Stocks are grouped according to size, investment objective, and type of company. Having different sizes of companies, different types of investment objectives, and different sectors results in diversification thus reducing risks. Investors also need to match their investment objective with the appropriate investment.
Companies are grouped according to size - small capitalization, medium capitalization, and large capitalization. The assets listed on the financial statement determine the size of the company. Small companies over time have more growth potential but also have the largest potential risk of loss. Large companies tend to pay more in dividends than small companies and their stock prices do not tend to fluctuate as much. The New York Stock Exchange (NYSE) trades large and medium sized companies, while smaller companies tend to be traded over the (NASDAQ) National Association of Securities Dealers Automated Quotation System.
Investment objectives may be growth, aggressive growth, value, or income. Growth and aggressive growth companies anticipate good sales and expansion that will result in profits and higher share prices. Value companies are businesses which may be in a downturn, but the future prospects look good so their share prices are undervalued or priced lower than usual. Income stocks pay good dividends compared to other companies but there are no guarantees that these dividends will continue.
Stocks are often grouped by sectors. Holding different sectors helps ensure an investor is diversified in different types of industries. If you own individual stocks, all your holdings should not be in the same sector because if the economy swings in a particular direction, you will be affected more strongly than if your holdings were spread out among sectors.
Companies issue two types of stock, common and preferred.
Common Stock:
Common stock is the basic form of ownership in a company. People who hold common stock have a claim on the assets of a firm after those of preferred stockholders and bondholders.
Preferred Stock:
Preferred stock is ownership in a company, which has a claim on the assets and earnings of a firm before those of common stockholders but after bondholders. The safety of the principal of preferred stock is greater than that of common stock.