Although the two concepts are closely related, there are some key differences between stocks and securities when speaking generally.
What Is A Stock?
A stock is a type of security that represents an ownership stake in a publicly traded company. When a company “goes public,” it issues shares of stock in the interest of raising capital for the business. This is called an initial public offering (IPO). In advance of the IPO, the company – with the guidance of an investment bank – declares the price of the shares. Once the shares are issued, however, they trade on a stock exchange, where the value of the shares fluctuates due to investor sentiment about the company. Investors can make or lose money by selling shares for either more or less than they paid for them. Another way to profit from stock is dividend income. A company’s board of directors may decide to share some of the company’s profits by distributing a dividend payment to its shareholders.
What Is A Security?
Now that we know that a stock is a type of security, let’s discuss what a security is. In simple terms, a security is a tradable financial asset. There are three main types of securities: equity securities, debt securities, and derivative securities. A stock represents an ownership stake, so it is considered an equity security. Other types of equity securities include shares of mutual funds and exchange-traded funds.
Debt securities involve the investor loaning money to the issuer in exchange for interest payments. Bonds are the most common type of debt security. They are usually issued by governments or corporations. Bonds issued by the U.S. Treasury are considered the safest form of debt security.
Derivative securities are a bit more complex as their performance is determined by other securities. A relevant example of a derivative security is an options contract. In an options contract, an investor can buy the right to buy or sell a specific security – such as a stock – at a stated price before a certain date.
If an investor was bullish (meaning they expected the stock to perform well), they could purchase a call option on the stock at a “strike price” higher than the current price but lower than they expected it to be in the future. If, later on, the investor’s instinct was correct, they could exercise the option, buying the stock at a price lower than it was currently trading at, then sell the shares at market value and pocket the profit.
Conversely, a “bearish” investor could purchase a put option at a strike price lower than the current price but higher than they expected the stock to bottom out at. Once the price plunged past the strike price, they could exercise the option to sell the shares for more than the market value.
To sum up, all stocks are securities, but not all securities are stocks. Stocks are very popular among the investing community, but they are far from the only type of security out there.
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