What Is a Share?

If you have a pension or investments, there is a good chance that at least some of your money is invested in shares.

You might also hear them described as equities.

We hear about shares all the time. Share prices rise and fall. Companies report profits. Markets have good days and bad days.

It can make investing feel like it is mainly about numbers moving on a screen.

Yet behind every share is something much more tangible.

A business.

When you buy a share, you are buying a small part of a company.

Understanding that simple idea makes much of what happens in the stock market easier to understand.

A Share Is a Small Piece of a Company

Imagine a business is divided into one million pieces.

If you owned one of those pieces, you would own one-millionth of the company.

That, in simple terms, is what a share represents.

Someone who owns shares in a company is known as a shareholder.

Owning a share doesn't mean you own a particular desk in the office, a delivery van or a small section of the factory. You own a small part of the company as a whole.

The rights attached to shares can vary. For example, many ordinary shares give shareholders the right to vote on certain company decisions and the possibility of receiving dividends.

The important point is the ownership.

As a shareholder, your financial fortunes are partly tied to what happens to the business and what other investors think that business is worth.

Are Shares and Equities the Same Thing?

When talking about investing, you will often hear the words shares and equities used to describe the same broad idea.

This is particularly common when talking about investment funds.

For example, you might read that a fund typically invests between 50% and 70% of its money in equities.

In simple terms, that means part of the fund is invested in shares in companies.

You may also hear the word equities when discussing how investments are divided between different types of assets, such as equities, bonds and cash.

The terminology can make investing sound more complicated than it needs to be.

At its heart, investing in equities means owning small parts of businesses, usually alongside many other shareholders.

Why Do Companies Issue Shares?

A company can be divided into shares from the beginning. Those shares represent ownership of the business.

Companies can also issue additional shares to investors to raise money.

They might want to develop a new product, open another factory, expand into a different country, buy another business or invest in new technology.

A company could borrow some of the money it needs. Another option is to raise money by issuing shares and giving investors ownership in return.

There is an important distinction here.

When a company issues new shares, the money raised can go to the company.

Once shares are already owned by investors, however, they can also be bought and sold between them.

If you buy an existing share through the stock market, your money will normally go to the investor selling the share rather than directly to the company.

I explain more about how this works in What Is the Stock Market?

Why Would Someone Buy a Share?

If you buy shares in a company, you are accepting uncertainty in return for the possibility of benefiting from the company's future success.

There are two main ways a shareholder can potentially receive a financial return.

The first is if the value of the shares increases.

Suppose you bought a share for £10.

Several years later, the market might value that share at £15. If you sold at that price, you would have made a £5 gain before allowing for any costs or tax.

The second possible source of return is dividends.

Some companies choose to pay part of their profits to shareholders. These payments are known as dividends.

Others retain more of their profits to invest back into the business.

Dividends aren't guaranteed. They can increase, decrease or stop altogether.

Why Might a Share Price Rise?

Suppose our £10 share is now trading for £15.

What has changed?

The market is now putting a higher price on that small part of the business.

There could be many reasons for that.

Perhaps the company is making more profit. Maybe it has developed a successful new product, attracted more customers or expanded into new markets.

Sometimes very little has changed in the business today, but investors have become more optimistic about what it might achieve tomorrow.

That distinction matters.

A share price doesn't simply reflect how a company is performing now.

It also reflects what investors think the company might achieve in the future.

This is why expectations play such an important part in share prices.

Why Can a Share Price Fall?

Earlier, our £10 share had risen to £15.

It could just as easily move in the other direction.

Perhaps the company's profits disappoint. A competitor might develop a better product. Costs might rise. The economy might weaken or investors might simply become less optimistic about the company's future.

Sometimes a business can still be profitable and its share price can fall.

That might be because investors expected even better results or because they had previously been willing to pay a high price based on optimistic expectations.

A falling share price and a failing business are not the same thing.

I explore the role expectations play in share prices in more detail in Why Do Stock Markets Fall?

What Happens If the Company Fails?

Owning part of a business means sharing in its potential success.

It also means being exposed to what happens if things go badly.

A company can lose customers, struggle to compete, make losses or eventually fail altogether.

If a company fails, its assets may be sold to repay the people and organisations it owes money to. These are known as creditors.

Shareholders are at the bottom of the repayment order and will generally only receive something if money remains after those creditors have been paid.

There may be nothing left.

That means the shares could eventually become worthless and a shareholder could lose all the money they invested in that company.

This is an important difference between owning shares and lending money to a company through a bond. A shareholder is an owner of the business, whereas a bondholder has lent money to the business and is one of its creditors.

Share prices will also typically fluctuate more than the prices of many types of bonds, which is one reason why equities are generally considered a higher-risk investment.

As owners, shareholders have the potential to benefit if the business grows and becomes more profitable, but there is no guarantee that it will.

Shares Can Be Owned Through Investment Funds

You don't have to choose individual companies to invest in shares.

Many people invest in shares indirectly through investment funds held within pensions, ISAs and other investments.

A fund can spread money across shares in many different companies, potentially across different industries and parts of the world.

This is known as diversification.

Diversification doesn't remove investment risk, but it reduces your reliance on any one company performing well.

I explore these ideas separately in What Is an Investment Fund? and What Is Diversification?

Look Past the Share Price

It is easy to think of shares as numbers.

£5.20.

£18.75.

Up 2%.

Down 4%.

Those numbers matter, particularly when it is your money that is rising or falling in value.

Yet they represent ownership in real businesses.

Businesses with employees, customers, products and services. Businesses trying to compete, make profits, invest and grow. Some will succeed and others will struggle.

When you invest in shares, or equities, you are buying ownership in those businesses.

The share price tells you what buyers and sellers are currently prepared to pay for that ownership.

What happens to the price from there depends on what happens to the business, what investors expect from its future and what they are prepared to pay for it.

Nobody knows exactly what those businesses will achieve in the future.

That uncertainty is part of owning them.

Shares offer the potential for growth and income, but neither is guaranteed. Their value can fall as well as rise and you could get back less than you invest.

Although the content of the article was correct at the time of writing, the accuracy of the information should not be relied upon, as it may have been subject to subsequent tax, legislative or event changes.

Matthew Birkett
Chartered Financial Planner
Birkett Financial Planning