Stocks: The Slice of the Company You Own

A stock, also called equity, is a share of ownership in a company. Buying one makes you a part owner of the business itself, not a lender to it. A bondholder holds a receipt for money lent, while a stockholder holds a slice of the company. 1

Companies sell stock to raise money. Investor.gov lists what they do with it: pay off debt, launch new products, expand into new markets, or build new facilities. 1

An owner can be paid in two ways. The price of the slice can rise, and that gain becomes money only when the share is sold. Or the company can distribute part of its earnings as a dividend. Not every company pays one: growth stocks rarely do, while income stocks pay consistently. 1

Stock is not one single thing. Common stock usually carries votes at shareholder meetings and can receive dividends. Preferred stock usually gives up the vote but is paid before common stockholders. 1

There is no guarantee that the company whose stock you hold will grow and do well, so money invested in stocks can be lost. Large company stocks as a group have lost money on average about one year out of every three. A price moves for reasons inside a company, such as a faulty product, and for reasons it cannot control, such as political or market events. 12

An owner also stands at the end of the queue. If a company goes bankrupt and its assets are liquidated, bondholders are paid first, then preferred stockholders. Common stockholders receive whatever is left, which may be nothing. 2

Nothing insures a stock against falling in price. FDIC insurance covers deposits, not securities. If a brokerage firm fails, the Securities Investor Protection Corporation can replace missing stocks in customer accounts, up to $500,000 including up to $250,000 in cash. That does not cover a price decline. 2

Two habits recur in the SEC's beginner material. Diversification spreads money across many investments rather than one, which the SEC sums up as not putting all your eggs in one basket. Asset allocation is the wider decision about how much sits in stocks, bonds, and cash, and the SEC says it depends on a personal time horizon and risk tolerance. 3

Funds make the spreading easier. Mutual funds and exchange-traded funds pool money from many investors, so one purchase holds a small portion of many investments. A narrowly focused fund may not diversify much, and two funds can hold the same large companies. 3

Before buying a slice, know whose company it is, whether you could hold it through a bad year, and whether you are buying one slice or a spread-out basket. Public companies file reports with the SEC every quarter and every year, and annual reports include financial statements examined by an outside audit firm. The filings are free to read in the SEC's EDGAR system. 1

This episode is educational only and is not registered investment advice. It does not recommend a particular stock, fund, or strategy.