Last Updated on October 18, 2023 by BFSLTeam BFSLTeam
In this edition of understanding the stock market better, we are going to look at common stocks and know everything that is there- its definition, the working of common stocks, how they are calculated and the salient features.
Table of Content
What are common stocks?
To understand briefly, a common stock gives you the right to ownership in a company or corporation. When you own some common stocks in a company, you get the right to have an opinion in the company’s corporate decisions, like its board of directors and corporate policies. A common stock is a tradeable stock or security that is traded on public exchanges.
Definition
Common stocks are the most widespread kind of stocks that people invest in, in the stock market. Common stocks basically mean shares that give you ownership. But when you’re a shareholder of common stocks, you are only a part owner in the company and you do not have any real right to the physical assets that the company owns. Instead, you get eligible for a share of the company’s profits and earnings.
This means that when you hold a common stock, you are eligible for dividends and even a share of the company’s profit if the company does well. Common stocks are so valuable because they go way above just monetary value. With common stocks, you can make real-time decisions in a company’s structure, and thus, its future.
However, not all common stocks give you voting rights. There are companies that also sell non-voting common stocks. For example, Google, or better known as Alphabet officially. Google sells both kinds of common stocks- voting and non-voting. Non-voting common stocks are valuable too, because they can earn you dividends when the company is doing well.
Who can buy common stocks?
The simple answer is, anyone can buy and own common stocks. These stocks are traded on public exchange, making everyone eligible for them. Corporate finance professionals use common stocks a lot of times to measure how well a company is performing financially.
A lot of financial advisors advise their clients to go through buying and selling various common stocks across different companies. You can buy or sell common stocks even through stock brokers.
Also read: Difference Between Common Stock and Preferred Stock
Why does a company issue common stocks?
Under most circumstances, common stocks are issued as an alternative option for issuing another kind of stocks known as preference stocks, or for selling debt bonds. However, the most major reason why a company issues common stocks is to raise capital.
The capital raised by issuing stocks is used for the company’s interests, like expansion, acquisition of another company, paying off the company’s debts, and building a cash reserve for the future use of the company.
Features
-Stock rights
When a person buys common stocks, it comes with certain rights. Any individual who invests in common stocks is entitled to earn dividends on their stocks, gets right to the company’s assets in case of a liquidation, gets voting rights to elect the board of directors of the company, and several pre-emptive rights.
-Generates returns
When one invests in common stocks, they can earn through these in two ways. One is, they are likely to earn dividends from these common stocks. Secondly, they are entitled to earn capital gains. So when the stock valuation of the company increases, investors and stockholders are likely to earn higher capital gains. On the other hand, the company will give away dividends to its investors if it has done excessively well and is still left with a huge revenue after its own expenses.
-Multiple investment options
Investing in common stocks comes with multiple options. You can either purchase a direct stock plan and invest in it, or opt for a dividend reinvestment plan, or through the stock exchange, or by investing in mutual funds.
Also Read: Floating Stock
What are the various kinds of common stocks?
Even in common stocks, you will find different categories. They are:
-Growth stocks
Growth stocks, as the name suggests, are those stocks whose share prices shoot up quite rapidly, thus giving investors the avenue to earn high profits. These stocks usually exceed their competitors and peers in the industry in terms of growth. These stocks invest their huge profits in further expanding the company, as a result of which, they do not offer any dividend to their shareholders. You might also notice that such companies offering high-growth stocks are mostly not well established and new on the block and focus on amassing as much market share as they can.
-Value stocks
Value stocks aim on building value over time instead of garnering huge profits. Oftentimes, analysts find that these stocks tend to trade below what their ideal market value should be. Value stocks mostly belong to companies and firms that are huge and well-established and have amassed a certain respect in the industry. Shareholders believe that sooner or later every company reaches its fair trading price in the market, making them invest in these stocks that slowly grow over time. Value stocks also offer regular dividends to their shareholders.
-Large-cap stocks
These stocks are called so because they hold an extremely market capitalization. So these are companies that have been around for many years and are well-established, with a goodwill in the market.
-Mid-cap stocks
They are mid-level companies with good reputation and goodwill in the market with a fairly good market capitalization. But they are smaller in size and market capitalization than large-cap companies.
-Small-cap stocks
These are the small and new companies, mostly startups, and they have very less market capitalization. They are trying to build a good reputation for themselves in the market, but they have a long way to go.
Also Read: Cyclical Stock
What are the benefits of common stocks?
The following are some of the biggest benefits of investing in common stocks:
-Good returns
When you invest in a common stock, the amount of earnings you can generate is unlimited. One of the biggest benefits of common stocks is that, once you have invested in them, you can hold them for as long as you want to. This will make sure you get constant returns in the form of dividends.
-Limited liabilities
Another great advantage of common stock is that investors can enjoy regular and steady returns from these stocks without having to get into any legal liabilities. This means that if the company is earning good profits and making good money, investors can earn dividends. But if the company suffers any losses, its investors and common stock holders won’t be held liable.
