The Basics of Investing: What is a Stock?

Before we get into mutual funds and other topics, let’s start with the very basics and talk about what a stock is and why you should be interested in buying shares of stock.  Shares of stocks are just what the name implies – they are a portion of ownership in a company.  If you own 1 share of GE, you are a partial owner of GE, meaning that you get a share of the profits they make, you get a partial say in how the company is run and what they do, and if they are ever bought by another company, you would get a share of the money when GE was sold.

The term, “shares of stock,” is used to indicate the amount of ownership, where the term, “stock,” is often used by itself when referring to the shares of stock for a particular company.  For example, you might talk about the “stock” of Apple going up in price, meaning the shares of stock for the whole company are selling for more money.  You might also talk about your “stocks,” referring to the shares of the different companies in which you have ownership.  You would say that you have “100 shares of Apple” if someone asked you about your ownership in Apple.  You would say that Apple was one of the “stocks” that you owned.

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Why would you want to own shares of stock?  Well, one of the easiest ways to become wealthy is to run a business.  This is because, when you own a business, your potential income is not limited by the salary that someone else is willing to pay you.  If you add customers, add locations, and add employees, you can increase the amount the business makes.  If the business makes more money, you as the owner, make more money.  You can either take a larger amount of the income that the business is making home with you or you can sell part or all of the business to someone else for more money since the business is making a larger profit.

For example, if a pizza restaurant you own is making a profit of $100,000 per year, you could take up to $100,000 home with you, investing the amount you don’t want to take home back into the business.  If you double sales and now make a profit of $200,000 per year, you could take up to $200,000 home.  If someone wanted to buy the business after you had increased the sales, they would also be willing to pay you more than they would have before the increase since they could make $200,000 per year instead of only $100,000 if they owned the business.

Many people don’t want to go through the hassle of owning a business.  It means you need to deal with suppliers, find customers, deal with employees, worry about you building and equipment, and worry about all of the business and tax paperwork.  Perhaps you want to work at a bank or in a middle-management job at a company where someone else worries about all of these things and you just get a paycheck.  Yet you still want to be able to increase your income.  Eventually, you want to get to the point where you don’t need to work anymore, instead just having money come to you like it would if you owned a business and had other people running it so that you could lie on the beach and collect the profits.

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Owning shares of stock allows you to do this.  You buy a partial interest in the company by purchasing shares of stocks.  You can thereby be a partial owner, getting a share of the profits, but not need to run the company.  Instead, the corporation hires managers who take care of the day-to-day details of running the company for you.  All you need to do is find companies that have good teams of managers and invest your money there.  (Theoretically you could also buy a company with bad managers and vote out those bad managers, but that is almost impossible with the way things are set up.  It is better to just sell your shares and go somewhere else where they managers are good if you don’t like the management team.)

You can buy a very small percentage of the company by only purchasing a few of the shares that have been issued, or you can buy a big portion of the company by buying lots of shares.  The number of shares you own divided by the total number of shares out there shows what percentage of the company you own.  Most of the time you’ll only own a very small portion of a company, but you’ll still be able to receive a return from the business, assuming it is profitable and able to grow, eventually sending you a portion of the profits the company makes a few times per year in a payment called a dividend.

So there you have it:  What a stock is and why you want to become a stock investor.  It gives you the ability to generate income like a business owner does without actually needing to open and run a business.

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Disclaimer: This blog is not meant to give financial planning or tax advice.  It gives general information on investment strategy, picking stocks, and generally managing money to build wealth. It is not a solicitation to buy or sell stocks or any security. Financial planning advice should be sought from a certified financial planner, which the author is not. Tax advice should be sought from a CPA.  All investments involve risk and the reader as urged to consider risks carefully and seek the advice of experts if needed before investing.

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