Canto 2.3

Equity

This category of investment has the highest risk of changes in value among these three types, but also has the highest potential for profits. Equity securities are usually called stocks, or shares in a company. They are issued by companies. Some stocks pay dividends to the shareholders and some don't. People who buy the stocks that don't pay dividends are expecting to make a profit when the shares go up in value.

If you buy a stock you are buying a piece of the company that issued it. That's why it's called a share. You become a part owner of the company. Most shares give you voting rights in how the company is run, though if you don't own very many shares you don't have very many votes. Companies that make a profit can pay some of it to the shareholders in the form of dividends, can use some of it to buy back shares (and thereby push up their price somewhat), or can put the profits back into the business to develop new products and so on. Some well-established, stable companies, like electric utilities or banks, pay dividends reliably year after year. Some new companies in industries like high-tech, are very busy growing and don't pay dividends at all. Shares generally never mature. If you want your money back out of them, you have to sell them through some kind of stockmarket, usually through a broker. That means someone has to want to buy them from you. If you are fortunate, the buyer will want to pay you more than you bought them for and you will make a profit. If the buyers only want to pay less than you paid for them and you're determined to sell them anyway, you will lose some money.

If a company gets into financial trouble, the shareholders can actually lose all their money. Companies that go bankrupt are obliged to pay their loans (including bonds you might own) before they pay anything to the shareholders. Sometimes there is nothing left for the shareholders. On average, though, this doesn't happen to most stocks. Over the long term, stocks tend to offer more profit than either of the other two kinds of investments. That's why people buy them.

You can buy stocks directly through a broker, but in the U.S. only about a third of stocks are owned by individual households. I'm not sure what the percentage is in Canada. Anyway, most people buy stocks through a stock fund - they buy shares in a fund that owns lots of different stocks. That way your nest egg is in more baskets. Here are some kinds of stocks you might buy, either directly or as part of a fund:

Blue-chip stocks - these are stocks issued by big, well-established companies
Growth stocks - these are stocks issued by companies that are expected to grow rapidly
Value stocks - these are stocks issued by companies that are probably worth more than their share price would suggest (or at least the buyers hope so)
Large-capitalization stocks - these are stocks issued by companies that are worth a total of more than $10 billion altogether
Mid-capitalization stocks - these are stocks issued by companies that are worth a total of between $2 billion and $10 billion
Small-capitalization stocks - these are stocks issued by companies that are worth a total of between $300 million and $2 billion
Micro-capitalization stocks - these are stocks issued by companies that are worth a total of between $50 million and $300 million
There are even nano-capitalization stocks, but probably not many that trade on established stock markets
Stocks from a particular sector of the economy, such as health care or energy
Socially responsible stocks - these are stocks from companies that strive to be responsible in terms of the environment, the rights of workers, and so on

If you are saving for a long-term objective - something you'll need the money for in five years or more - you should consider including investments in this category. Conventional wisdom (particularly American conventional wisdom) would advise that the longer it is until you need the money, the more you should have in stocks and the less you should have in bonds. In Canada, the advantage stocks have over bonds has been a lot smaller. From 1980 to 2012, earnings from stocks were just a fraction of a percent better in an average year than earnings from bonds. The returns from the bonds were also a lot steadier. I think that means that a Canadian investor should be comfortable including more bonds in their portfolio than a US investor might.

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