Stocks
Stock Basics
Stock Valuation
The real value of a stock, or its intrinsic value, is not always accurately reflected in the actual price of the share. The share price is not accurately reflected because the market is subject to the opinion of various shareholders “voting” on the outlook of the company by buying and selling shares. Investors should, therefore, look for opportunities where the market is undervaluing or overvaluing a stock.
For example, if an investor believes that a particular stock is undervalued or cheap based on their own individual analysis of the company, the investor may consider buying the stock before the prices rises in the market. Likewise, if an investor believes a particular stock is overvalued or expensive based on their analysis, the stock price may be ready to fall. If the investor holds any of the stock, he may want to sell it before the price falls in the market.
Types of Returns for Investors
Investors usually invest in stocks because they want to take advantage of the possibility of receiving two types of returns:
- Capital Gains
- Dividends
Capital gains returns are only realized when the stock is sold or shorted stock is bought back at a profit. This return is the appreciation in the stock’s price that occurred while the stock was owned by the investor.
Dividends are portions of corporate earnings that are paid to shareholders by the issuers of the stock.
For tax purposes, both capital gains and dividends are taxable in the year the trade was executed, unless the transaction was performed within your IRA or another qualified tax-deferred retirement plan.
One of the ways to mitigate risk is to diversify your portfolio. Diversification for stock investors means investing in a range of stocks that represent different sectors of the market and risk profiles. Diversification allows investors to minimize the impact of one adverse movement in a stock by spreading the risk to other stocks and market segments.
Types of Stocks
An individual investor’s stock portfolio may include a range of different types of stocks, including the following:
- Income Stocks
- Growth Stocks
- Value Stocks
Income stocks pay dividends. Growth stocks do not usually pay dividends. Usually, they are classified as growth because they are shares from smaller firms that reinvest their profits in the company rather than pay dividends to shareholders. And, finally, value stocks are stocks that are undervalued in the market based on a fundamental analysis of the company. Value stocks may, therefore, represent a bargain to investors.
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