Stocks I: Stock Types and Returns

Hopefully, you’ve read my intro to stocks, if not, read it here.

Stocks of different companies have different prices and have different features either because of how the market views the company or how the prices have behaved over the years.

The market isn’t always right but it has been more right than most individuals in the long run. The market could be optimistic about the company or pessimistic about it.

On generic terms, there are different types of stocks. They reflect the behavior — past, present, or anticipated — of the stock.

TYPES OF STOCKS

Value Stock: These are stocks that trade at a lower price relative to their fundamentals, such as dividends, earnings, and sales, making them appealing to investors with longer time horizons with the hope that the market corrects itself (recognizes them and price them what they truly worth). Their current prices are less than what they should trade for.

Remember, the price of a company does not necessarily reflect the value of the company, it reflects the sentiment of investors. That means a good company can trade at a price less than what it truly worths.

Investors that seek out those types of companies are called value investors. Warren Buffet is famous for buying companies trading for less than their intrinsic value.

  • Growth Stock: These are stocks that have substantial potential for growth in the foreseeable future. These companies are growing faster than their counterparts in the same industry or the overall market. These companies are usually new companies with new technologies or products that could have a major impact in the future.

They usually reinvest their profits back to the business for expansion and may not pay dividends during their early years.

  • Income Stock: These are stocks that pay regular, often steadily increasing dividends. These companies usually are bluechip. They have a track record of paying dividends which increases steadily to counter the effect of inflation(dividend yield).

Some companies have paid dividends for more than a century (100 years)!!!

Defensive Stock: These are stocks that can and have weathered economic cycles. They are usually products people use always. They are necessities that no matter the economic condition people still consume such products or services.

Blue Chip Stocks: These are stocks of very large and well-recognized companies with a long history of sound financial performance. These stocks are known to have capabilities to endure tough market conditions and give high returns in good market conditions.

RETURNS

The reason to invest is to make a PROFIT or have a SOURCE OF INCOME. There are two types of returns provided by investing in stocks.

  • Capital gains: This simply means making money off an increase or decrease in the price of the share.

Say you bought a company’s stock at $10.99 then after a period its price increase to $15.00. That is a profit of $4.01.

You can also make money by borrowing stocks at $15.00 with the ‘hope’ that the price falls and sell. Then you return the stock at $10.99. This is known as shorting a stock. The difference is your profit.

  • Dividends: So let’s say a company makes a profit, the board of directors can decide to share part of the profit to shareholders.This money is known as dividends. Dividends are paid periodically therefore they can serve as a steady source of income. It is also important to check if the dividend paid increase over time( dividend yield) as a fixed amount over time has lesser value due to inflation.

Say you purchase a stock at $10 and after a year you are paid a dividend of $1. That's a return of 10%

There are however companies that are required by the law to pay a certain percentage such as REIT stocks.

Remember, your returns should beat inflation. Want to know why? Read here

CONCLUSION

  • Different stocks are of different types.
  • Some stocks fit into more than one type.
  • Stocks can serve as a source of income through dividends.

This is part of my 30 days series of the BYOB challenge.

Read the previous article here

Check the next article here

a foodie