What is a Stock?

You have probably heard of stocks and their importance for the global economy before. But if you are 100% honest (don’t worry, we won’t tell anyone), do you really understand them? If the answer is no, then keep on reading! In this post, we will give you all the information you need on how you can get started with investing in stocks today (plus some tips and tricks). And, if you want to put this newly acquired investment knowledge into practice without risking any of your money, stay tuned - we have just the right tool for you!

💡Stocks represent partial ownership in a company. Let’s say you buy 2 stocks of a company that has a total of 200 stocks, then you are now the owner of 1% of that company. 

💡Understanding the Meaning of Stocks

A stock is one of the four main asset classes and represents fractional ownership of the issuing corporation. Simply put, if you purchase a stock, you purchase a small piece of the company you want to invest in because you believe it will go up in value. Stocks are also known as “equities” or “shares”, whilst the latter usually refers to the units of stocks you own. They are also what is meant by “stonks” - a term you might have come across in the universe of memes. Please keep in mind that, against popular online belief, stonks surely do not only go up. Having said that, by investing in them in a clever manner, you can definitely make a good return on your investment, as we will illustrate later on in this post. 

It is important to note that, although you are now a part-owner of the company you invested in, you are two legally separated entities, which limits mutual responsibility. In other words, if the company declares bankruptcy, you cannot be held legally liable, but neither are they in case you are crushed by a debt load. 

Want to know how to start investing today and how you can use the UMushroom platform to start creating portfolios & see how they perform without investing any real money? Then skip to the very end of this post👇

🤔 Why invest in the stock market?

There are plenty of reasons why you should invest in companies by buying their stocks, but we want to limit ourselves to the three we find most important to keep in mind: 

1. Easy to buy and sell

2. No need for a large initial capital

3. Build your savings

Stocks are probably one of the easiest ways to get into investing. It only takes a few minutes to create a trading account and you are almost good to go. You also do not need to have a large initial capital, as already a small investment can get you started and help you gain valuable investment experience. Once you have decided on a stock you want to invest in, it only takes a few clicks and you hold partial ownership of the company issuing them. Similarly, it is a fast and easy process to sell your assets again once you are happy with the profit you have made off of them. Stocks are generally considered to bring a high return on investment, especially if you keep your money invested over a long period of time. Whilst market fluctuations are likely to add a lot of short-term volatility to your investment, we usually observe an upward trend in most companies over the long term. Although we will most likely observe ups and downs in the stock price, these will follow an uptrend. If that sounds conflicting to you, check out the picture below to get an idea of what we mean:

Although some people prefer to benefit from short-term volatility by trading at a very high frequency (we call this day trading if stocks are bought and sold on the same day), it is a safer bet for the common investor to make use of the upward trend that goes beyond these fluctuations. By placing money in a company’s stock for which you see long-term future potential and sustainable growth opportunities, you do not have to check your account very frequently and worry about short-term fluctuations. Although long-term investments are often considered risky due to uncertainties about the future, you can weather low market periods. So, if your goal is not to increase your holiday budget for next summer but rather to, for example, create financial backing for your retirement, it might be a great choice for you to start researching companies you would want to invest in over a longer time period!

💡The world’s stock exchanges trade a total of over $110 trillion worth of stocks. If we were to divide this up equally, every person on earth would receive roughly $12’600.

💭 What you should keep in mind

Despite the many advantages of stocks, there are a few things you should keep in mind when thinking about investing in such assets. Particularly if you are at the beginning of your journey, it is advisable to only invest amounts you can afford to lose. This is due to the inherent risks that are associated with investing in individual companies, which is what we focus on in this abstract. 

1. Idiosyncratic and systematic risk

2. Research takes time

As with all types of investment, there are certain risks associated with stocks. We can generally differentiate between two types of risk: idiosyncratic and systematic. Whilst idiosyncratic risk refers to the inherent risks that are exclusively associated with a company, systematic risk represents the risk in the respective sector or overall market. Although the types of risk are different, the main drivers behind them are generally the same: fluctuations in supply and demand. Therefore, despite the ease of investment, you should keep in mind that you are exposing yourself not only to the overall market risk but also to the company-exclusive risk when investing in stocks. This makes this asset class a riskier investment than more diversified options, such as ETFs, which reduce the idiosyncratic aspect of risk at least to a certain extent. On the other hand, it can also make for greater returns if you pick a “winner”. 

Clearly, the level of a company’s risk highly depends on its growth stage as well as the industry in which it is operating. In order to make a good judgment of the risk, you will most likely spend a lot of time researching. This is the second point we want to emphasize when investing in stocks: be prepared to spend quite a bit of time researching who and what you are investing in and what the potential risks associated with that company are. We want to illustrate the different types of considerations you might want to make before investing in an individual stock by using an example:

Fast-growing start-up in the technology sector. 

Whilst such a company can be expected to quickly grow in value and thus provide you with a high return on investment, it is also operating in an industry that is likely to face changes in legislation, attract a lot of competitors, or become outdated once more advanced technologies replace older ones. It is therefore advisable to consider aspects such as the company’s resilience and agility in a quickly-changing environment. Whilst past performance is usually a solid indicator of future performance for more conservative industries, start-ups usually do not have that form of track record. In such cases, it is better to focus on future opportunities and uncertainties that may pose a risk for the firm and thus also your investment. 

If you do not have the time to research the individual firm(s) and/or feel insecure about putting your money at additional risk - do not worry. There are great alternatives to individual stocks, such as ETFs, which give you greater market exposure and thereby reduce at least the idiosyncratic aspect of risk. If you still want to invest in individual stocks but keep your personal research limited, UMushroom is the ideal option for you. On the community platform, you can benefit from other people’s thoughts and ratings on companies and learn about trending stocks from research and social media sentiment analysis. This is a valuable add-on to your individual research, so definitely check it out after finishing this article!

👥 Types of Stocks

We distinguish between two types of stocks: the common and the preferred stock. The most prominent difference is that the common stock gives you, as a shareholder, the right to vote on the decisions that the company makes (usually one vote per owned share), whilst the preferred stock does not give you that voting right. 

If that right is not of importance to you and you care more about the financial gain from your investment without necessarily wanting to have a say in the company, then the preferred stock might be a good option. As the name suggests, these types of stock give you priority in the dividend payments. This means that you are pretty much guaranteed a dividend in perpetuity. Dividends are the difference between the net income and the net change in retained earnings and are paid out per share of stock. The more shares of a stock you own, the higher dividends you will receive. Common stockholders, on the other hand, are last in line of those with dividend rights, so the payout is likely to be lower than for preferred stockholders. 

Additionally, common stockholders may not have the same redemption rights as preferred stockholders do. Such rights give you as an investor the possibility to request the company to buy back their shares in case they are not a good candidate for an IPO or acquisition. These redemption rights are optional, so make sure you research whether the company you want to invest in gives their preferred stockholders such a right.

🏆 How you can get started

The best way to start investing in stocks is probably exactly that: just start - have a go at it! Whilst we are not at all suggesting putting all your hard-earned savings into stocks of the first company that comes to your mind, there are some steps you can take already today!

1. Start researching. As we discussed earlier on, it is important to do adequate research on the companies you think might make for a good investment. This should cover some of the following questions: Is the company’s product or service future-proof i.e. will the demand stay or even increase? Is the company relying on renewable resources? What are their ethical values? What country are they based in and what are potential risks on a local level?

2. Talk to fellow investors. Although you should not rely on anyone’s investment advice, alone, it is advisable to speak to people you know who have a track record in investing. The more opinions you get, the better. In case you are not surrounded by a ton of investors, UMushroom is the place for you to gather community knowledge and learn from other investors - so definitely check it out. 

3. Open your trading account. There are a number of different options when it comes to your trading account. But, just as with many things, the internet makes it a lot easier for us. It just takes a few minutes (usually creating login data and a brief identity check) and you are good to go. Be careful of the brokerage fees, though, as they can vary immensely across different brokerage companies.

Start investing! Once you have completed steps 1 to 3, you are all set and ready to go. Just remember to only put as much money into stocks as you can afford to lose. As a rule of thumb, you should always have around three monthly salaries in your savings account - just in case. So, even if that leaves you with only a few hundred francs/euros/dollars to invest, it makes for a good start to your journey as a successful stock investor.

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