What are stocks, shares and equities?
Shares – also known as stocks or equities – are one of the most well-known financial instruments. Discover what they are and how they work, before looking at the benefits and risks of buying these popular assets.
At IG, you can speculate on share price by trading Contract for Difference (CFDs), without taking ownership of the underlying asset. Find out more about trading shares and how you can do so with IG.
What are stocks, shares and equities?
Stocks, shares and equities are terms used to describe units of ownership in one or more companies. The owner, known as a shareholder, will also have the right to part of the company’s earnings if a dividend payment is made, as well as voting rights.
The terms are often used interchangeably in finance, but there are some technical differences between them that can cause confusion. Equity is the term for a total ownership stake in the company after the repayment of any debt, while a share or stock describes a single unit of ownership. The plural term shares usually refers to units of ownership in a specific company, while equities and stocks are terms generally used to refer to portions of ownership on multiple companies.
The weight of a shareholder’s vote and the number of dividends they receive will depend on the number of shares issued by a company and what portion of this they own. For example, if a company has 10,000 shares in circulation, and an individual was holding 1000 shares, they could be said to have a 10% stake in the company.
How do stocks, shares and equities work?
The buying and selling of stocks, shares and equities works in a similar way to a marketplace, where parties negotiate a price at which to exchange an asset. Institutions known as stock exchanges facilitate the exchange of publicly listed shares – this requires a company to have held its initial public offering (IPO).
When you buy or invest in shares, you are purchasing the underlying share itself, and generally are seeking to hold it over the long term. If a company grows and its value increases, then the value of its shares will also rise, and you can sell your holding for a profit. In the meantime, you would receive dividends and voters’ rights. However, if the company decreased in value, the share price would also fall, and positions may result in a loss of your initial investment.
Alternatively, some traders may choose to speculate on the future value of the asset without taking ownership of it, by trading financial products such as CFDs. This is commonly used for more short-term strategies. Although you wouldn’t own the underlying shares, you would be able to short a stock (short-selling) so, you could benefit from a declining share price, not just a rising one. It is important to remember that when trading CFDs, you are trading with leverage. This means that both your profits and losses are magnified, and your losses can exceed deposits.
Why do companies list on the stock market?
The primary reason that companies list their stock is in order to raise capital by tapping into the public equity market by selling their shares to individual investors and institutions. This is an alternate method to gaining capital privately via venture capitalists.
Most companies will list on a domestic exchange. For example, in the UK, most shares are listed on the London Stock Exchange (LSE) or Alternative Investment Market (AIM). However, it is becoming increasingly common for companies to have multiple listings to take advantage of foreign investment.
How many shares are there in a company?
The minimum number of shares that a company can issue is one – this could be the case when there is only one owner of the entire company. However, there is no universal maximum for how many shares a company will issue, so this can vary from company to company.
The number of available shares can also change over time as companies issue more stock or buy back shares from investors.
How much is a share worth?
A share’s worth will vary depending on whether you are looking at its fair value or its market value. The fair value is the intrinsic value of a stock based on the company’s fundamentals, while the market value is the amount that individuals are currently willing to pay for the stock.
The fair value of a stock is often much lower than the market value as the latter is heavily influenced by demand, which does not always reflect a share’s fundamentals. If the demand for a share goes up while the supply remains constant, then the share price will rise as people are willing to pay more.
Why trade shares?
People buy and trade shares as a way to gain exposure to global economic health and growth, as well as an individual company. Your decision about whether to invest in stocks or trade on their price will depend on whether your interest is long or short term.
Why trade shares?
Trading shares via derivative products (such as CFDs) is becoming increasingly popular because it enables individuals to go short as well as long – giving you the potential to profit from markets that fall in price, not just those that rise. This is because when you are trading CFDs, you are speculating on share price movement only, and you will not be taking ownership of any underlying asset.
When you trade stocks via leveraged products such as CFDs, you’ll only need to put down a fraction of the required capital, known as margin. This is a huge draw to trading shares, as it means less capital is required upfront to gain a full market exposure. While leverage has significant benefits, it also comes with risks.
Ready to start trading shares?
What are the risks of buying or trading stocks?
Risks of buying stocks outright
The main risk involved in buying stocks is that the company gets into difficulty and goes bankrupt, or that the share price falls to zero. If this happened, you would lose your initial outlay – however with investing, this is always the most you stand to lose. For example, if you’d invested £1000, the most you could ever lose if the share price fell to £0 is £1000.
For some investors, the risk of a short-term decline in share prices can be offset by the popular strategy known as hedging. Alternatively, other investors might choose to diversify their holdings by investing in or speculating on the price of exchange traded funds (ETFs) – these are baskets of stocks that track the underlying market price movements.
Risks of trading stocks CFDs
The risks posed by trading stocks CFDs are significantly different due to leverage. One such risk, is the risk of trading on leverage (or margin). When you trade on margin, both your profits and losses are calculated on the full value of your position, rather than this initial outlay. This means that although you have the possibility of magnifying your profits, you also could magnify your losses and your losses can exceed your deposits.
However, there are tools that traders can use to manage this risk. For example, stop-losses enable traders to define their exit point for trades that move against them, while limit orders will close a trade after the market moves by a certain amount in a traders’ favour.
Also, if you decide to short a stock – either traditionally via a broker or with derivative products – you would be open to an unlimited downside potential. As, in theory, there is no limited to how much the share price could rise by.
It is important to remember that trading CFDs may not be suitable for everyone, and your should ensure you fully understand all the costs and risks involved by reading the Risk Disclosure Statment and Risk Fact Sheet.
How to trade stocks
How to trade shares CFDs
At IG, our clients can choose to speculate on the price of an underlying share, by trading share CFDs. Before you start to trade shares, it is important to understand both the benefits of using these products, and the risks associated with them.
Once you feel you have a grasp on how CFDs work, you can start to trade shares by opening a live account with IG. Alternatively, you could open a demo account to practise trading shares in a risk-free environment first.
Follow these steps to start trading shares:
- Learn more about financial markets with IG Academy’s range of courses
- Open and fund a live account
- Decide whether to go long or short
- Place your first trade and monitor your position
Alternatively, you could practise trading in a risk-free environment by using an IG demo account. You can trade with $200,000 in virtual funds to build you share trading strategy without putting up real capital.
There are two types of stock that can be listed on an exchange: common and preferred. Common stock is the variety that grants voting rights at shareholders’ meetings and dividend payments. Preferred stock generally does not come with voting rights, but the shareholders will have a better claim to earnings than common stockholders.
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Find out more about a range of markets and test yourself with IG Academy’s online courses.
1 Barclays Equity Gilt Study, 2019