Equity: A Quick Guide

A popular form of investment is shareholder equity

. An equity investment in basically buying of stocks or shares in a stock market. This investment, as with all other investments, is made in anticipation of some dividends or returns. This dividend will come in the form of capital gains from the good performance of a firm, which leads to an appreciation, i.e. an increase, of the value of the shares. Very often, equities are acquired and held through mutual funds or collective investment schemes. But of course, individuals can also buy stocks directly from a broker. Purchasing equity makes the investor owner of a part of the firm in question and the size of the ownership depends upon the number of shares that are bought. As a result, equity is a residual claim of the most junior class of investor in assets, after all liabilities are deducted.

The returns from equity investment are determined by the markets, and the performance of the company in which equity is held. As a result, equity is generally a highly profitable investment avenue with its high rates of return, your bang for your buck so to speak. However, these high returns come with a sticky caveat: investment in equity is generally a risky venture. In fact, the very characteristics that make it profitable make it risky. As a result, equity markets are highly volatile. Naturally, these markets will attract only investors that are not averse to risk.

More risk averse investors would generally prefer to invest in assets that are less risky provide other characteristics such as greater liquidity. These may be in the form of government bonds, bank deposits, gold or real estate, among other things. Government bonds are perhaps the most secure forms of investment. If the government is credible, then return on these assets is guaranteed by the entity which has the backing of the state. But these government securities give a lower rate of return as compared to equity investment. Also, these bonds are purchased for a fixed period of time and are therefore less liquid than other forms of investment. Gold is also a secure form of investment, as its prices, due to its high demand, has been rising exponentially. Bank deposits are also relatively secure, as they are backed by reserves kept with the Central Bank. These give more liquidity as compared to government bonds, but a lower rate of return as compared to equity investment.

by: John Financial

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