Equities are shares of ownership in a company. Equity is just another way to describe stock â€” youâ€™ll hear people use the terms â€śequity marketsâ€ť and â€śstock marketsâ€ť interchangeably. Investing in equities can be one of the best ways to build your long-term savings. This article covers the basics of what are equities, how do they work and what else you should know about investing in this market.
The broad equities definition is the value of a property or a business to the owners after subtracting debts. When you buy a house and begin making mortgage payments, you build home equity, which is the value of your property that you own outright.
Publicly traded companies, like Nike and Tesla, sell shares of their equity to investors to raise money. When you buy a companyâ€™s equity â€” aka its stock â€” you become a partial owner of the company. This comes with several benefits, including dividends.
As an equity shareholder in a company, you are entitled to a share of its profits based on how much of the companyâ€™s stock you own. Companies from time to time will send their shareholders a cash payment called a dividend. The frequency of it depends on the companyâ€™s strategy.
Newer growing companies like Uber typically do not pay much in dividends because they reinvest their cash in operations to keep growing. On the other hand, established companies like Coca-Cola focus on paying more dividends to shareholders. So how do you start buying equities as an investor?
Investors buy and sell equities from each other through the equity market. When you watch financial news and hear people talking about stock markets, this is what they mean. Some of the larger equity markets in the United States include the New York Stock Exchange and the Nasdaq.
If investors believe a company is doing well and will earn higher profits in the future, the price of its equities will go up. On the other hand, when a company runs into financial trouble, the price of its equities will fall. To access the equity markets, you sign up for a broker who will process your buy and sell trades. We list some of the best online brokers on our site you can use.
A company can sell two types of equity to investors: common and preferred. With common equity, you earn money when the stock price goes up and when the company issues dividends. You also get the right to vote on certain company matters, like picking the board of directors.
Preferred equity has a few differences. First, preferred stock typically pays a fixed dividend rate, so you get money each year. On common stock, the company can choose when to pay dividends and it might not be every year.
Another difference is if the company ends up going bankrupt, they legally have to pay out preferred equity shareholders first â€” before they distribute whateverâ€™s left of their remaining money to common shareholders. The downside of preferred equity is that it does not have voting rights. Itâ€™s also rarer. While you may be able to buy preferred stock for some companies, most shares on equity markets are common equity.
Equities can be one of the most effective ways to build wealth and save for retirement. Over the past few decades, they have posted one of the highest average annual returns, better than other investments like bonds or gold.
By regularly saving money and investing in equities, your savings will benefit from compounding, which is simply where your money makes money. A dollar you put aside now could double, triple and possibly become more valuable in the future thanks to your investment gains.
On the other hand, if you just kept your savings in cash or a bank account with no interest, they wonâ€™t grow. This actually decreases your future buying power because of inflation, as prices go up over time. By growing your money with equities, you put yourself in a stronger position in the future while also generating income for today with dividends.
Finally, you can receive tax benefits by investing in equities using a retirement plan, like a 401(k) or a traditional IRA. You can deduct the amount you contribute to these accounts. You save on taxes today while putting aside money for the future. These accounts also delay taxes on your gains, so you donâ€™t owe tax until you take money out.
As a beginner investor, it can feel intimidating figuring out which equities to buy. One way to make things easier is by buying into an equity fund, which is a mutual fund that invests in stocks. Equity funds are mutual funds that combine the money from many small investors to build a large portfolio of different equities. The portfolio is then managed by a professional to meet the fund goals. Some common types of equity funds include:
Shareholdersâ€™ equity shows how much value would be left for a companyâ€™s shareholders if it used all its assets (everything it owns) to pay off everything it owes (debts/liabilities). If the company had to shut down today, they would distribute this remaining money to their shareholders.
When a company has high shareholdersâ€™ equity, it means that it has more than enough assets to cover its debts. This could be a sign that the company is profitable, shown by a high level of retained earnings on the balance sheet. On the other hand, it could also mean that the company has raised a lot of money from investors. However, if a company has negative shareholdersâ€™ equity, it is running into financial trouble because it doesnâ€™t have enough assets to pay off its debts.
Publicly traded companies release their financial statements so investors can check their performance before buying. They list their total shareholdersâ€™ equity on the balance sheet so you can look it up there.
You can also do the calculation yourself by adding up all the listed assets, then subtracting all the company liabilities on the balance sheet. If a company has $200 million in assets and $150 million in liabilities, its shareholder equity is $50 million.
Besides buying shares on the markets, you could also receive equity from your employer. Sometimes they just give shares directly through an equity grant. You could also receive equity stock options, where you are guaranteed to buy shares of a companyâ€™s equity at a set price.
If the market price goes higher than that, your options make money. For example, if your employer gives you the option to buy shares at $50, then if the market price goes to $80, you could cash in your option for a $30 per share profit.
When employers offer equity in a compensation package, they usually do so to reward loyal employees. You may need to work a minimum number of years to receive all your equity grants â€” for example, an employer may offer 1,000 shares, but you only get 20% for every year worked, so youâ€™d need to stay on for five years to earn it all.
If you have any more questions about what are equities, which ones you should pick or your companyâ€™s compensation package, consider speaking with a financial advisor. They can help you plan your investments and figure out what role equities should play in reaching your long-term goals.