Types of Stocks

By definition, a stock is basically, share in the ownership of a company. It represents a claim on the company’s assets and earnings. But when it comes to types of stocks, there is a defined set that you should be aware of. After all, you are going to invest in one of those.

When a company is founded, it has just a few shareholders (or stockholders) which are the co-founders and early investors. As the company grows and requires more money to expand, it may issue more of its shares to other investors.

In case a company goes public, its stocks are issued to the general public for raising funds. These stocks are then publicly traded on stock exchanges. There are different types of stocks on basis of different classification criteria.

Let us discuss one by one.

Types of Stocks on the basis of Ownership

There are mainly 4 types of stocks on the basis of ownership criterion which are:

Common Stock –  Majority of the company’s stock is issued in this form. Common shares represent a claim on the company’s profits (dividends). Common stockholders are also eligible to vote to elect the board of directors.

Preferred Stock – It represents some degree of ownership in a company with a promise that a fixed amount of dividends will be paid every year. Preferred stocks usually don’t come with the same voting rights as common stockholders.

Hybrid stocks or Convertible Preferred Shares – These are usually preferred shares which come with an option to be converted into a fixed number of common stocks at a pre-decided time. They may or may not have voting rights like common stocks.

Embedded-Derivative Options Containing Stocks – As the name suggests, some companies issue preferred stocks which come with a call or put option embedded in them. They are “callable” or “puttable” stocks. Callable stocks are the ones which come with an option to be bought back by the company at a certain price or time.

Puttable stocks come with an option to be sold to the company at a prescribed time or price.

Types of Stocks on the basis of Market Capitalization

Market capitalization or market cap means the total market value of a company’s outstanding shares which is calculated by multiplying a company’s outstanding shares with the current market price of one share.

Broadly, there are three types of stocks on this basis, small cap, mid cap and large cap.

 

Large Cap Companies – These are generally huge and well established. They are leaders in their sectors and have a huge market presence. Examples of a few large-cap companies are:

 

Mid Cap Companies – They are mid-sized companies and have the potential to become large cap in a few years. Investment in them is a little riskier as compared to large-cap companies. Examples of a few mid-cap companies are:

 

Small Cap Companies – Small-cap companies have lesser revenues and client bases than mid and large companies. They usually include the start-ups or companies which are in the early stage of development. Examples of a few small-cap companies are:

 

Types of Stocks on the basis of Profit Sharing with Shareholders

Almost all public companies try to share their profits with their shareholders in one form or another. There are mainly two kinds of stocks on this basis which are described below:

Income Stocks – These stocks distribute a higher dividend in relation to their share price. They are called income stocks as they contribute to more income generation for their shareholders in the form of dividends.

These companies are quite stable and are consistent in distributing dividends among their shareholders. Therefore, a rise in the stock price is not much in these kinds of companies. Stocks of blue chip companies also belong to this stock type. Investing in these stocks is less risky than investing in growing companies’ stocks.

For example – Coal India is an income stock which provides good dividends to its shareholders. It is a stable large-cap company, the stock price of which does not keep on appreciating beyond a certain level.

Growth Stocks – These are those kinds of stocks which do not pay high dividends. These companies focus on reinvesting their earnings in operations of the company itself in order to grow at a faster rate. Consequently, there are more chances of a rapid increase in stock price thus increasing their shareholders’ wealth.

The earnings of such companies grow faster than the overall economy, and therefore, there is a strong probability of the stock outperforming the market. Investing in these stocks is riskier than investing in income stocks.

For example – Bhansali Engineering Polymers Ltd. is a growth stock which has not distributed dividends in the past years but it’s stock price has appreciated enough to keep its shareholders happy and hopeful for its future.

Types of Stocks on the basis of Intrinsic Value

It is believed that the share price should be equal to the intrinsic value of the company’s share. There are two types of stocks on this basis which are described below:

Overvalued Stocks – When the intrinsic value of a stock becomes greater than its share price, it is believed to be overvalued. One should remain cautious while investing in these types of stocks.

Undervalued Stocks – When the intrinsic value of a stock is less than its share price, it is believed to be undervalued. Value investors are in search of these types of stocks as they believe that the mismatch between the intrinsic value and the stock price will reduce eventually and the stock price will rise.

Types of Stocks on the basis of Price Trends

There are two types of stocks:

Cyclical Stocks – Businesses of some companies are more affected by overall economic conditions. In a slow economy, their growth moderates and hence, the stock price varies accordingly. Similarly, when the economy is booming, prices of such stocks rise.

Investment in such stocks is fruitful when the economy is running in good condition. Stocks of automobile companies are one of the examples of cyclical stocks.

Defensive Stocks – These are those types of stocks that remain relatively unaltered with changing economic conditions. Some examples of sectors of such stocks are food, beverages, drugs and insurance. These types of stocks should be preferred when there is a slowdown in the economy.

They are relatively safe to invest in.

Types of Stocks on the basis of Price Fluctuations

Blue Chip Stocks – These are the stocks of those companies which are extremely well established and have stable earnings. These companies are running their operations smoothly and giving consistent results and distributing good dividends to their shareholders.

Due to their stability, they are considered relatively safe to invest. Examples of blue-chip stocks are ITC, TCS, Infosys, Reliance Industries

Beta Stocks – Risk, called Beta is measured by analysts using the volatility in the stock prices. The higher the beta, the greater the volatility in the stock. This means more risk in investing in high beta stocks.

On the other hand, the volatility of low beta stocks is low and they are considered relatively safe to invest.

Conclusion

After learning different types of stocks on the basis of different criteria, we have enough knowledge to be able to choose stocks that fulfil our investment criteria.

The choice of stocks should be done carefully depending on many factors like the time frame for which we want to invest a particular sum of money, dividend yield, industry, overall macroeconomic and microeconomic conditions, our risk appetite, etc.

If we can afford to take greater risks, the probability of larger returns or larger losses come with it. Similarly, with low risks, the return percentage also gets reduced accordingly. So, plan smartly and choose your stocks wisely.

Happy investing!

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