accessible for all noobs out there!

Investing in stocks can be a powerful way to build wealth over time, but first, we need to get cozy with what stocks and shares really are, how they differ, and how they’re traded in the big leagues.

Definition of Stocks and Shares

What Are Stocks?

• Stocks refer to ownership in a company. When you buy stocks, you purchase a stake in that company, which means you have a claim on part of its assets and earnings.
• Companies issue stocks to raise capital for various activities, like expanding operations, launching new products, or paying off debt.

What Are Shares?

• A share is a single unit of ownership in a stock. If you own shares of a company, you own a fraction of that company.
• For example, if you buy 100 shares of XYZ Corp., you own a tiny piece of XYZ Corp. and have a right to vote on certain company decisions (like board members).

Example:

If ABC Inc. has 1,000 shares outstanding and you own 100 shares, you own 10% of ABC Inc. This ownership entitles you to a proportional amount of the company's profits during distributions known as dividends, as well as a say in company voting.

Different Types of Stocks

Common Stocks

• Common Stock is the most popular type of stock investors buy. It gives shareholders voting rights but comes with higher risk.
• Holdings in common stock typically mean you can partake in capital gains (increase in value) and dividends. However, in the event of liquidation (the company folding), common stockholders are last in line to get their money back.

Preferred Stocks

• Preferred Stock gives investors preference in terms of payments, particularly when dividends are paid.
• Holders usually do not have voting rights, but they have priority over common stockholders for dividends and during company liquidation.

Key Differences:

| Aspect | Common Stock | Preferred Stock | |-------------------|-------------------------------|---------------------------| | Voting Rights | Yes | No | | Dividend Priority | Last in line | Paid before common stock | | Risk | Higher risk, potential for more reward | Lower risk, stable dividends |

How Stocks Are Traded on the Stock Market

Stocks are bought and sold on stock exchanges, which are platforms that facilitate the trading of stocks. The two major types of exchanges include:

Major Stock Exchanges

• New York Stock Exchange (NYSE): The largest stock exchange in the world, known for its strict requirements for listed companies.
• NASDAQ: A global electronic marketplace for buying and selling securities, featuring many tech companies.

How Trading Works

1. Order Types:

   • Market Order: Buy or sell a stock at the best available price.
   • Limit Order: Buy or sell a stock at a specific price or better.

2. Bid and Ask Prices:

   • The bid price is what buyers are willing to pay for a stock, while the ask price is what sellers want to get. The difference is known as the spread.

3. Reading Stock Tickers:

   • A ticker symbol represents a company's stock. For example, Google is traded under GOOGL. Watching stock tickers can help investors track price changes in real-time.

Example of Trading:

Let’s say you want to buy 10 shares of a company trading at $50 on the NYSE:

• You place a market order, and in seconds, your trade is executed.
• Now, you own 10 shares worth $500.

Practical Exercises

Exercise 1: Research

• Objective: Identify common and preferred stocks.
• Action: Find two companies (one common stock, one preferred stock) and write down:
  • Their stock tickers
  • Current stock prices
  • Whether they pay dividends

Exercise 2: Simulated Trading

• Create a mock trading account using an online stock market simulator (like Investopedia or MarketWatch).
• Choose one common stock and one preferred stock to "buy".
• Track their performance for one week and observe changes in price.

Chapter Summary

You've just leveled up your understanding of stocks and shares! Here’s what we covered:

• Stocks signify ownership in a company, while shares are the units of ownership.
• There are two primary types of stocks: common (with voting rights and potential for growth) and preferred (with guaranteed dividends and less risk).
• Stocks are traded on exchanges like NYSE and NASDAQ, and understanding how to place orders is crucial for successful investing.

As you embark on your investing journey, remember that knowledge is your greatest asset. Keep exploring and stay tuned for the next chapter, where we'll unpack how the stock market operates!