As we go through our lives, we tend to take common, every day events for granted. I do anyways. I get into my car and turn the key, not thinking about all the things that are happening to make it start. I’m typing on a computer right now not really caring about how these words are appearing on my screen. Now, I’m not here to explain any of these things (thank goodness), but I thought I’d talk about what a stock is and what it means to own shares. Because I think sometimes we only see stocks as a way to grow your assets and forget about why they exist at all.
Stock is a security that signifies ownership in a company. Owning 100 shares of Microsoft means you own a small piece of it. About 0.0000013% in this case^. As an owner, you are entitled to vote at shareholder meetings and participate in its earnings.
Sometimes it’s hard to appreciate what “ownership” means when dealing with a large, publicly traded company like Microsoft. Perhaps it would be easier to illustrate with a simpler example. Let’s say you make the best peanut butter and jelly sandwiches in the world and you want to start a company to sell them (PB&J’s). You have $50,000, but figure it will take $100,000 to get it going. You basically have two choices: you can borrow the money, or you can issue out stock. Here we look at the latter.
When you issue out stock, you are basically splitting the ownership of the company into little pieces. The pieces can be sold to raise money for the company. In this case, you would be selling half of PB&J’s. To do this, you could create 1,000 shares and price them at $100 each for a total of $100,000. With your $50,000 you buy 500 shares. The other 500 you sell to your friends and family or whoever wants to invest in PB&’Js. Let’s say there are five people who each buy 100 shares for $10,000. So, you own 50% of the company and each of your investors own 10%.
At the end of your first year, you find that after all your expenses, PB&J’s has earned $20,000. Dividing this by the total number of shares you get “earnings per share” (EPS) of $20. Assuming that the shares are still worth $100 each, this gives your company a “price to earnings” ratio (P/E) of 5. ($100 share price/$20 in earnings per share). You decide to pay out half of the earnings as a dividend. This means that each investor will get $10 for every share that they own. This would represent a 10% yield. ($10 dividend payment divided by $100 share price).
A few things to know about stocks:
- Companies can choose to pay or not pay dividends out of their earnings. Generally speaking, newer and faster growing companies will not pay dividends, while more mature companies with predictable cash flows will. When calculating your total return of a stock, you should always include the dividends paid as well as the change in share price.
- A company’s share price alone does not make it expensive or cheap. There are other factors such as earnings and growth rate, as well as the number of shares outstanding that play into that equation. In the above illustration, there are 1,000 shares at $100 each. However, we could have issued out 10,000 shares at $10 each and still had the $100,000 total. Each investor would have bought 1,000 shares (instead of 100) to own 10%.
- Stock splits do not change the value of your holdings. If a stock splits 2 for 1, each investor would receive an additional share for each share they owned, but the stock would immediately trade at half the price. For PB&Js, if it split 2 for 1 at the end of the year, you would have 1,000 shares at $50 each, instead of 500 shares at $100 each. Still $50,000.
When investing in a stock, it is important to know what you are buying and why and that it is subject to market fluctuations on a daily basis. Understanding that owning a stock is more than just a number in the newspaper. And, as with investing in general, the best way to help achieve growth is by investing for the long term.
*Non-deposit investment products and services are offered through CUSO Financial Services, L.P. (“CFS”), a registered broker-dealer (Member FINRA/SIPC) and SEC Registered Investment Advisor. Products offered through CFS: are not NCUA/NCUSIF or otherwise federally insured, are not guarantees or obligations of the credit union, and may involve investment risk including possible loss of principal. Investment Representatives are registered through CFS. Verity Credit Union has contracted with CFS to make non-deposit investment products and services available to credit union members.
^Based on the outstanding number of Microsoft shares on 2/21/2017.
Check the background of this investment professional on FINRA’s BrokerCheck.
A Financial Advisor registered through CUSO Financial Services, L.P., Gavin has 25 years of experience as an advisor in the Puget Sound area.
“I believe every client is unique and deserving of a personalized financial plan that will help them reach their individual financial goals. Before I make any recommendations, I like to get to know my clients. By asking the right questions, and developing an honest, trusting relationship, I can really get a sense of what’s going to work best for them.”
Gavin graduated from the University of Washington with a BA in Business Administration and started his financial career with US Bank in the Investment Department. Prior to joining Verity in 2006, he spent eight years with Piper Jaffray.
So what is Gavin’s vision for his dream retirement?
“My dream retirement would be absolutely worry free: financially, emotionally, and in every aspect of life. My finances would be in order so expenses for travel, luxuries, and gifts for the kids, grandkids, and great-grandkids would be taken care of. My kids would be financially sound, so I would be confident in their prosperity. This would give me the freedom to travel and play and do whatever it is I want to do.”
When Gavin’s not working, he enjoys spending time with friends and family, watching Husky football and taking weekend trips around the Northwest.
Gavin is registered to transact securities business in the states of AZ, CA, CO, FL, HI, ID, IL, KS, MN, NV, NY, OR, UT, VA and WA.
*Non-deposit investment products and services are offered through CUSO Financial Services, LP (“CUSO Financial”) (“CFS”), a registered broker-dealer (Member FINRA/SIPC) and SEC Registered Investment Advisor. Products offered through CFS: are not NCUA/NCUSIF or otherwise federally insured, are not guarantees or obligations of the credit union, and may involve investment risk including possible loss of principal. Investment Representatives are registered through CUSO Financial. Verity Credit Union has contracted with CUSO Financial to make non-deposit investment products and services available to credit union members. Atria Wealth Solutions, Inc. (“Atria”) is not a broker-dealer or Registered Investment Advisor and does not provide advice. CUSO Financial is a subsidiary of Atria.
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