Why Do People Buy Shares?
There are many reasons why someone might choose to purchase shares of stock in a company, but the ultimate goal of any investor is to make money. Corporate stock offers the opportunity to earn income while providing valuable capital for a company or a cause you support.
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What is a share?
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A share, also known as stock or equity, represents a portion of the ownership of a company. Companies sell shares to raise capital -- the money needed to run their businesses. In return, they promise shareholders a portion of the profits equal to what they put in. If a company has 10,000 shares representing the total ownership, and you purchase 100 of them, you are entitled to receive one percent of the company's profits. This is a dividend.
Opportunities for Investors
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Once a company issues shares of stock and investors purchase them, several things might happen to make money for shareholders. The first is the dividend. When the company makes a profit, it can choose to distribute that profit to shareholders in the form of a dividend. The company can distribute dividends as cash, or by giving investors more shares.
The second thing that might happen is an unrealized capital gain. In this case, the company puts the profit it earned back into its operations, increasing the value of the company. This means that the portion of the company you own is now worth more than what you paid for it, and the share price will reflect this. Unrealized capital gain also occurs when the perceived value of the company grows, and other people are willing to pay more for the shares, causing the price to go up. If you choose to sell your shares and make a profit, you realize the capital gain.
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Risks of Purchasing Shares
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Of course, companies do not always perform well. Economic downturns, poor management and bad luck can all reduce the perceived and actual value of a company. If this happens, the value of your shares may become less than what you paid for them. This is an unrealized capital loss. If you choose to sell your shares, you will not regain the money you invested and will have a realized capital loss.
Types of Shares
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Investors typically refer to stocks as "growth" or "income" stocks. Growth stocks do not pay dividends. Smaller companies usually issue them, looking to grow their businesses quickly. Income stocks, typically issued by more mature companies, pay out regular dividends. In addition, company size determines stock classifications: small cap, mid cap and large cap.
Considerations When Purchasing Stock
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If you choose to purchase stock, carefully consider the nature of the company in which you plan to invest. Remember, as a stockholder you will own part of the company and earn income based on its performance. Large, established companies are less vulnerable to economic instability, and small start-ups may grow or fail very quickly. While stocks of new companies are often less expensive and have more potential for high profits, they also carry a higher risk for loss.
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