As a shareholder of a publicly traded company, there are two ways to profit from owning a stock. In both of these cases, it is the growth and earnings of the company that drives the value of owning a stock. If a company has poor earnings and no growth, an investor will not profit no matter what. On the other hand, if a company consistently reports quality earnings and continues to grow the organization, then there is a strong chance of profiting from one or both ways.
The success of a company is usually passed down to the shareholders two different ways. Selling a stock and earning capital gains or being paid a dividend are methods in which the shareholders can profit from the company’s success. Let’s take a closer look at each.
How to Profit from Owning a Stock
1. Capital Gains
A capital gain in a stock occurs when a shareholder sells their position for a profit. As long as the share price that the stock is sold at is higher than the purchase price, the investor realizes this capital gain from their investment. The actual gain will solely depend on the difference in buy and sell prices as well as factoring in any brokerage fees or commissions.
It is important for shareholders to remember that even if the share price is higher than the purchase price, the capital gain is not realized until the sale of the asset. Stocks that are held less than one year and sold for a profit are considered short term capital gains. Those that are sold after holding for a year or more are considered long term capital gains.
While not always the case, investors normally earn the highest capital gains from growth companies. A company that is growing fast usually invests most of their earnings back into building the organization which is reflected in the share price. It is important to note that growth companies are also considered to be more risky which could lead to taking a capital loss if the investor is forced to sell their position.
2. Dividend Income
The second way to profit from owning a stock is through dividend payments. Just like capital gains, the amount of dividends paid by a company is a direct result of the profitability of the company. There are some exceptions to this statement like REITs, but overall dividends are tied to the company’s earnings.
Investing in dividend paying stocks is usually considered a long term strategy, although there are shorter term strategies used. A company that pays a stable dividend is usually a mature organization that cannot grow as fast as they once did. Management of these companies’ recognizes that high growth is no longer possible and decides to pass a portion of their earnings on to shareholders through dividends.
Comparing the Two Ways to Profit
The main goal of owning stocks is to increase the value of an investment. Therefore, it really does not matter which way an investor chooses to profit. Each option has its own advantages and disadvantages. For example, selling a stock to collect short term capital gains will result in higher taxes on the earnings. On the other hand, investors who can hold off for at least 1 year before cashing in on capital gains will be taxed lower on their earnings.
There are wide arrays of trading strategies that target a combination of the potential profit streams of owning stocks. Investors looking for a stable long term income stream may be more inclined to purchase dividend paying stocks. An investor with a little more tolerance for risk looking for larger profits may opt for growth stocks and eventually cashing in on capital gains.
The bottom line is that either method is a viable option for profiting from stocks. In some cases, an investor may collect dividend payments for years on a stock they own and later decide to cash in on the capital gains.
There are two ways to profit as a shareholder from owning a stock. The first is to earn capital gains from the sale of a stock in your portfolio. As long as the sale price of the security is above that of the purchase price, then the investor realizes a capital gain. A company can also distribute earnings directly to shareholders through dividend payments, which is the second way to profit from owning stocks. While there is no right or wrong way to invest in a stock, it is important to understand the two ways to profit as a shareholder.
Are you an investor who profits from capital gains by buying and selling stocks? Or do you believe in profiting from dividends that can be paid over and over to shareholders?