This article is aimed at the millennials who are not sure about stock investing or the future in general. Asking how do stocks make money for investors is a good place to start looking at how to save for the future, create a rainy day fund and even retire early. Let’s look at what stocks really are and then how investors use them to make money.
A basic stock definition comes from Investopedia.
A type of security that signifies ownership in a corporation and represents a claim on part of the corporation’s assets and earnings.
There are two main types of stock: common and preferred. Common stock usually entitles the owner to vote at shareholders’ meetings and to receive dividends. Preferred stock generally does not have voting rights, but has a higher claim on assets and earnings than the common shares. For example, owners of preferred stock receive dividends before common shareholders and have priority in the event that a company goes bankrupt and is liquidated.
When a company wants to raise money it sells stock, issues bonds or borrows from the bank. Both bonds and borrowing require that the company pay interest and pay back the debt. By selling stock a company raises money, hopefully increases the likelihood that it will make more money and does not have to pay back any debt. However, by selling stock the company dilutes its ownership and gives new stock holders (common stock) a voice in company affairs. Knowing how this works, why should a person buy stock and how do these stocks make money for investors?
The point of investing in stocks is to make more money than if you put your cash in the bank. Bloomberg writes about how much stock investors should expect to earn. The article quotes famed investor, Warren Buffett.
Investors in U.S. stocks should expect a return of about 6 percent to 7 percent a year, and people who are looking for double those gains are “dreaming,” billionaire investor Warren Buffett said.
The economy, as measured by gross domestic product, can be expected to grow at an annual rate of about 3 percent over the long term, and inflation of 2 percent would push nominal GDP growth to 5 percent, Buffett said. Stocks will probably rise at about that rate and dividend payments will boost total returns to 6 percent to 7 percent, he said.
Compare a return of 7 percent per year per year to the one percent that a long term certificate of deposit will return and you can see how stocks make money for investors.
Picking the Right Stock: and ignoring the static
A current article in USA Today talks about Fed uncertainty and China fears.
U.S stocks were lower at midday Monday as uncertainty about the timing of Federal Reserve rate hikes and persistent fears about a China slowdown continue to weigh on financial markets after last week’s wild ride.
The major indexes are set to close out a volatile August with losses as the S&P 500 heads into the final trading day of the month down about 5.5%, putting it on track for its worst monthly performance since May 2012, according to S&P Dow Jones Indices.
The Dow Jones industrial average was down about 40 points, or 0.2%, at 12:40 p.m. ET. The Standard & Poor’s 500 index was down about 0.3%, as was the technology-packed Nasdaq composite, which was down 0.2%.
Among the 10 S&P sectors, utilities were the hardest hit and energy saw the largest gains as oil prices continued to jump. U.S. benchmark crude gained another 5.5% to $47.79 a barrel.
This a common sort of news article about stocks. Investors can be pardoned for feeling confused and uncertain about investments. Successful investors pick stocks by understanding what a company does to make money and assuring themselves that that business plan will continue to work in the future. This is fundamental analysis of intrinsic stock value. Investors who learn this process make money year after year after year.