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- See stock (other meanings) for other meanings of the term stock
A stock, also referred to as a share, is commonly a share of ownership in a corporation.
In British English, the word stock has another completely different meaning in finance, referring to a bond. It can also be used more widely to refer to all kinds of marketable securities. Where a share of ownership is meant the word share is usually used in British English.
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History
The first company that issued shares is considered to be the Northern-European copper mining enterprise Stora Kopparberg, in the 13th century.
Ownership
The owners and financial backers of a company may want additional capital to invest in new projects within the company. If they were to sell the company it would represent a loss of control over the company.
Alternatively, by selling shares, they can sell part or all of the company to many part-owners. The purchase of one share entitles the owner of that share to literally share in the ownership of the company, including the right to a fraction of the assets of the company, a fraction of the decision-making power, and potentially a fraction of the profits, which the company may issue as dividends. However, the original owners of the company often still have control of the company, and can use the money paid for the shares to grow the company.
In the common case, where there are thousands of shareholders, it is impractical to have all of them making the daily decisions required in the running of a company. Thus, the shareholders will use their shares as votes in the election of members of the board of directors of the company. However, the choices are usually nominated by insiders or the board of the directors themselves, which over time has led to most of the top executives being on each other's boards. Each share constitutes one vote (except in a co-operative society where every member gets one vote regardless of the number of shares they hold). Thus, if one shareholder owns more than half the shares, they can out-vote everyone else, and thus have control of the company.
Shareholder rights
Although owning 51% of shares does mean that you own 51% of the company and that you have 51% of the votes, the company is considered a legal person, thus it owns all its assets, (buildings, equipment, materials etc) itself. A shareholder has no right to these without the company's permission, even if that shareholder owns almost all the shares. This is important in areas such as insurance, which must be in the name of the company not the main shareholder.
In most countries, including the United States, boards of directors and company managers have a fiduciary responsibility to run the company in the interests of its stockholders. Nonetheless, as Martin Whitman writes:
- "w/.it can safely be stated that there does not exist any publicly traded company where management works exclusively in the best interests of OPMI Outside Passive Minority Investor stockholders. Instead, there are both "communities of interest" and "conflicts of interest" between stockholders (principal) and management (agent). This conflict is referred to as the principal/agent problem. It would be naive to think that any management would forego management compensation, and management entrenchment, just because some of these management privileges might be perceived as giving rise to a conflict of interest with OPMIs." Whitman, 2004, 5
Even though the board of directors run the company, the shareholder has some impact on the company's policy, as the shareholders elect the board of directors. Each shareholder has a percentage of votes equal to the percentage of shares he owns. So as long as the shareholders agree that the management (agent) are performing poorly they can elect a new board of directors which can then hire a new management team.
Owning shares does not mean responsibility for liabilities. If a company goes broke and has to default on loans, the shareholders are not liable in any way. However, all money obtained by converting assets into cash will be used to repay loans, so that shareholders cannot receive any money until crors have been paid.
Means of financing
Financing a company through the sale of stock in a company is known as equity financing. Alternatively debt financing (for example issuing bonds) can be done to avoid giving up shares of ownership of the company.
Trading
Shares of stock are usually traded on a stock exchange, where people and organizations may buy and sell shares in a wide range of companies. A given company will usually only trade its shares in one market, and it is said to be quoted, or listed, on that stock exchange.
However, some large, multinational corporations are listed on more than one exchange. They are referred to as inter-listed shares.
Buying
There are various methods of buying and financing stocks. The most common means is through a stock broker. Whether they are a full service or discount broker, they are all doing one thing – arranging the transfer of stock from a seller to a buyer. Most of the trades are actually done through brokers listed with a stock exchange such as the New York Stock Exchange.
There are many different stock brokers to choose from such as full service brokers or discount brokers. The full service brokers usually charge more per trade, but give investment advice or more personal service; the discount brokers offer little or no investment advice but charge less for trades. Another type of broker would be a bank or cr union that may have a deal set up with either a full service or discount broker.
There are other ways of buying stock besides through a broker. One way is directly from the company itself. If at least one share is owned, most companies will allow the purchase of shares directly from the company through their investor's relations departments. However, the initial share of stock in the company will have to be obtained through a regular stock broker. Another way to buy stock in companies is through Direct Public Offerings which are usually sold by the company itself. A direct public offering is an initial public offering a company in which the stock is purchased directly from the company, usually without the aid of brokers.
When it comes to financing a purchase of stocks there are two ways: purchasing stock with money that is currently in the buyers ownership or by buying stock on margin. Buying stock on margin means buying stock with money borrowed against the stocks in the same account. These stocks, or collateral, guarantee that the buyer can repay the loan; otherwise, the stockbroker has the right to sell the stocks (collateral) to repay the borrowed money. He can sell if the share price drops below the margin requirement, at least 50 percent of the value of the stocks in the account. Buying on margin works the same way as borrowing money to buy a car or a house using the car or house as collateral. Moreover, borrowing is not free; the broker usually charges you 8-10 percent interest.
Selling
Selling stock in a company goes through many of the same procedures as buying stock. Generally, the investor wants to buy low and sell high, if not in that order; however, this is not how it always ends up. Sometimes, the investor will cut their losses and claim a loss.
As with buying a stock, there is a transaction fee for the broker's efforts in arranging the transfer of stock from a seller to a buyer. This fee can be high or low depending on if it is a full service or discount broker.
After the transaction has been made, the seller is then entitled to all of the money. An important part of selling is keeping track of the earnings. It is important to remember that upon selling the stock, in jurisdictions that have them, capital gains taxes will have to be paid on the additional proceeds, if any, that are in excess of the cost basis.
Technology's Influence on Trading
Stock trading has evolved tremendously. Since the very first Initial Public Offering (IPO) in the 13th century, owning shares of a company has been a very attractive incentive. Even though the origins of stock trading go back to the 13th century, the market as we know it today did not catch on strongly until the late 1800s.
Co-production between technology and society has led the push for effective and efficient ways of trading. Technology has allowed the stock market to grow tremendously, and all the while society has encouraged the growth. Within seconds of an order for a stock, the transaction can now take place. Most of the recent advancements with the trading have been due to the Internet. The Internet has allowed online trading. In contrast to the past where only those who could afford the expensive stock brokers, anyone who wishes to be active in the stock market can now do so at a very low cost per transaction. Trading can even be done through Computer-Mediated Communication (CMC) use of mobile devices such as hand computers and cellular phones. These advances in technology have made day trading possible.
The stock market has grown so that some argue that it represents a country's economy. This growth has been enjoyed largely to the credibility and reputation that the stock market has earned.
Types of shares
There are several types of shares, including common stock, preferred stock, treasury stock, and dual class shares. Preferred stock, sometimes called preference shares, have priority over common stock in the distribution of dividends and assets, and sometime have enhanced voting rights such as the ability to veto mergers or acquistions or the right of first refusal when new shares are issued (i.e. the holder of the preferred stock can buy as much as they want before the stock is offered to others). A dual class equity structure has several classes of shares (for example Class A, Class B, and Class C) each with its own advantages and disadvantages. Treasury stock are shares that have been bought back from the public.
Derivatives
A stock option is the right (or obligation) to buy or sell stock in the future at a fixed price. Stock options are often part of the package of executive compensation offered to key executives. Some companies extend stock options to all (or nearly all) of their employees. This was especially true during the dot-com boom of the mid- to late- 1990s, in which the major compensation of many employees was in the increase in value of the stock options they held, rather than their wages or salary. Some employees at dot-com companies became millionaires on their stock options. This is still a major method of compensation for CEOs.
The theory behind granting stock options to executives and employees of a corporation is that, since their financial fortunes are tied to the stock price of the company, they will be motivated to increase the value of the stock over time.
See also
- American Depositary Receipt
- Scripophily
- Equity investment
- Jesse Lauriston Livermore
- Share price
- Short selling
- Stock valuation
- Arrangements between railroads
- stock dilution
- boiler room
- penny stock
- house stock
- bucket shop
- buying in
References
- Whitman, Martin, Third Avenue Value Fund, in Third Avenue Funds Letters to Our Shareholders, Q4, 2004.
External links
- The oldest share in the world, issued by the Dutch East India Company VOC, 1606.
- Move Over, Adam Smith: The Visible Hand of Uncle Sam Report concludes that the U.S. government surreptitiously intervenes in the American stock market
- What is Stock?