In this series, we’re digging into sin stocks to learn what they are and how to invest in them.
So let’s start at the VERY beginning by first asking, “what are stocks?”
BUSINESSES AND THEIR LEGAL ENTITIES
Let’s say someone wants to start a business. One of the first things they do is identify the corporate structure they’ll use to create the business.
In the simplest terms, a sole proprietorship is a small company that is legally entwined with the owner of the company. The owner enjoys all of the reward and takes on all of the risk. They even file one personal income tax form that covers both themselves AND their business. If the company gets sued, it’s really the OWNER who is sued.
Sole proprietorships are not the only way to legal entity of a company. There are others as well (although the exact terminology depends on what country you live in). In general, there are partnerships and there are corporations.
Unlike a sole proprietorship, which is entwined with the owner, a corporation is a separate entity (almost as if it was its own person). The owner(s) are separate from the company: they file separate income taxes for the company than for themselves, and if the company gets sued, the liability typically ends there and the owner is protected.
(Note: again, we’re talking in very simplistic terms; there are variations and exceptions to just about everything written above!)
One of the reasons why people start corporations is because they want to get outside investors and grow the business. And that’s where the next piece of the puzzle comes in…
An owner of a corporation may choose to sell a stake (or, literally, a “share”) of the corporation to others. The owner anticipates the number of investors who want to buy shares (now or in the future) and that helps to determine how many shares they can divide their company into. Each investor will pay for a share of the corporation and that money will be used by the company.
For example, let’s say that an owner starts a business and wants to grow. He divides his business into 10 shares and sells 4 of those shares to his friends for $100 each, while retaining 6 of the shares for himself.
From this information we learn that he values his business at $1,000 ($100 per share) and he’s retaining majority control (60% of the shares remain in his control).
A few years go by and one of his shareholding friends needs money to pay for his wife’s liposuction. He needs some money and he remembers that he owns 1 share in a company. He paid $100 for it years ago but the business has become very successful. So he goes to another friend and tells him about that share and the other friend offers $200 for the share. The liposuction friend sells off his share to the second friend.
What happens in this story on a small scale happens every day on a massive scale…
THE STOCK MARKET
Picture the above story but occurring on a much larger scale all around the world…
1. Businesses get split up into millions of shares and those shares are sold to investors during an “Initial Public Offering” or “IPO”.
2. The money stays in the business and goes toward running and growing the business. As the business grows, the value of those shares tend to grow as well.
3. The shareholders own the stock until they want to sell their share of the company. This is where the stock market comes in — it’s an auction house where shareholders bring their shares to see who else will buy. The stock market facilitates the exchange of shares for money. This happens over and over, every time a shareholder owns stock they want to sell or every time a buyer is looking for a stock.
4. Savvy buyers pay attention to what the underlying company is doing and they assess whether the company’s value (and thus it’s stock price) is likely to increase or decrease, depending on whether the company is doing something smart or stupid. There are many different ways that investors assess whether a company’s value might increase or decrease. However, there’s a problem…
THERE ARE LOTS OF STOCKS
There are many kinds of publicly-traded companies in stock markets all over the world. For an investor who wants to buy, it can become pretty overwhelming to pay attention to ALL of those companies and to decide whether they’re going to increase or decrease in value.
But investors have found that you can categorize stocks (both formally and informally) in different ways. For example, you can categorize stocks by how high or low their share price is, or by what they sell or who they sell to, or by the industry they’re in, or by how often their stock is traded, or by a million different ways to measure.
The advantage is: investors can become experts in this “sub-set” of stocks, which allows them to zoom in on just a few stocks and compare all of those similarly-categorized stocks with each other, plus they can sift through news more easily and understand how a company’s actions may impact its share price.
As mentioned, one such way to categorize stocks is by the products and services they sell. So you might have automotive stocks, which are stocks of companies that sell cars; or you might have airline stocks, which are stocks of airline companies; or you might have tech stocks, which are stocks of companies that make computers or software.
And this is where sin stocks comes in…
“Sin stocks” is an informal investor categorization of publicly-traded companies that sell products and services associated with taboo or controversial products and services.
The companies themselves are traded on the stock market, and shareholders invest in these companies with the hope of seeing the value of their holdings increase.
The most common sin stocks are:
But there are others. For a full list of the sin stock categories and constantly updated list of all the sin stocks we can find, check out the list of sin stocks.
This was noted earlier but bears mentioning again: The above information is a high level overview and a generalization of how the stock market works. There are MANY exceptions to this information above but this serves as a good foundation on which to build.