What are shares and how to earn on them?

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We understand in detail what shares are, what rights they give and how their owners make a profit.

What is a share?

A share is a security issued by a joint-stock company, in other words, an issuing company. All investors who bought the shares became co-owners of the company. The action just confirms that its owner has a share in the company, even if it is very small.

What do shares give to the owner?

Surely you have heard the expression “controlling shareholding” – usually in the movies, the villain insidiously takes over the company, getting 50% and one more share. Although this villain is not a 100% owner, he still gains control of the company, because he owns most of it.

But even if you bought not a controlling stake, but only a tiny piece of the company, you become a shareholder and also receive rights, the main of which are:

  • the right to vote at the meeting of shareholders and thus participate in the management of the company (if the share is voting);
  • the right to receive dividends – part of the company’s profits (if they are paid);
  • the right to receive part of the property of the company in the event of its liquidation.

Why is the right to vote important? Because all the most important decisions are made by the general meeting of shareholders. Including decisions on the liquidation and reorganization of the company. It is the meeting that decides how best to manage the profit at the end of the year: send all the money to business development or part of it to pay dividends.

What are the types of shares?

Shares of companies are ordinary and preferred. The differences are related to two main rights – to vote and receive dividends.

  • Ordinary. The most common type of shares. They always give the right to vote at the shareholders’ meeting, but do not guarantee dividends.
  • Privileged. They have a predetermined amount of dividends – for example, a percentage of the company’s profits. Their owners can participate in voting only if they did not receive dividends at the end of the previous year.

Sometimes there are special types of preferred shares:

  • Privileged non-voters. They have a fixed dividend and the right to receive payments in the first place, but do not allow voting.
  • Privileged with special rights. The conditions for paying dividends and the possibility of voting are prescribed in the company’s charter. For example, the holders of such shares may be able to vote, receive priority in the payment of dividends and the right to be the first to buy new issues of shares. The charter may also contain any other rights that the company wants to grant to their owners.

It depends on the type of shares whether dividends will be paid to their owners and in what amount. If the meeting of shareholders decides to allocate part of the company’s profits to the payment of dividends, it will be distributed among the owners of preferred non-voting  shares in the first place. For them, a fixed dividend is provided – a specific amount or percentage of the nominal value of securities. The owners of preferred non-voting shares participate in voting only in those cases when there is a question of liquidation of the joint-stock company.

Second in line for dividend payments are holders of standard preferred shares. The amount of dividends on these shares may be equal to a specific amount or a percentage of the par value of the share. But most often it is defined as a percentage of the company’s net profit at the end of the year, divided by the number of preferred shares. The procedure for calculating dividends is usually spelled out in the charter. The holders of such shares cannot vote in case of payment of dividends. But if dividends were not accrued, then at the next meeting they get the right to vote on all issues.

One joint stock company may have several types of preferred shares, including shares with special rights. The charter of the company should clearly fix the order in which dividends are paid to their owners. Therefore, before buying preferred shares, carefully study the charter of the joint-stock company.

Holders of ordinary shares can expect dividends only if the company fully fulfills its obligations to all preferred shareholders.

After the dividends are distributed, payments are made to all categories of shareholders of the company simultaneously.

What do stocks look like?

Strictly speaking, no way. Due to cinematic and literary stereotypes, the very word “action” is usually associated with a beautiful stamp. But today, shares are not luxurious pieces of paper, they are not printed at all, they, in official language, are paperless, that is, they exist only in electronic form.

Accounting for securities is carried out by special organizations – depositories and registrars . But before working with them, make sure they have a license from the Bank.

How are securities accounted for?

  • If your securities are accounted for by the depository, then the ownership of them is confirmed by the depo account statement. This is your personal account, which indicates what securities you own.
  • If the record is maintained by the registrar, then in order to confirm the ownership, you need to ask the registrar for a personal account statement. This statement shows how many shares of a particular company you own.
  • If your assets are managed by a trustee , the shares are kept on his depo account or personal account with the registrar. You may not request a statement directly from the depository or registrar, but you may at any time request a statement of transactions from the trustee.

Why buy shares?

You can buy a block of shares to participate in the management of the company. But most often they are bought to earn income.

  • Through dividends. If at the end of the year the company made a profit and the general meeting decided to distribute it among shareholders, then you will receive dividends for each of your shares.

    But there are no guarantees that you will receive money. If the company performed “in the red” or the meeting decided not to distribute profits to shareholders, you will not receive dividends. This is the risk that always accompanies investments.

  • Due to the increase in the share price. You buy stocks and expect their price to rise in the future. When you sell them, you will receive income – the difference between the price for which you bought a share and the price for which you sold it. Don’t forget that you still have to pay for services to the depositary or registrar, commission to the broker and tax on profits on the sale. Moreover, you can not only not receive income, but, on the contrary, even lose money. For example, if stocks fall in price. As you know, there are no guarantees on the securities market and there cannot be, but there is always a risk.

What taxes do shareholders pay?

If you received income (from dividends or from the difference in price when selling shares), you will have to pay tax.

Dividends are always subject to income tax.

Income from the sale of shares is tax-free under three conditions:

  • you bought shares on the stock exchange after January 1, 2014,
  • kept them for at least three years
  • and earned at the expense of the price difference less than 3 million per year.

Where can you buy shares?

There are two ways – on the exchange or out of the exchange. Trading on the stock exchange is more transparent – quotes (prices) of shares and other securities can be easily tracked. When you buy or sell shares directly, off the exchange, there is a risk that prices will be higher or lower than the market.

In addition, the exchange carefully evaluates the issuing companies. You will hardly find shares of obvious scammers there. And as a result of the check, the rest of the securities are assigned an important attribute – the listing level .

Today there are three. The first level (or the first quotation list ) – the most liquid shares of the most reliable companies on the Russian market.

To get into the  second quotation list , the requirements are no longer so high. But all companies whose shares claim to be on the first or second list must regularly report to the exchange on the results of their activities, as well as publish statements and all important information about themselves on the Internet.

The third level is the unquoted part of the list with the lowest requirements. If you are going to buy securities of a third-tier company or a company that is not listed at all (list of securities) of the exchange, you will have to evaluate its reliability yourself. And this is not easy even for an experienced investor.

To conduct transactions on the exchange, you will need a professional intermediary – a broker or trustee. They must have a license from the Bank to work on the stock market.

What stocks are available to novice investors?

By law , newcomers to the stock exchange can freely trade shares of their country and foreign companies from the first and second quotation lists.

In addition, novice investors can invest in top companies in other countries, even if they are not listed on the domestic stock exchange. When shares are included in the calculation of one of these indices, they can be bought without restrictions.

For transactions with shares that are not included in either quotation lists or global stock indices, you need to pass special testing. Some stocks are only for a qualified investor – without a qualified status, you will not be able to trade in such securities even after testing.

With one broker, you need to successfully pass the test once – before making the first trade with especially risky stocks. But if you want to switch to another intermediary, you will have to go through the verification again.

Testing will test the level of your knowledge about the tool. For example, you will need to answer how quickly you can sell a share that is not included in the quotation lists. You will also need to calculate the income from the sale of a foreign share, from which you will have to pay personal income tax. To successfully pass the exam, you must answer all questions correctly.

What are the risks involved in buying shares?

Investing is always a risk. And it is proportional to the likely return of the securities: the more you can earn, the more you risk. There are three main risks that await investors.

  • Market risk  means that securities may rise or fall in price. It is determined only by the market law of supply and demand. For example, if a company discovers a new oil, gas, gold, or palladium deposit, its stock is likely to rebound. And if, say, a financial company’s license was suspended, its securities would plummet.
  • Liquidity risk  means that the securities you buy may be difficult to sell later. Either no one will want to buy them at all, or they will agree, but only at a big discount – at a greatly reduced price. That is, “blue chips” – securities of the largest and most reliable companies – you can sell in a matter of minutes if you wish. And for the shares of the unknown “Pupkin and Co” it is unlikely that a queue of people will line up.
  • Credit risk  is the risk that the issuing company will go bankrupt. Then your securities will depreciate sharply. But you will be able to count on your share of the company’s property after the end of the bankruptcy proceedings.

Due to sanctions, investors also face the risk of freezing foreign shares abroad. Once in this situation, you will not be able to sell your securities and receive dividends on them.

How the stock exchange works

If circumstances go wrong and these risks become a harsh reality, you could lose your money. That is why investing in securities is suitable only for those who have already prepared a financial cushion for themselves and are fully aware of all the risks.

Finally, we summarize the recommendations for novice investors.

  • Don’t invest your last money in the stock market. First, prepare yourself a reliable rear: from 3 to 6 of your monthly income, put on deposit in a reliable bank.
  • Remember the direct relationship between risk and return. If some stocks rise sharply in price (or it seems to you that they should take off), this means that they can also fall sharply (or simply not rise).
  • Don’t put all your eggs in one basket. If you decide to invest in stocks, choose several companies, preferably from different industries.
  • Keep your finger on the pulse of events. If you become a co-owner of a company, keep track of what is happening with it and with the price of its securities.
  • If you find it too difficult or troublesome to monitor the situation on the stock market on your own, you can use other options. For example, to conclude an agreement with a trustee or buy a share of a mutual fund that invests in securities.

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