Stocks vs Equity

Stocks vs Equity:
Are Equities and
Stocks the Same?

Stocks and equities are both terms used to describe units of ownership in a company and so it’s perhaps unsurprising that In stock market parlance, equity and stocks are often used interchangeably. However, these terms have some technical differences and they are not quite the same thing. With that in mind, let’s take a look at what the two terms mean and their differences.

What Are Equities?

Equity indicates an ownership position in an asset. In most cases, equity indicates a total ownership stake in a company. So if, for example, you have a 15% equity in a company, you own 15% of that company and are entitled to 15% of the company’s profits. An equity investment is typically purchased with the expectation that the value of the investment will increase over time. For instance, when you have equity in a business, you expect the value of the business to increase in value so that you can benefit from your stake in the business. By having equity, you are essentially staking your money on the company’s future success.

What Are Stocks?

While equity describes ownership, a stock describes a single unit of that ownership share. The more stock you buy, the more your equity. Put simply, a stock is the means with which you can engage in company equity transactions. Stocks are generally a tradable form of equity that was created to facilitate the exchange of ownership value in an open market. They might refer to energy stocks, value stocks, large- or small-cap stocks, food-sector stocks, blue-chip stocks, etc. The stocks are traded on large public exchanges and sometimes they are traded in private offerings. When you buy stocks, you are buying equity in a company from someone selling part of or all of their ownership stake in the company. When you sell stocks, you are selling your equity to someone who wants to buy art of or all of your ownership stake. There are two main types of stock that companies issue:

Common Stock (Common Shares)

As its name suggests, this is the most common type of stock. When a stock price is quoted it represents the price of one share of common stock and each share represents an equal percentage of ownership. If you buy shares of common stock you get voting rights and you also have rights to a company’s residual income (you participate in both the share of the profits and losses of the company). Nonetheless, you are protected from any personal liability when something bad happens to the company or when the company incurs losses that go beyond your stocks’ value, i.e. you can’t lose anything beyond what you own even if the company’s debts and liabilities go beyond that.

Preferred Stock

If you are a preferred stockholder or holder of preference shares, you are generally paid a fixed dividend above what the common stockholder gets. You also get preference when it comes to being compensated first should a company go into liquidation. This means that common stockholders are the ones who take the maximum risk as they are compensated last when things go wrong. However, preferred stockholders get no voting rights and cannot participate in a company’s decision making.

Note: Stocks generally refer to units of ownership in one or more companies while shares refer to ownership in a specific company.

Separating Stocks and Equities

From these definitions, it’s clear that stocks and equities are similar to a great extent. However, when broken down, equity is the all-encompassing term for ownership while stock is a form of equity. There are some key differences between these two terms.

What Are the Differences between Stocks and Equities?

All stock involves equity
but not all equity is stocks

Equity exists in any business venture where value can be split among owners. This includes big business corporations and the smaller company setups such as sole proprietorships and partnerships. However, not all equity ventures have stocks. Stocks are generally seen in companies and not in other forms of business structures.

Stock exchange trading

Equity includes stocks as well as other tangible assets excluding debt. While it’s possible to trade stocks, not all equities can be traded. In other words, equity is generally not freely tradable in the market since it directly affects the holding of a business entity but stocks can be traded in the market.

Value

The total value of a company’s equity gives the book value of the company and the total value of a company’s stocks gives the company’s total market value.

Price movements

Stocks attract supply and demand hence their prices fluctuate daily but the price of equity does not fluctuate.

Public involvement

While the general public doesn’t normally get involved in a company’s equity issues, the issuing, buying, and selling of stocks tend to involve general public participation.

Risk

Equity is comparatively riskier because it involves more than just stocks. While stockholders are only liable for amounts up to the value of the stocks they own, equity holders directly face all the complexities faced by a business entity.

Owning a stake in a company
is not the same as trading stocks

Although both investing in stocks and trading stocks involve trying to make some gains in the stock markets, they are two very different approaches. While investing involves getting a stake in a company by buying and holding stocks for the long term, stock traders typically buy and sell stocks to capitalise on market movements and make short-term profits.

What Is the
Difference
between
Investing in and
Trading Stocks?

Investing in Stocks

When investing, you buy stocks outright with the expectation of holding the stocks for the long term, in most cases, several years. An investor does this with the hope that the stocks will increase in price and be sold for a profit at a later date. In simpler terms, an investor buys low and sells high.

Buying stocks is an equity investment in a company and in addition to the potential long-term profits, an investor also hopes to make some gains from dividend payments. Before buying a company’s stock and getting an ownership stake in the company, an investor has to look at several factors such as:

  • The industry the company is in and the type of business
    the company undertakes.

  • The company’s management and its vision for the company.

  • The company’s dividend payment history and
    forecast sales and profit growth.

What are the merits and drawbacks
of investing in stocks?

Investing in stocks gives you an equity stake in a company and it’s viewed as one of the best ways of potentially making long-term capital gains in the financial markets. It allows you to share in a company’s tangible profits while not being personally liable if anything untoward happens to the company.

This means that if something bad happens, the value of your equity may fall but you will be spared from adverse things such as imprisonment or demands for your personal funds. It’s also advantageous that having a portfolio of stocks rarely requires day-to-day management, allowing investors to participate in the stock markets without investing too much time. The biggest downside of investing in stocks is having to undergo bear markets and periods when the stock market is turbulent. The value of the market goes down during these times and it’s possible to lose a significant amount of wealth which can take several years to recover.

Trading Stocks

Trading stocks is not about owning shares, as such, it’s not about equity. Stock trading is about benefiting from share price movements in both rising and falling markets. This is achieved through stock CFDs that take their value from the price of the underlying individual stock or stock index. A stock trader’s aim is to find price patterns that can be used to predict future price movements.

Traders tend to hold their positions over the short to medium term. For example, a day trader may hold a stock position for a couple of hours and focus on smaller market movements and a swing trader may hold their position for several days. Since most stock traders don’t hold their positions for long periods, they focus on market analysis and not so much on a company’s business as investors do.

What are the merits and drawbacks
of trading stocks?

Stock trading gives traders the potential to succeed in the stock markets in a short space of time by taking advantage of price movements. However, stock CFDs are leveraged and when used incorrectly, the leverage can quickly wipe out a trader’s share capital. This means that a lot of traders lose a significant portion of their money before they become consistently profitable and it’s important to understand how stock trading works before venturing into the market.

How Are Stocks Traded?

While investing in stocks and getting equity is relatively straightforward, usually involving buying stocks from stockbrokers, trading stocks requires a bit more work. There are several steps involved in trading stocks.

1. Learning how the market works before jumping in

The stock market works much in the same way as other financial markets and to navigate it, you need the right knowledge. Getting into trading without knowledge will likely cut your trading journey short and so it’s vital to be prepared. Before you can start trading, you need to understand the fundamentals of trading stocks.

For instance, you have to understand what trading using CFDs means for you and how it differs from investing in stocks. You have to be familiar with things such as trading price movements, market volatility, leverage, and the various stocks you have access to. Stocks from over 600,000 companies are being traded publicly worldwide and there are various stock indices to choose from, so there is a lot to consider. You also have to understand how you can potentially succeed in both bearish and bullish markets and you have to be familiar with the several techniques available for analysing stock price movements and the factors that affect stock prices.

2. Understanding what
moves stock prices

Stock trading is all about taking advantage of stock price movements and so one of the key elements of your market analysis will be understanding what moves the prices of different shares.

After a company sets a price at which it will list on a stock exchange any subsequent price fluctuations are the result of any changes in the supply and demand for the stock. The supply of a company’s shares is relatively easy to understand; it’s always limited and known. Even when a company decides to buy back or issue more shares, the total number of shares in circulation is always known.

On the other hand, demand works a bit differently. If more people want to buy a company’s shares compared to those who want to sell, demand increases and the stock price increases as well. Conversely, when sellers on the market exceed buyers, demand decreases and the stock price falls. While supply is always known, demand fluctuates over time. Several factors contribute to this fluctuation including:

2a. Macroeconomic data: The state of the economy and the political landscape a company operates in will affect its growth, and ultimately, its share price. Data such as GDP, retail sales, and government policies can affect the number of people willing to buy or sell a company’s stock, causing the price to rise or fall.

2b. Company earnings reports: A company’s share price will depend, to a large extent, on the company’s performance and many traders will use figures such as earnings per share (EPS), revenue, and profit when they do their fundamental analysis. Poor performance will likely result in less demand for a stock.

2c. Market sentiment: The view that market participants and the public have on a particular stock can cause demand to fluctuate. Unlike fundamental or technical analysis, market sentiment is subjective and often biased, nonetheless, it has the power to increase or decrease demand. For instance, a stock’s growth prospects can be good according to fundamental analysis but a single piece of negative news can cause demand to decrease and affect prices significantly, especially in the short-term.

2d. The economic strength of peers: In addition to performance, a company’s stock price tends to move in line with the demand and prices of other stocks in the same sector or industry.

2e. Interest rates: When interest rates are lower, people have more money to spend and this tends to increase demand for stocks. When interest rates are higher, people have less to spend and so demand tends to fall. So, for instance, if it seems likely that a central bank is about to increase interest rates, demand for stocks may decrease.

3. Creating a good trading plan

A good trading plan is at the core of many traders’ success. A good trading plan outlines aims, expectations, trading style, risk appetite, as well as money and risk management rules that include when to enter and exit trades. A plan will not only give your trading some structure, but it will also help you with educated and sound-decision making that increases your chances of succeeding in the market.

4. Understanding the risk of trading

CFDs are leveraged products, allowing traders to open a position for just a fraction of the required capital outlay. For example, let’s say you want to buy 100 shares of Google stock at a share price of $1,000. A conventional trade would require you to have $100,000 to open the position before considering any trading fees. If you open the position with a leverage of 50:1, you are only required to put down a margin requirement of 2%. This would give you a $100,000 exposure with just $2,000.

Leverage can magnify profits. You get access to profits as if you opened the position with the full capital outlay. However, leverage can easily magnify losses as well and it’s vital to use it cautiously. You can also use tools such as stop orders to minimise risk. A stop order will automatically close your position when the market moves against you by a predetermined amount. Nonetheless, it’s important to remember that normal and trailing stops can be affected by slippage and you may need to use guaranteed stop orders.

5. Knowing that trading has a cost

When you trade, you will be charged a commission for entering and exiting each trade. It’s likely that you will also be charged a small premium for using tools such as guaranteed stop-orders, although this is usually only charged when the stop is triggered. High fees can eat into your long term gains and so it’s important to choose a broker offering quality service for a good fee.

6. Opening an account

Once you have an appreciation of how stock trading works, you can open a trading account. It’s essential to open the account with a reputable broker who offers an excellent trading platform in addition to trading tools, quality educational resources, competitive fees, and reliable support.

Creating a live trading account is a fairly straightforward process that can be completed in a few steps, but you should only open this account when you are confident enough to trade on live markets. If you are still learning the ropes and you are unsure that your strategy will work on real markets, you might want to consider opening a demo account which you can use to practice with virtual currency at no risk to you. You should keep in mind, however, that a demo account will never fully prepare you for the emotions that come with live trading and risking real money. That is something you will only fully appreciate once you open a live account.

7. Opening a position and trading

Before you can open a position, you need to decide on two things. The first thing is to choose the stock you want to focus on and the second is deciding whether you want to open a long or short position. You will go long (buy) if you think the stock price will increase or go short (sell) if you think the price will decrease.

Before you open a position, it’s also prudent to minimise risk by attaching orders to your position according to your risk profile. You can set limit orders in addition to stop orders. A limit order will close your position when the market moves in your favour to lock in any profits in case the market takes a sudden downturn.

After opening your position, you will be able to monitor the trade on the trading platform. You will have access to real-time updates on any running profits or losses and once you are ready to close your trade, you can simply select the ‘close’ option or take the opposite position from your initial trade. This means that if you opened your position by buying, you will close the position by selling and vice versa. Your final profit or loss will be released on closing the position.

Having Equity
in a Business vs.
Trading Stocks

Unlike investing in stocks, trading stocks requires discipline and putting in a lot of time into refining your trading skills. Increasing your chances of succeeding in the market will rely, to a large extent, on how much work you put into honing your trading and how much effort you put into continuously studying the market movements and dynamics.

Stocks vs. Equities:
The Bottom Line

There is a very thin line when it comes to the differences between stocks and equities. It’s a matter of technicalities and in most cases, you can get away with using the two terms interchangeably.

The main difference is that while equities represent a stake in a company, tradable or not, stocks are generally tradable equity shares of a company that can be issued to the general public through stock exchanges. You buy equity in a company when the stocks are trading at a certain price, hoping that this price will increase, and with it, the value of your ownership in the company. Since stocks tend to involve the general public, they get more scrutiny and regulation compared to other forms of equity, nonetheless, they are still equity.

To sum it all up, just remember that all stocks are equities, but not all equities are necessarily stocks.

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