What a Stock Is (It’s probably not what you think)
Posted on 04. Jan, 2011 by mike in Investing
What is a stock?
Yes, this was covered in my investment terms list but I used the simple well-known definition- Partial ownership of a company. This is the technical definition of a stock, but if you actually understand what a stock is from this confusing definition, then I am impressed. To really explain what a stock is and expect to be understood, I will need to take up much more than a single sentence.
What a Stock is Not
Before I talk about what a stock is we must first get all those misconceptions on stocks out of your head. A stock is not…
- A certificate with a company’s name on it
- A stock is not something tangible i.e. you can not see a stock, touch a stock or hoard them in your basement
- A stock is not something that “just makes you money”
- A stock is not a job, career or occupation
- Lastly a stock is not something only for rich adults
So now that you know what a stock isn’t that leaves the question, “So, what is a stock?”.
“A stock is a Piece of a Company”
Buying a stock is truly misinterpreted because you really don’t buy a stock you buy the company behind the stock. Stock, in many cases can be interchanged with business or company. When you invest $1000 into Apple’s stock, what you really are doing is investing $1000 into Apple’s business. The more you invest into a company’s stock the larger the piece of the business that you own.
Your stocks do well = You do well
When you purchase stock you are hoping that the company can grow which will make your money grow. If the businesses you invest in do well, congratulations your money does well. But this also works the other way around too. When your businesses perform poorly, your money will have also done poorly.
How Do you Make Money With Stocks?
A lot of my friends know I invest in the stock market. It’s really not that hard to figure out, every week I walk into school with a new investing book. One week I’ll be reading Benjamin Graham, the next I’ll be reading Jim Cramer. What really gets me upset though, is when people start a conversation something like this…
Kid: Hey do you buy stocks?
Me: Yeah.
Kid: So how do you make money?
Me: I buy them for a low price then sell them if they have risen in price.
Kid: Oh so you just need to buy a stock then sell it when it goes up in price, I see.
Me: Well yes if the stock ever does rise in price.
Kid: (Ignoring what I just said) That’s so easy! So how do I buy stocks? I want to start making money!
Me: Sign up with a brokerage company, but it requires a lot of knowledge to do well.
Kid: Ha Sure it does! I’m signing up today so I can buy an iPad.
Me: No really you need to dedicate a lot of time to learning the market
Kid: I’ll just buy what the news recommends.
Me: You really need to do your own research, no one gets rich without doing any work.
Kid: Yeah whatever I’ll be fine. So what do I do once I make this account thing?
Me: You need to transfer money into it.
Kid: Okay, I’ve got 20 bucks I can add.
Me: Unfortunately that isn’t gonna cut it.
Kid: Oh well investing sounds stupid anyway.
What I can’t stand about this dialogue is how easy people think investing is. Sure this isn’t an exact script but it is generally what kids are like. On top of this most kids give up really easily whenever you tell them something that isn’t as picture perfect as they thought. Nobody is interested when they find out investing isn’t a get rich quick scheme and that they might have to do the unspeakable… read a book. You would think that more kids would be interested in investing but they’re not. Most kids would rather sweep the floors at a deli for minimum wage than watch the market for a couple of minutes a day. Why? Because you need to do actual work for a bit before you see the benefits. Unlike sweeping the floors where you make money immediately; you don’t make money as soon as you start learning about investing.
If children and teens could take the time to realize how stocks work and how investors make money, they would be much happier with the results. Kids of all ages seem to have this fantasy that all investors instantly become rich. This is not true at all. Unfortunately, when ever I tell a kid the truth, they become discouraged. Whenever someone tells me something along the lines of “My parents are opening a brokerage account for me tomorrow. So I am going to buy $500 of Disney and then buy a Lamborghini in a few years.” I always tell them how stocks don’t always go up, they could go down, go nowhere, or even go bankrupt. Most of these children don’t like reality and when they are told how it is, they lose interest in stocks.
To answer the question, in order to make money in stocks, yes you need to buy low and sell high. But it is much more complex then that. You need a strong sense of how stocks work. You need to know the formulas and calculations and most of all you need a fool-proof strategy. Unfortunately, I can’t cover all of this in a single or even a series of blog posts. To learn this you will need to educate yourself. For my top 3 beginner investing books click here.
