A share is simply a divided-up unit of the value of a company. If a company is worth £100 million, and there are 50 million shares in issue, then each share is worth £2. As the overall value of the company fluctuates so does the share price.
Shares can, and do, go up and down in value for various reasons. However, such movements are not usually for the most obvious of reasons.
There are two main types of stock: common and preferred. The difference between the two can be summed up as follows:
- Common stock:
- Preferred stock:
Typically, holders of common stock are entitled to vote at shareholders' meetings and to receive dividends.
Preferred stock holders usually do not have voting rights, but they do generally have a higher claim on assets and earnings than the holders of common shares. This means that they may be paid dividends before common shareholders are and have priority in the event that a company goes bankrupt.
It would be very simple if a share were priced solely on what the company in question owned - its buildings, cars, computers, value of contracts in the pipeline etc.
The total value minus company borrowings would be divided by the number of shares in issue and there would be the value of each individual share. But there is a fly in the ointment called "sentiment".
Why market sentiment matters
In general, share prices rise on the expectation (rather than the publication) of increased future profits and fall on published facts.
If this sounds entirely mad, bear in mind that if an analyst predicts that ABC company will double its profits then the price will rise at the time of the prediction.
When the results come through, revealing that profits have gone up "only" 75%, the price will probably fall because the current facts are less exciting than the earlier prediction.
Understanding this apparent nonsense is key to appreciating the behaviour of markets in general, and individual shares in particular.
Why companies want to please shareholders
Professional investors buy shares in the hope of benefiting from a rising stream of income over the long term.
When profits are distributed to the shareholders the payments are known as "dividends". The capital value of a share - its quoted price - moves mostly in line with expectations of long term dividend payment.
There are many reasons why the expectation may become better or worse. A reduction in alcohol duty would guarantee a rise in companies making whisky. An increase in VAT would hit retailers. More technically, a positive or negative assessment of a company's management ability could change investor sentiment enormously.
So why do companies go through all this daily public examination and give shareholders votes to - in extremis - remove directors from their positions of power?
The simple answer is that "floating" - selling shares in their companies to anonymous investors - raises millions of pounds to allow those same companies to expand into bigger and hopefully better businesses.
(See more) IPO – Initial Public Offering
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