Investors are encouraged to diversify the holdings in their portfolios so that they include different types of stocks to balance their risks of loss. Most corporations whose stock is publicly traded offer different types of stocks. Each type carries different privileges, such as special dividends, and restrictions, such as limits on selling and a lack of voting rights.
When investors purchase shares listed on a market exchange, they are typically buying common stock. For each share of common stock they buy, they own a small percentage of a company, allowing them voting rights to elect directors to the company’s board. Investors typically have few restrictions on when they can sell their common shares and can earn dividends, defined as a share of profits that a company distributes to shareholders.
Investors who purchase preferred stock receive a fixed dividend from the company, but they do not receive voting rights. In the event of company bankruptcy or liquidation, preferred shareholders receive compensation before holders of common stock but after bondholders. Companies may offer different classes of preferred stock. Holders of one class might receive higher dividends and claims to company assets than holders of another. Preferred stock typically carries restrictions on when investors may sell and at what prices they may do so.
Restricted stock refers to company offerings of equities that are not registered with the U.S. Securities and Exchange Commission. Under SEC Rule 144, investors not affiliated with the unregistered company must typically hold onto stock for at least one year after purchasing it and may not sell more than 1 percent of the company’s outstanding shares during a three-month period. These securities present a risk because investors may not easily collect funds from an unregistered company that goes bankrupt, and they have few remedies if an unscrupulous company lies about how many shares it has issued.
Treasury stock refers to shares held by a company when it buys back outstanding shares from the public. Companies may purchase outstanding stock to hold in a trust for an employee stock ownership plan (ESOP) or to reward investors in lieu of a dividend by restricting the amount of outstanding shares. Investors may purchase treasury stock if a company decides to sell off some of its holdings. They should also take note of large amounts of treasury stock held by a company, because buybacks represent company confidence and a strong financial position, which can increase demand from other investors.