If you are thinking about investing for the future, chances are you want equities to be a part of that investment strategy. Donna Carroll of Banks Carroll Group said that equities are a popular investment choice for those wanting to build wealth because they outperform most other investments over the long term. “Besides, being a shareholder in some of the companies is exciting,” she said.
Although they are a popular tool for growing wealth, only 43% of Americans own stock, according to a 2016 Bankrate.com survey. This helpful guide will give beginners a launching point for further investigation into this great financial tool.
What is “Stock”?
The easiest way to understand stock is to think of it as a piece (or “share”) of ownership in a company. In other words, holding stock in a company means that you are one of many owners (or shareholders) of that company and have a (usually very small) claim to everything the company owns. The more stock you acquire from a specific company, the more of the company you own. As a shareholder, you do not generally get a say in the day-to-day operations of the company. Instead, the company’s management is supposed to increase its value for you. When they do, you as a shareholder are entitled to a portion of those profits. These profits are sometimes paid out in dividends (a distribution of a portion of a company’s earnings).
Why do Companies Issue Stock?
Companies issue stock for one reason: they need to raise money. They can do that either by borrowing it (aka issuing bonds) or by selling part of the company (aka issuing stock). Issuing stock is a good option because the company is not required to pay back the money or make interest payments along the way. Instead, shareholders buy stock in the company with the hope that the shares will be worth more than they paid for them someday.
What is the Risk?
It is important to understand that there are absolutely no guarantees when it comes to buying stock in individual companies. Any company can lose value or even go bankrupt. As a shareholder, that bankruptcy would make your investment worth nothing. “There are always risks with any investment,” said Carroll. “The stock market is emotional and unpredictable. It would be great to have a crystal ball, however being smart and diversifying can help with the volatility in the markets.”
In thinking about diversification, Carroll said that an individual’s investments will depend on their goals and their risk assessment. “In any portfolio, you want to have a mix of equities and fixed income,” she said. “We do this by using a mix of mutual funds and ETFs [exchange-traded funds].” This way, if one company or sector plummets, you still have other investments to hold you afloat.
How do Stocks Trade?
Stocks are generally traded on exchanges where buyers and sellers meet and decide on a price. Some exchanges, like the New York Stock Exchange, are physical places where the buying and selling is done on a trading floor. Other exchanges, like the NASDAQ, are virtual and made up of a network of computers where trades are made online.
How do You Actually Buy Stocks?
The most common method of buying stock is to use a brokerage firm. Although more costly, full-service brokerages offer you expert advice and can fully manage your account for you. Companies often offer free consultations to prospective clients to review their current investments and explain the types of services available to help with financial planning. Alternatively, discount brokerages (many of which are available online) are cheaper, but you do not get personal advice or account management assistance.
How Much Money do I Need to Start Buying Stocks?
You are really only limited by the minimum amount required by your brokerage firm to open an account. Some have no minimum account balance, while many have requirements of $100 or more. Whether you have a lot or a little, the money has to be invested to actually be working for you. Otherwise, you will lose value to inflation. “If you don’t have a large amount to start investing, you can always start by adding monthly or quarterly to an account,” said Carroll.
Aside from the cost of buying a single stock, you have to think about how many stocks you can actually buy. A study published in The AAII (American Association of Individual Investors) Journal suggests that you need a minimum of 15–20 securities (stocks, bonds, etc.) to build a diversified portfolio. Buying fewer (especially less than 10) greatly increases your risk of being negatively affected if you have a sharp decline in a single stock. This is why some people prefer investing in mutual funds instead of individual stocks.
Regardless of how much money you have to invest, Carroll recommended that everyone start saving for their retirement and financial goals as soon as possible. “If you have a 401k with your employer, always participate,” she said. The more time you have on your side, the better it is for the growth of any portfolio.
*This article is for informational purposes only. Please refer any specific questions about your stocks to your financial adviser/broker.
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