Stocks on a $100 bill
Examining the different types of stocks
by Amanda HoldenThe ups and downs of the stock market can be downright exhilarating — or terrifying, depending on who you are. There’s a reason so many people refer to the capricious stock market as a roller coaster ride.
That said, investing in the stock market provides a great opportunity for young people to build wealth over a long timeframe. If the idea of stocks is enticing to you, and you’re thinking about getting into the stock investing game, one of the first steps is to learn about the different types of stocks.
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What are the different types of stocks?
With an understanding of the different types of stocks, it is possible to start wrapping your head around what it requires to build a diversified stock portfolio. Though all stocks experience volatility and have the potential to lose value, a diversified portfolio will help to mitigate the risk of being too heavily invested in any one category.
Types of stocks are put into categories using a number of different characteristics, such as a stock’s size, region, sector and style. Here’s a round-up of the most common stock investing styles and classifications.
Stocks explained
A stock represents a percentage of ownership in a publicly-traded company. So, for example, individual investors can own small pieces of companies.
You can earn money on the stock in two different ways. The first is by the value of the stock growing over time. This is called capital appreciation. The second is through dividend payments. Dividends are cash payouts periodically made to all owners of that company’s stock.
When you own a stock, you hold equity in that company. That’s why stocks are sometimes referred to as equities. Each individual share represents an equal proportion of ownership. Owners of stocks are often referred to as stockholders or shareholders because they own shares of equity in that company.
As you review the different types of stocks, you’ll notice that the classification refers to the underlying company. Sometimes, the classification of that stock refers to a characteristic of the stock itself.
Stock classification
Common stock represents shares of ownership in a corporation. Common shares are what most people invest in when they invest in stocks. With common stocks, each shareholder is technically allowed voting rights at that company — usually one vote for each share held.
Preferred stock also provides investors an opportunity to participate in the growth of a company but in some ways, is more similar to a bond.
Preferred stocks make regularly scheduled dividend payments, which generally keeps the price of the stock within a given range, making it hard to net big capital gains.
If a company becomes financially insolvent, preferred stockholders have a claim on assets before common shareholders do. But preferred stockholders do not have the same access to voting rights.
Company size
You can invest in the stocks of companies that are small, companies that are huge and everything in-between. Here are some commonly used parameters for size distinction when discussing stocks.
More specifically, the size distinctions are classified by the market value of that company’s publicly traded stock. In market parlance, you’ll hear this referred to as market capitalization. There isn’t one standardized measure of market capitalization, but you’ll often see breakdowns along these lines:
Micro-Cap: Less than $300 million
Small-Cap: $300 million to $2 billion
Mid-Cap: $2 billion to $10 billion
Large-Cap: Over $10 billion
Generally speaking, larger companies are older and more established, and potentially pose less risk for investors. Smaller companies are often newer, less established and riskier. This can mean that smaller companies offer more growth potential in exchange for higher risk.
Stock region
Often, different stocks are classified by the country or region in which that company is headquartered, even if the company’s operations are global.
Regions that are commonly used in the world of stock investing are:
U.S. stocks, which are, in the United States, sometimes referred to as domestic stocks.
Foreign stocks, which are also frequently referred to as international stocks. As a category, this is very broad, and can include a wide variety of regions and countries. It helps to narrow it down some more.
EAFE is an acronym that stands for Europe, Australasia and the Far East. You may see this used when making investment choices, as the MSCI EAFE is a common index used for international stock funds. These countries are all ‘developed’ nations, which means they have established financial markets, stable political climates and mature economies.
Emerging markets stocks, which refer to stocks with companies based out of countries whose economies are described as developing. Brazil, Russia, Mexico, China and India are just a few emerging markets.
Emerging markets may be riskier to invest in but may pose an opportunity for high rates of growth. Stocks are also often grouped by the country in which they are headquartered. For example, you may hear someone referring to their stock investments such as “Japanese stocks” or “Dutch stocks.”
Stocks by sector
Additionally, stocks are often classified by the industry that that company works within. According to the Global Industry Classification Standard, there are 11 recognized sectors, with 24 industries within those sectors.
Here are 11 broad sector categories, and some of the industries included within them:
• Energy: Energy equipment and services, oil, gas and consumable fuels
• Materials: Chemicals, construction materials, metals and mining, paper and forest products
• Industrial: Aerospace and defense, building products, machinery, construction and engineering
• Consumer Discretionary: Automobiles, apparel, retail, hotels, restaurants and leisure
• Consumer Staples: Food, beverage, tobacco, household items and personal products
• Health Care: Health care equipment and services, pharmaceuticals, biotechnology and life sciences
• Financials: Banks, insurance, consumer finance, capital markets and diversified financial services
• Information Technology: Software and services, technology hardware and equipment and semiconductors
• Communication Services: Telecommunication services, media and entertainment
• Utilities: Gas, water, electric, independent power and renewable electricity producers
• Real Estate: Real estate management and development and equity real estate investment trusts
Stock style categories
Stocks are also often classified in different style categories. Often, these categories have to do with how that company makes money or is expected to make money.
Value stocks are stocks that are considered to be undervalued. You can think of the stocks like diamonds in the rough. Investors hope that by buying companies that are priced below their ‘true’ value, they can profit as the gap narrows over time.
Growth stocks are companies that are expected to continue growing at a faster rate than competitors.
Dividend investing is a style utilized by investors who are targeting a stock’s ability to produce income and/or provide cash flow. These would be companies that post a high dividend yield. Utility and real estate companies often fit into this bucket.
Investing in stocks
Investing in the stock market comes with some risk. But if you are comfortable with stock market investing (and its inherent volatility), it is possible to vastly reduce some types of risk.
In order to mitigate risk, investors often create diversified portfolios. Diversification is the idea that you don’t want to load your portfolio up in any one stock or type of stock, especially knowing how volatile stock investments can be.
This way, if U.S. stocks or tech stocks have a particularly rough year, for example, you’ve got other investments that will hopefully perform better. No returns are guaranteed and even a diversified portfolio could lose value.
To buy and sell stocks, you would traditionally buy them within what is called a brokerage account, at a brokerage firm. Depending on the type of brokerage account, there may be commission or transaction fees charged when you make trades. This roadblock can make it difficult for small investors to get started.
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