One of the most common ways to invest in the stock market is to place a buy order with your investment broker, but it is possible to invest in some stocks without going through a middleman. Some companies allow investors to avoid costly brokerage fees by purchasing stock directly from the company through a direct stock purchase plan.
There are two primary types of direct stock purchase plans, according to the U.S. Securities and Exchange Commission. Direct stock plans offer investors the opportunity to deposit funds directly with the company, and the company uses those fund to purchase shares of stock on the open market. Dividend reinvestment plans, sometimes referred to as DRIPs, are direct stock purchase plans that automatically reinvest dividends back into additional shares of the company's stock, providing a sort of compound interest benefit to the shareholder.
Different direct stock purchase plans have different qualifications for participation. Some plans require participants to be current shareholders before they are allowed to purchase additional shares through the direct purchase plan. Other plans allow participants to make their initial purchase through the plan. Minimum initial and subsequent investment levels also vary based on the individual company offering the plan. All direct stock purchase plans involve opening an account with the company. You will be required to provide certain information including your name, address, contact information and tax identification or Social Security number.
Direct stock purchase plans typically invest funds on a regular basis, which may be weekly, monthly or quarterly. Unlike buying stock through a brokerage firm, you do not have the option of dictating the day, time or price of your purchase transaction. All funds from all investors are pooled together and stock is purchased on the open market. The plan may pay the brokerage fees, which allows most or all of the investors' funds to go toward the stock purchase. The stock is credited to the investors on a pro rata, or proportionate allocation, basis and typically includes partial shares of stock.
Some direct stock purchase plans allow you to set up an automatic monthly investment plan that will draft your bank account for a specified amount each month. This may allow you to take advantage of dollar-cost averaging, an investment strategy that buys more shares when the stock price is low and fewer shares when the stock price is high, resulting in a lower overall cost per share. Your plan may allow you to designate whether you wish to receive dividends in cash, to automatically reinvest your dividends or to reinvest a portion of your dividends and take the rest in cash. While the direct stock purchase plan may pay the brokerage fees for purchase transactions, you will likely pay a commission when you choose to sell any stock acquired through the plan.