What are the different types of stock to invest in?
The stock market can be an intimidating place for new investors. Between the market volatility and the financial jargon that is thrown around regularly by commentators, it can be hard to know where to start with stocks. Fortunately, stocks aren’t as complex as they seem, and while there are many different categories of stocks, they all have a lot in common.
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| What are the different types of stock to invest in? |
Here’s what you should know about the different types
of stocks.
Common stock
Common stock is probably what you think of when you are
looking to invest in stocks. Common stock gives you an ownership stake in
the business with the ability to vote on key matters such as electing the board
of directors or adopting certain company policies.
When people hear the word stock, they often think of
elaborate charts and flashing prices that move around during the day. But
when you buy a stock, you are purchasing a stake in a real business, and your
long-term returns will be driven by the earnings and overall success of that
company. Earnings growth will contribute to a higher share price for common
stock owners and enable the company to share those earnings with shareholders
in the form of dividends.
Preferred stock
Preferred stock is more like a bond than it
is a stock. Typically, you won’t have any voting rights, but you will receive
dividend payments ahead of common stockholders. Preferred stock is issued at
par value and the shares are redeemed at maturity, so you don’t have the
opportunity for price appreciation that you do with common shares. Your return
will come primarily from the dividends you receive.
Preferred stock may be redeemed prior to maturity, and some
preferred shares are convertible into a certain number of common shares. While
the opportunity for significant gains is much lower with preferred stock than
common stock, the risk is considerably lower, too.
Large-cap stock
The universe of common stocks is quite large, so one way to
divide that up is by separating companies based on their market capitalization,
or the total value of all their outstanding shares. While there is no clear
definition of a large-cap stock, they are generally companies with market
caps is over Rs. 20,000 crores. Large-cap stocks are typically established
companies with proven records of profitability, and the best of them are
sometimes called blue-chip stocks.
Investors looking to invest in large-cap stocks might
consider purchasing an index fund that tracks a large-cap index such as
the S&P 500. This popular index includes well-known companies such as
Apple, Microsoft and Walmart.
Mid-cap stock
As you move down in market cap, mid-cap stocks are next, and
these companies market capitalisation ranging from Rs. 5,000 crores to Rs. 20,000 crores. These
companies are established, but may still be in the early stages of their growth
and can come with the potential for meaningful price appreciation. Many of
today’s large-cap stocks were once mid-cap stocks before growing to new
heights.
Mid-cap stocks may help to diversify your portfolio away
from the large-cap stocks most people typically focus on. Broadly
speaking, mid-cap stocks may come with less risk than small-cap
stocks, but more risk than large-caps, although it will always depend on the
specific company you’re looking at.
Small-cap stock
Small-cap stocks can be one of the most rewarding areas of
the market, because they give you the opportunity to identify a company loaded
for future growth. Small-cap stocks typically have market capitalization is less than Rs 5,000 crores and may still be in the early stages of their growth. Because of their
small size, small-cap stocks can sometimes be overlooked by fund
managers, creating the potential to find hidden gems before the rest
of the investment world.
The potential for high returns does come with greater risk,
however. Small companies may not be profitable and may have to rely on outside
funding to sustain their operations. They can be particularly susceptible to
economic downturns when capital dries up and they may not be able to fund their
businesses. So it’s especially important to diversify when investing in
small-caps.
Growth stock
Growth stocks are one of the most exciting areas of the
stock market, but buying them and earning high returns isn’t as simple as the
name suggests. Because high-growth companies can be very rewarding to
investors, their prices can sometimes get bid up to overvalued levels where
investors won’t earn satisfactory returns. But if you’re able to purchase a
growth stock at a compelling price, you may be able to ride its success for
many years to come.
Companies like Apple, Alphabet and Tesla have all
rewarded investors handsomely in recent years, but only time will tell if their
growth can be sustained. Growth stocks are often presented as the
opposite of value stocks, but growth can be undervalued by the market. Growth
is merely a component of value.
Value stock
Value stocks might be considered the less exciting cousin of
growth stocks, but that doesn’t mean they’re any less rewarding for investors.
Just as growth stocks can get bid up to unsustainable prices, other stocks
can get beaten down to significantly undervalued levels. The definition of a
value stock can vary widely, but when focusing on quantitative metrics, they
tend to have lower valuation multiples and lower growth rates than
growth stocks.
Some of the world’s most successful investors,
including Warren Buffett, have amassed their wealth by buying stocks below
their intrinsic value. Be sure to understand the specifics of any stock you
buy. Some stocks that look to be a bargain end up being cheap for a reason, and
their business declines, dragging the stock price with it.
Foreign stock
Foreign stocks are issued by companies that are based
outside the United States. Some of these companies may have stocks that trade
on U.S. stock exchanges to take advantage of the country’s robust capital
markets, but their revenues and profits are still generated mostly elsewhere.
Most U.S. investors tend to hold companies that are
headquartered in their home country, and for good reason. The U.S. has well
established capital markets and is home to some of the most successful
companies in the world. However, adding international stocks to your
portfolio can help diversify your investments and get a stake in emerging
companies around the world.
Conclusion
While there are many different types of stocks, they all
represent stakes in actual businesses. No company is inherently a growth or
value stock and will likely move between several different categories
throughout its life. Always be sure to analyze the underlying business before
purchasing a stock to get a sense of the company’s competitive position and
valuation.
You can also purchase baskets of different types of stocks
by using ETFs and mutual funds that track various indexes.