What is a Stock?

You have probably heard of stocks at some point, although it is not always initially clear as to what they are and why people care about them.

So what are they? Why would anyone purchase a stock? How does someone purchase one? How risky is it?

By the end of this article, all of these questions and more will be answered and you will be ready to purchase your very own stock!

What is a Stock?

To put it simply, a stock is a partial ownership of a company. Companies can decide how much stock they would like to sell, and each individual stock is called a share.

Example:

Let’s say a company called Jake’s Ice Cream is selling 10 shares of stock for $1.00 a share.  If I decide to buy one share of Jake’s Ice Cream stock, then I would own 1 of 10 total shares.

1/10 = 0.10 or 10%, so after this purchase I own 10% of the company Jake’s Ice Cream.

A person who buys a stock is called an investor.  By buying a single share of Jake’s Ice Cream, I have invested my $1.00 into the company.

A person who owns a company’s stock is called a shareholder.  Because I now own a single share of Jake’s Ice Cream (I am holding a share), I am a shareholder in the company.

Why Would a Company Sell Stock?

Selling stock is one way a company can raise money so that it can grow to become a bigger business.

Example:

If Jake’s Ice Cream sells all 10 shares of stock for $1.00 per share, then Jake’s Ice Cream just raised $10.00 which it can now use for the business.  The $10.00 can be used to purchase more ice cream, buy advertising, or maybe research a new ice cream flavor.

Why Would Anyone Buy Stock?

Investors purchase stock with the hope that the company will increase in value, and in turn, raise the value of the stock they purchased.

Example:

Let’s say Jake’s Ice Cream took the $10.00 it made from selling stock and used it to purchase fliers to post all over town, advertising the business.  These fliers cause more customers to visit Jake’s Ice Cream, and this causes the company to sell more ice cream than it ever has before.

Because Jake’s Ice Cream is selling more ice cream, the value of the company goes up to $20.00.

Because I own 10% of the company, my stock is now worth 10% of $20.00.

$20.00 x 0.10 = $2.00, so my single share is now worth $2.00.

If I like, I can now sell this stock to somebody else for $2.00, and I will have $1.00 more than when I first started.  I could also keep my stock in hopes that it will continue to rise in value.

This is the core of buying and selling stocks: investors buy stock and then sell it at a higher value to make a profit.

How Can I Buy Stock?

Buying stock requires a broker. A broker is a person or entity that receives an order from you to buy a certain stock, and then they purchase it for you. Today it is easier than ever to buy stocks, as online brokers are quite numerous. Some of these include Etrade, TD Ameritrade, and Robinhood for starters.

Most brokers require an additional payment for their service, called a commission.  The amount required varies depending on the broker.

Robinhood is my personal favorite, as they are commission-free, meaning you do not have to pay them anything other than the price of the stock in order to invest.  To learn more about this specific online broker and receive a FREE stock, check out our article on Robinhood here: Free Investing with Robinhood.

How Risky are Stocks?

The stock market is known for being a riskier form of investing. This is because if a company makes poor decisions, or if the demand for the business changes, than the company could lower in value. This would cause the stock price to lower in value.

Example:

After purchasing my share of Jake’s Ice Cream, they forget to clean their ice cream maker and one of their customers receive food poisoning. This would most likely cause people to stop buying ice cream here, and this in turn would lower the value of Jake’s Ice Cream.

If the value of Jake’s Ice Cream is now only $5.00, my 10% of the company is now only worth $0.50. I have lost $0.50 from when I first invested.

There is always a level of risk when it comes to investing in stocks, but this risk can be reduced with research, careful planning, and something called diversifying, which we have written about in great detail here: What Does it Mean to Diversify?.

The possible gains to be made from investing in the stock market make the risk worth it for most investors.

 

This ends our introduction to stocks! If you have never invested before, then you are now one step closer to being an investor. As mentioned earlier, if you would like to receive a free stock on us, then check out our article on Robinhood here:

Free Investing with Robinhood (the link for your free stock is at the bottom of the post)

Thank you for reading!