The Fundamentals of Investing in Stocks
We’ve seen it all in some movie or other, or if you’re following the news about the ongoing global crisis, then chances are you’ve heard of things like shareholders’ meetings, management shake-ups, aggressive buying, hostile takeover, bearish market, etc. We all have a vague idea of how it might be profitable to own stocks, or how lucrative but risky “playing the stock market” can be. To really get an idea of what it all really means though, you need to read up.
What does it mean to own stocks?
A company that is looking to expand but is in need to big amounts of money fast, has two ways to raise the money, the first is by taking out a loan. The technical term for such large long term loans is debt financing. Long term debt financing refers to money borrowed for permanent assets such as buildings, expensive equipment, constructions, etc.; while short term debt financing refers to money borrowed to handle operating costs, like payroll, supplies, rentals, and the like. This is fairly straightforward, as with any loan the company borrows money, and pays it back over time with interest.
The second way is to “go public” and sell stocks. A stock is a piece of the company, when you buy stocks of a company; you effectively become part owner of the company. As a part owner, you will be entitled to a percentage of the company’s net profits, equivalent to the percentage of the company your stocks represent. As this involves a lot of money, going public is not a simple process, the company must be scrutinized to make sure the stocks are sold at a value that really represents their worth.
Why is it good to own stocks?
There are two ways to earn from stocks, the first is by yearly dividends. To make significant money that way though, you need to own a huge amount of stocks. The stories you hear about fortunes made “playing the stock market”, are of people who buy stocks, when a company’s value is low, then suddenly have the good fortune of having their stocks increase in value astronomically in a short period of time, they then turn around and sell these stocks, instantly getting ridiculous returns, at times several times what they invested. Such events are rare, and impossible to predict accurately, fortunes such as these are much like winning a lottery or making a killing at a casino.
How involved can a stock holder be in a company?
When it comes to stocks and influence with a company, the more you own, the more influence you have. The weight of votes on company issues is not measured by head, but by the percentage of stocks owned. Even on companies with a board of directors that must be elected, the selection process favors those who own bigger chunks of the company.
Are there big risks related to owning stocks?
Yes there are risks involved in owning stocks, but the stories of fortunes being lost on stocks are also a bit of an exaggeration. To “lose your shirt” on the stock market, you’d have to foolishly gamble all you personal funds on stocks of a company that suddenly goes “belly up” in a matter of hours. If you invest reasonably and soberly, then your risks are mitigated. When a company you own stocks of goes under, you don’t lose anything more than the actual stocks.
Typically if you want to earn dividends, invest in a stable established company. Whether or not the stocks appreciate much, you can be sure of annual earnings. If you want to make money buying and selling, there is one universal “common sense” rule that traders live by: Buy low sell high. Again though, this type of earning has been likened to taking your money and blowing it in a casino.
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