Shares are a powerful tool for investors, representing a confident step towards new financial opportunities and a wonderful means to secure a promising future. We refer to stocks bought and traded on stock exchanges, which can help you earn and ensure a decent life. And this is genuinely achievable for anyone; you just need to understand what are shares and how they work.
What Are Shares: Explained in Simple Words
Important: Stocks are financial securities representing ownership in a particular company. When you buy stocks, you become a shareholder in the company and obtain the right to a certain percentage of ownership and earnings.
To put it more straightforwardly and explain what are shares in simple words, let’s imagine that you have started a company that develops a specific product, like watches. Undoubtedly, you would need considerable funds for expensive equipment and additional capital.
Since this venture involves substantial development, production, promotion, and marketing expenses, traditional bank loans might not be sufficient, or the interest rates might be too high.
Hence, you need investments, and to attract potential investors, you offer them a chance to become co-owners of the company and receive a portion of its profits. This is achieved by dividing the company’s ownership into shares, or stocks, and offering them on the financial market to attract many investors, sharing risks and financial burdens. As your company develops and expands, the value of its stocks increases, attracting new investors.
Types of Stocks
Stocks can come in various types. You might find convertible or cumulative stocks appealing depending on how you understand what are shares and bonds and which approach suits you better. However, primarily, stocks can be categorized into two types.
Documentary Stocks
As the name suggests, these stocks are based on specific documents certifying the ownership of a share or a stake in the company. This is the older, more traditional form of stocks used by companies that haven’t yet switched to a digital format.
Non-Documentary Stocks
With active digitization, these stocks are the most widely used. They exist as electronic records in databases and do not involve physical paper documents or certificates to prove ownership. The ownership data is stored in special digital registers, which can be managed through centralized or decentralized systems.
Based on their approach, working principles, and the benefits they offer shareholders, stocks can be further categorized into several main types.
| Common Stocks | The most common and ordinary type of shares. Shareholders can participate in company meetings, make decisions, and receive dividends. |
| Preferred Stocks | Shareholders may not have voting rights at company meetings but have priority in receiving dividends. |
| Convertible Stocks | A convenient option for shareholders and investors who may want to convert their stocks into other securities, such as bonds, under certain conditions. |
| Cumulative Stocks | Shareholders of cumulative stocks can accumulate dividends if the company cannot pay them on time. |
| Voting and Non-Voting Stocks | Depending on the type of stock you hold, you may have the right to participate in company meetings and exercise voting power. This also determines the level of control in the company. |
How much do shares cost?
Stock price refers to the value at which one share of a specific company is traded in the financial market. The stock price can fluctuate over time depending on various factors, and it is a crucial concept for investors and traders.
Nominal Value of Stocks
This value is specified in the company’s charter and is used to determine the capital. For example, if your company has 1000 shares, and the nominal value of one share is $10, then the total nominal value of the shares would be $10,000.
Market Value
This refers to the market price at which a share can be bought or sold on the stock exchange. Several factors determine this price, including dividend size, the current market situation, the company’s financial condition, profitability, investor demand, and more.
Historical Value
This is the price of a share over a specific period in the past. Historical value helps determine the rise or fall of stock prices and the company’s development.
Book Value
This is the value of an asset or liability that a company recognizes for financial reporting purposes.
For assets, the book value is determined as the acquisition cost or the initial cost of the asset plus any additional expenses related to its acquisition, installation, and preparation for use. For example, if a company bought a machine for $10,000 and spent an additional $2,000 on transportation and installation, then the machine’s book value would be $12,000.
Market Capitalization
This represents the total value of a company in the financial market and is calculated as the market value of one share multiplied by the total number of issued shares. Market capitalization is an important indicator as it helps to understand the company’s size compared to others in the market.
What are compound interests, and how do they relate to stocks?
Simply put, compound interest is when interest is calculated on the initial principal and any previously earned interest. In the context of stocks, compound interest works so that it accrues not only on the initial capital but also on any previously earned interest if it has not been withdrawn or reinvested.
For example, consider investing $1000 at a 10% annual interest rate under simple and compound interest. The key observation here is that the longer the investment period, the more money is earned through compound interest, resulting in higher profits from the initial capital.
| 10% per annum | ||
| Ordinary interest | Compound interest | |
| Initial amount | $ 1000 | $ 1000 |
| The amount after 10 years | $ 2000 | $ 2594 |
| 20 years | $ 3000 | $ 6727 |
| 30 years | $ 4000 | $ 17449 |
| 50 years | $ 6000 | $ 117391 |
| 100 years | $ 11 000 | $ 13 780 612 |
Albert Einstein, the father of the theory of relativity, also said:
“Compound interest is the eighth wonder of the world. Who understands it earns it… and who doesn’t — pays it.”
Now let’s move on to practice and see how it can work in life. We all know companies like Apple or Microsoft. And you have saved $800 under your imaginary pillow, not knowing where to invest or spend it. Now, you face a choice: buy an iPhone or invest in Apple stock. If you choose the second option, after 5 years, you would have $3,800 because the company’s stock price has grown by a staggering 375% over this time (in this case, it’s the annual compound interest).
However, it is essential to remember that investing in the stock market comes with risks, and the movement of stock prices can impact the overall value of your portfolio. Therefore, it’s not going anywhere without an understanding of what are company shares, prior analysis of companies’ stocks, and assessing risks.
Where to buy stocks?
Most commonly, stocks are bought on stock exchanges. Many countries only allow such methods of purchasing stocks. To do this, an investor enters into an agreement with a stock exchange broker.
Trading stocks on stock exchanges are facilitated through special systems and procedures that allow buyers and sellers to meet and make transactions. Here are the main stages of trading stocks on a stock exchange:
- Order Collection and Placement: Brokers or investors place their orders to buy or sell stocks on the stock exchange. These orders can be limit orders or market orders.
- Order Matching: The stock exchange uses a special computer algorithm to match buy orders with sell orders, ensuring a match in the number of stocks and prices.
- Price Determination: Once the orders match, the stock’s price at which the transaction will occur is established. This price may fluctuate based on market demand and supply during the trading session.
- Execution of Trades: Once the stock price is determined, the broker or stock exchange executes trades between buyers and sellers. The transactions are recorded, and ownership of the stocks is transferred from the seller to the buyer.
- Settlement Operations: After the trade is executed, the buyer pays for the purchased stocks, and the seller receives the proceeds from the sale.
- Record of Transactions: The trades are recorded and included in the trading record on the stock exchange.
Stock trading on stock exchanges occurs in real-time during the exchange’s working hours, which typically occur from morning to evening.
The essence of what are shares is not just to invest $100 in a company and get $1000 in return. It is about making money work for you continuously. You should always be willing to invest in businesses, put money to work, and create capital to make money work for you. Even by investing €100 monthly for ten years (at a compound annual interest rate of 7%), you can have around €17,200 in your account. And in fifteen years, you could accumulate nearly €46,000.
This approach is much more effective than simply living off a salary and working for money. Investing in stocks means thinking like an investor, looking ahead, and always being, as they say, “money-wise.”
Read more: Open Banking for Gambling
