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My Take On Stocks: Why They Are Bought

Disclaimer : The below is not financial advice. The following are my opinions, and may be factually incorrect and/or misleading.

There’s four ways people can make money by owning a share in a company.:

  • Dividends: The company who owns the stock can distribute earnings to entities who own a share in the company.
  • Selling of Stock: If you sell the stock at a price higher then you purchased it for, you made a gain.
  • Selling/Buying Options: I won’t go into this one. But basically it allows someone to buy/sell a security at a agreed upon price in the future.
  • Expense Ratio/Management Fees: Brokers can charge fees for managing a stock portfolio (such as a ETF)

The second scenario is interesting, selling a stock. Remember there is always a buyer and a seller in a share transaction. So who is buying?

  • Someone who is taking the company private: To take a company private, all the public shares need to be sold. This forces people who own the stock to sell.
  • The company who owns the stock: If a company thinks their stock is cheap, they may buy it back from the public.
  • Other traders: Everyone else who is trying to invest in the company or speculate on the price.

There’s also the scenario where a company closes and doesn’t go into bankruptcy. Common share holders would get a percentage of left over profit, based on their number of shares owned [ref]. They are last in line though.

Why would a company care about its share price after all freestanding shares are sold?

This is an interesting question. I think there are a list of reasons:

  • a) Buy back scenarios. Employee compensation often is in the form of shares, so they have an incentive to not have it decrease. A company may buy stocks if they think it’s undervalued too.
  • b) The company appreciates their share holders.
  • c) CEOs/board members moving to another company would want to demonstrate the valuation of their company has increased, which is often reflected through the stock price. I don’t believe stocks generally represent the current valuation of the company, but what people think the company is valued for in the future. That and speculative trading of price movement.

So in a hypothetical scenario if a company planned to gain money from selling all free standing stocks, and never will do buy backs, pay out dividends, or sell to another company, is it wise to invest in the stock?

Personally I don’t think so. I think speculative traders would still buy and share the stock, hoping one of the above occurs in the future (or the company closes without filing for bankruptcy), or think they can guess what way prices is going. But this becomes gambling rather than investing.

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