Equities - Types of Stock
The downside to common stock ownership is that common shareholders are last in line to receive any funds if the company is liquidated; the claims of creditors, bondholders and preferred shareholders all take precedence.
Common stock is issued by all classes of companies, each of which meets different needs among the investing public:
- Blue chip: strong, stable and mature, with a long history of consecutive quarterly dividends; may also be income.
- Growth: strong potential for improving profits faster than it has to pay back its debts, and thus a strong potential for outperforming the market.
- Emerging growth industry: young firm in new industry with good growth prospects, but also high-risk.
- Income: mature company with high dividend yield and few prospects for growth or diversification. These are typically utility companies; however, they may also be blue chip companies.
Remember the earlier discussion of timing risk? By balancing stocks that have these characteristics in your portfolio, you can minimize this uncertainty:
- Cyclical stocks move with the broader market - and often with greater volatility - so they outpace the market during an expansion but whipsaw back during a contraction. Automotive stocks are one example.
- Counter-cyclical or defensive stocks do better in bear markets, when investors are looking for safe places - that are not affected greatly by economic currents - to park their money. Companies in the food, health care and defense industries are all examples.
- Speculative or special situation stocks are those that, for whatever reason, an investor believes will rise quickly in market price. There can be an element of guesswork here, but other factors may be at play too. Often, these are companies emerging from reorganization or bankruptcy. Sometimes investors will be drawn by the fact that a company's incompetent or corrupt management is being replaced by turnaround specialists. Alternatively, it might be that a company is either fundamentally undervalued or selling at the low end of its historic trading range and is thus ripe for a sharp upward movement in stock price.