Corporate ownership structure and a primer on investing re: it and relative risk

st3vest3ve Acolyte
edited July 2010 in Life
Every public company has a whole lot of owners. We all know that. What you might not know is the different levels of ownership and how they effect your investment portfolio.

Bonds - Everyone's heard of a bond. A bond is pure debt. You loan them some money, in fixed amounts through a bond, and they pay it back with interest. This is the highest level of ownership you'll be able to attain (generally, bank loans are superior to bondholders in bankruptcy court, but that's about it) You'll get something, if there's anything left to be had, in bankruptcy court. You get less yield, or payout for this, but as long as the company doesn't go into bankruptcy you're gonna get paid.

Preferred Stock - Many people may not have heard of this, but it's the favorite of many big-time investors. This is the highest level of stock ownership. Since it is a stock, you aren't likely to fare well in bankruptcy court as they have no obligation to pay you back. But it is safer than common stock, because in the world of finance, which is basically just a bunch of contracts about money, the preferred stockholders get paid interest (cash that NOT necessarily a part of the company's profits, as they are to be paid even if the company isn't profitable) before common stockholders, and even if the common stockholders don't get paid at all. As stock, you also have some price movement reflecting the market participant's beliefs on the company, but not as much as common stock.

Common Stock - This is what everybody knows. Exxon - XOM. Microsoft - MSFT. When you hear about the stock market, this is what people think of. You are at the bottom of the ladder when it comes to ownership, but have the most to gain. Not only do you (sometimes) get a payment as a part of the company's profits - a dividend - but common stock essentially acts as the purest proxy for what people think of a company. Once it's into the market, the price of a stock is determined entirely by a two-way bidding process of buyers and sellers.

This is something a lot of people have trouble getting their heads around. I see all the time on investing forums, "Well blah blah was down a dollar today, volume was 20 million, how many shares had to be sold for the price to go down that much?" The answer is: 20 million. Every seller has a buyer. That's how the market works. Supply and demand on the immediate timeframe determine whether the sellers have to be more aggressive (offering lower "ask" prices) or if the buyers have to be more aggressive (bidding higher prices). Between the two parties, you have a trade, and a price. And that's what happens every second for five days a week.

Lastly, within every group, there are more and less risky companies and investments. This is a short primer on what each level of ownership means to you, and I encourage you to have a well-balanced amount of risk. Common stock in Coca-Cola may be safer than a bond on some crappy real-estate investment trust that owns a ton of empty strip malls. A bond in Coca-Cola is always safer than common stock in Coca-Cola.

Relative risk determines yield. Your bond in that crappy real-estate investment trust will yield more than a Coca-Cola bond, assuming you ever get paid.

Hope this has been helpful to someone.


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