Types of Equity Investment Instruments: Buying Preferred Stock, Common Stock, and Warrants

Types of Equity Investment Instruments: Buying Preferred Stock, Common Stock, and Warrants

Understanding the different types of equity investment instruments available will help an investor realize all possible options for stock investing. The equity market is a risk-filled, volatile arena. It has yielded huge earnings for both lucky and wise equity investors, and has helped to sustain businesses. It has also crushed people’s financial dreams. Whether buying preferred stock, common stock, or warrants, there are benefits and costs involved with each.

Buying Preferred Stock

Buying preferred stock has many financial benefits. It is not quite as risky as buying common stock, and entitles the holder to regular dividend payments. These dividends are an integral part of the investment, independent of the market. Their inherent nature is somewhat similar to a bond; they could even be considered a hybrid investment instrument of corporate bonds and common stock shares. Preferred shares are a more stable investment like a bond, promising regular revenue, and they come with a greater claim to assets than common shares in the case of bankruptcy. Owners of this type of equity investment do not have a say in company decisions.

When buying preferred stock, there are different types to choose from. Convertible preferred stock can be turned into common stock at a predetermined price. Participating preferred shares will receive higher dividend rates when and if common stock dividends are of a greater value. Adjustable-rate shares have a floating dividend rate, depending on interest rates.

Investing in Common Stock

Common stock is the essence of the equity market. Shareholders own a part of the company, and from the point of purchase on, have the same vital goal of a particular firm — to make money. The more money the company makes, the more the shareholder profits, if the shares are sold before losing their value. Dividends are distributed when earnings are strong, although they are not guaranteed.

This form of equity investment does give the investor some say in the structure and decisions of the business, although this power is minimal for most shareholders. Common stock may be offered in classes for instance, in which case some owners are entitled to a stronger vote, higher dividend payments, and greater rights to assets, than others.

Investing in common stock is also one of the riskiest ventures, and potentially the greatest. Money can be quickly earned, and quickly lost. Some stocks may be relatively predictable, with a steady rise in value, while others may be highly unpredictable, with both the possibility of bankruptcy and a value spike just around the bend.

Warrants on the Equity Market

Warrants are a unique instrument on the equity market. They offer the right to purchase common stock at a specific price during a pre-determined time period. If the stock is not purchased, then the warrant becomes worthless. This type of investment offers a potentially good return in the future, and increases the capital of the issuing firm. Warrants are often offered to current shareholders, or in combination with stock and bonds.

Choosing the Right Equity Investment Instrument Equity investors have a range of options to choose from. Preferred stock is more stable, common stock has more potential, and warrants provide an investment in the future. As there is risk involved with all three types, it is important to evaluate every financial opportunity. What are the potential returns and the likeliness of those returns? What are the potential losses, and can those losses be buffered by anything else? Ultimately, equity investments can be useful for those capable of handling risk, and especially for those who are aware of the capabilities of a business. They are also an essential component of a diversified investment portfolio, although for many, equities may work best as a small segment of a solid investment plan.

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