Once you have a steady income and a solid savings program in place, you might consider socking away some of your money into some kind of investment. The jumble of gibberish-named options out there can -- thankfully -- all be categorized as one of two things: debt investments or equity investments. Debt investments, such as bank certificates of deposit or corporate bonds, involve loaning your money in exchange for interest payments, plus a return of your principal. In other words, you are the bank. Equity investments, such as shares of stock, represent an ownership position in a company. In other words, you own a piece of its assets, its profits and its future -- and if it loses money, it's your money it's losing.
An equity investment indicates ownership. You typically purchase an equity investment because you expect the value of the investment to increase, because you expect to obtain some other benefit from the investment, or a combination of the two. You probably bought your home with the expectation that it would increase in value, but you also expect to benefit from living in the home. So if the value doesn't increase as fast as you would like, it's not such a big deal. You probably bought your new car with the expectation that it would depreciate in value as soon as you drove it off the lot, but since you need the car to get to work, get to the grocery store and shuttle clients between job sites, the benefit of having the car outweighs the depreciation. If you borrowed money to pay for your home or your car, the difference between the item's fair market value and the amount you owe is your equity -- your free-and-clear ownership position.
Businesses may be organized in a number of different ways, including sole proprietorships, partnerships or corporations. A business may offer to sell a portion of its ownership by issuing stock. The most common form of stock is called -- oddly enough -- common stock. Common stock ownership allows you to participate in both the profits and losses of the company, and gives you the right to vote at the company's annual stockholders' meeting. Common stockholders are also shielded from personal liability for any lawsuits against the company, or for any losses that go beyond your ownership share's value. In other words, you may lose everything you sink into a company's common stock -- but you can't lose any more than that, even if the company's debts and liabilities go way, way deeper than your involvement.
A company's stock is divided into shares. Each share represents an equal amount of ownership in the company and is entitled to a participation in the company's profits and losses that is equal to every other share. If the company's board of directors declares a dividend, each share will receive the same amount. Each common share also entitles the stockholder to one vote at the company's annual stockholders meeting.
Shares of stock are equity investments. There are two primary ways to make money from an equity investment in shares of stock, including capital appreciation and dividends. You get capital appreciation when the price of your stock increases above the amount you paid for it. Dividends are declared by the board of directors and typically represent your share of the company's profits. There are also risks associated with investments in shares of stock, including the possibility that the market price of the stock will decrease. You can lose some or all of your investment.
- Burke/Triolo Productions/Brand X Pictures/Getty Images
- How to Convert Promissory Notes to Equity
- Paid in Capital Vs. Earned Capital
- The Advantages of Equity Portfolio Investments
- The Disadvantages of Common Stock for Shareholders
- Does Stock Buyback Reduce Equity?
- Should Dividends Be Ignored When Calculating Return on Assets?
- Advantages & Disadvantages of Investing in Common Stocks
- What Is the Difference Between Common & Preferred Stock?