Get a better understanding of what stocks are and how you can incorporate them into your trading or investing strategy.
On this page:
- How do stocks work?
- How do stocks work within a portfolio?
- Types of stocks
- Common questions
How do stocks work?
A stock represents a share in the ownership of a company, including a claim on the company's earnings and assets. As such, stockholders are partial owners of the company. When the value of the business rises or falls, so does the value of the stock.
Stocks are generally bought and sold electronically through stock exchanges, the two primary ones in the United States being the New York Stock Exchange (NYSE) and the National Association of Securities Dealers (NASDAQ). While some companies sell stock directly to investors, most only sell stock through a brokerage such as Schwab.
Investors buy and sell stocks for a number of reasons including the potential to grow the value of their investment over time, to potentially profit from shorter-term stock price moves, or even to earn an income by investing in dividend-paying stocks. The reasoning behind these decisions is often derived from qualitative and quantitative techniques like fundamental analysisor technical analysis.Keep in mind that the price of a stock can fall as easily as it can rise. Investing in stock offers no guarantee that you will make money, and many investors lose money instead.Payment of stock dividends is not guaranteed, and dividends may be discontinued. The underlying common stock is subject to market and business risks including insolvency.
How do stocks work within a portfolio?
Stocks are an important part of any portfolio because of their potential for growth and higher returns versus other investment products. In order to determine how much you might consider allocating to stocks, you should first developa comprehensive financial plan that reflects your investment horizon and the level of risk you're willing to accept in exchange for the potential upside stocks can offer.
Asset classes perform differently, and it's nearly impossible to predict which asset class will perform best in a given year. If you had invested $100,000 in just U.S. Stocks in 1997, it would have almost quadrupled to $400,000 by 2017, but there would have been many ups and downs due to volatility. A more diversified investment portfolio would have had a lower return, but reduced volatility.
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Types of stock
Learn about three main types of stocks, as well as some potential advantages and considerations.
- Common stock
- Preferred stock
- American Depositary Receipts (ADRs)
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Definition
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Common stock
A stock represents a share in the ownership of a company, including a claim on the company's earnings and assets. As such, stockholders are partial owners of the company.
Fractional shares of stock also represent ownership of a company, but at a size smaller than a full share of common stock.
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Preferred stock
Preferred stocks (or preferred securities) are hybrid investments that share characteristics of both stocks and bonds. They can offer higher yields than many traditional fixed income investments, but they come with different risks.
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American Depositary Receipts (ADRs)
Many non-U.S. companies, that would otherwise be unavailable or inconvenient to trade, do trade in the U.S. markets as ADRs (receipts for shares of the foreign stock issued by U.S. banks). They are denominated in U.S. dollars and pay dividends in U.S. dollars.
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Advantages
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Common stock
Potential for higher long-term return.
Voting rights (does not apply to owners of fractional shares).
Liquidity depending on trading volume.
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Preferred stock
Dividends are typically higher and fixed.
Share price experiences less volatility compared to common stock.
Preferred shareholders are more likely to recover at least part of their investment if company goes bankrupt.
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American Depositary Receipts (ADRs)
Local U.S.-based trading tends to be more liquid than local foreign markets.
Investors may be able to access financial information more easily for ADRs than for direct investments overseas.
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Risk Considerations
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Common stock
Dividends, if available, are often lower, variable, and not guaranteed.
Stock price and dividend may experience more volatility than preferred stock.
More likely to lose investment if company goes bankrupt.
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Preferred stock
Lower long-term growth potential, if any.
No voting rights in most cases.
Generally less liquid than common stock.
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American Depositary Receipts (ADRs)
Exposure to fluctuations in a foreign company's local currency could affect the value of investments.
Political or economic events in a foreign company's home country could potentially harm your investment.
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Common questions
- What is a ticker symbol?
A ticker symbol is an arrangement of letters or characters that represent securities (stocks, mutual funds, etc.) that are publicly traded. When a company makes their securities available to the stock market, it establishes a unique ticker symbol. Then investors use the ticker symbol to place trades via an exchange like the New York Stock Exchange (NYSE) or the NASDAQ. Here are several ticker symbol examples: AMZN for amazon.com Inc., AAPL for Apple Inc., and IBM for International Business Machines Corporation (IBM).
- What are stock quotes?
Stock quotes provide pricing information for a particular stock including the bid and ask, last-traded price, and volume of shares traded. Stock quotes show a moment in time, meaning what the stock is trading for when the stock market is open (which can be moving up or down at any given time), and the last price of the day when the stock market closes at the end of the trading day.
- Can you sell shares of stock that you do not own?
Yes, when you sell shares of a stock that you do not own, this is referred to as a short sale. You borrow the shares from a lender (like a broker-dealer) and sell in the open market with proceeds from the sale credited to your account. Eventually you must purchase the same number of shares borrowed and return them to the lender – this is referred to as closing out or covering the short-sale position. You must have a margin account in order to short stock. This is not a strategy for inexperienced investors.
- What are small-, mid-, and large-cap stocks?
Small-, mid- and large-cap stocks are ways to categorize market capitalization, which is the total value of all the shares of a company's stock. Very large companies like Apple and Alphabet (the holding company for Google) are considered large-cap stocks with market capitalizations starting at $10 billion. Stocks from relatively smaller companies are considered mid-cap or small-cap depending on how much all of the stocks they are issued are worth. Market capitalization for mid-cap stocks tends to be between $2 billion and $10 billion and for small-cap stocks between $300 million and $2 billion. As stock prices go up and down over time, market capitalization ranges and whether a stock is considered small-, mid- or large-cap changes over time as well.
- What are value and growth stocks?
Value and growth stocks are two different types of stock. Growth stocks are anticipated to grow at a rate above the average for the market. Value stocks are those that tend to trade at a lower price relative to their fundamentals. To determine whether a stock is underpriced, market analysts look at a company’s fundamentals (such as dividends, earnings, and sales) relative to its current share price. Growth stocks tend to be more volatile and generally do not pay dividends.
- What is the secondary market?
The secondary market is where investors buy and sell stocks (and other securities such as ETFs, ADRs, etc.). The term "stock market", such as the New York Stock Exchange (NYSE) or the NASDAQ, is essentially a synonym for secondary market. In contrast to the secondary market, the primary market refers to the first time a security is created and sold to investors such as an initial public offering (IPO).
- What are stock dividends?
Stock dividends are a payment in the form of additional shares, instead of cash.
- What is sector investing?
Sector investing is the strategy of investing across an entire sector (ex: technology, financial, consumer staples, etc.), typically using mutual funds or exchange-traded funds (ETFs).
- What is a penny stock?
A stock that trades for less than $5 per share and is not traded on a U.S. stock exchange is commonly referred to as a penny stock.
- What is an IPO?
An Initial Public Offering (IPO) refers to the process of offering shares of a private corporation to the public in a new stock issuance. Public share issuance allows a company to raise capital from public investors.
- What is a stock split?
A stock split is a type of corporate action that occurs when a company's board of directors decides to divide the company's outstanding shares into a larger or smaller number of shares. Splits are a change in the number of outstanding shares of a company's stock without a change in shareholders' ownership percentage in the company. For example, with a 2:1 split, a client will receive two shares for each share owned prior to and through the open on the security's split ex-dividend (or "effective") date. Also, the share price is adjusted so the value of ones holding in the split stock is unchanged, absent any price changes post-split.
- How does Schwab route my stock orders?
We work hard to ensure your equity orders are routed to destinations that have provided high-quality executions over time. We seek out top-performing securities exchanges and liquidity providers and rigorously evaluate execution quality.
- What is extended hours trading?
Normal market hours are 9:30 a.m. to 4 p.m. ET. After-hours trading occurs after the markets close. There is also a session prior to the market’s open which is called the pre-market session. Together both sessions are referred to as extended-hours trading. Market makers and specialists generally do not participate in after-hours trading, which can limit liquidity.
- What is a fractional share?
A fractional share represents less than one full share of ownership in a company. Schwab Stock Slices™ allows you to place an order based on the dollar amount you want to invest, so you may end up with a fraction of a share, a whole share, or more than one share.
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