Stocks can be a valuable part of your investment portfolio. Owning stocks in different companies can help you build your savings, protect your money from inflation and taxes, and maximize income from your investments. It’s important to know that there are risks when investing in the stock market. Like any investment, it helps to understand the risk/return relationship and your own tolerance for risk.
Let’s look at three benefits of investing in stocks.
Build. Historically, long-term equity returns have been better than returns from cash or fixed-income investments such as bonds. However, stock prices tend to rise and fall over time. Investors may want to consider a long-term perspective for their equity portfolio because these stock-market fluctuations do tend to smooth out over longer periods of time.
Protect. Taxes and inflation can impact your wealth. Equity investments can give investors better tax treatment over the long term, which can help slow or prevent the negative effects of both taxes and inflation.
Maximize. Some companies pay shareholders dividends1 or special distributions. These payments can provide you with regular investment income and enhance your return, while the favourable tax treatment for Canadian equities can leave more money in your pocket. (Note that dividend payments from companies outside of Canada are taxed differently.)
Different Stocks, Different Benefits
The two main types of equity investments below can each offer investors different benefits.
1. Common shares
Common shares are the most (you guessed it!) common type of equity investment for Canadian investors. They can offer:
Capital growth. The price of a stock will go up or down over time. When it goes up, shareholders can choose to sell their shares at a profit.
Dividend income. Many companies pay dividends to their shareholders, which can be a source of tax-efficient income for investors.
Voting privileges. The ability to vote means shareholders have some measure of control over who runs the company and how.
Liquidity. Typically, common shares can be bought and sold more quickly and easily than other investments, such as real estate, art or jewellery. This means investors can buy or sell their investment for cash with relative ease.
Advantageous tax treatment. Dividend income and capital gains are taxed at a lower rate than employment income and interest income from bonds or GICs.
2. Preferred shares
Preferred shares can offer investors the following benefits:
Reliable income stream. Generally, preferred shares come with a fixed dividend amount that must be paid before any dividends are paid to common shareholders.
Higher income. Compared to common shares, preferred shares tend to pay higher dividends. (Note: preferred-share dividends come with the same advantageous tax treatment as dividends on common shares.)
Variety. There are many types of preferred shares, each with different features. For example, some allow for unpaid dividends to accumulate, while others can be converted into common shares.
The Advantages of Dividends
Dividends are a way for companies to distribute a portion of their profits to shareholders. Typically, dividends are paid in cash on a quarterly basis, although not all companies pay dividends. For example, companies that are still growing might choose to reinvest their profits back into their business to help grow it.