Investing is a vast and varied endeavor, with innumerable firms, commodities, and other assets accessible for investment. When you invest in the stock market, you run the risk of investing some or all of the money you invest. As an investor, you must recognize that the value of a stock can fall to extremely low levels or even to zero. However, can stocks go negative, and what would happen if my stock went negative?
Technically, stock values can reach 0 but never a negative value. You will likely never find a stock that falls to zero since the exchange will remove it if it remains below the minimum price requirement for too long. Typically, investors won't allow their stock purchases to drop to zero; they'll sell as soon as bad news arrives and move on.
In the event of a corporation like Lehman Brothers, a big bankruptcy might result in the whole loss of shareholders' initial investments. If you invest $10,000 at $20 per share in a stock that files bankruptcy and its share price falls to $0, you will lose your whole $10,000 investment. So long as you do not short or borrow money to purchase shares, you can never lose more than your initial investment.
Can Your Portfolio Experience Losses?
Yes, your portfolio can become negative if you use margin and the value of your assets drops. This occurs when the value of your securities falls below the amount of the loan utilized to acquire them.
If this occurs, you will receive a margin call and be asked to deposit additional funds or sell part of your securities to restore a positive balance to your account. Consider the purchase of $20,000 worth of stocks on margin.
In this situation, you are investing $5,000 of your own money and borrowing $15,000 from your broker. If the stock's value exceeds $14,000, your account will be $1,000 "underwater." To return the account to a positive balance, you must either deposit additional funds or sell a portion of your stocks.
If you do not take action to restore a positive balance to your account, your broker may sell some of your stocks to pay off the loan. This is referred to as the "margin call." While it is negative for your portfolio to experience a loss, it is vital to note that this is usually just temporary.
If you have savings that can cover any short-term losses, you should not be overly concerned if your portfolio goes negative. However, there is always a chance that the stock's value could decrease further, leaving you unable to recoup your losses. In this scenario, you risk losing your entire investment.
What Happens When The Price of A Stock Falls Too Low?
The largest and most popular public stock exchanges, such as the NYSE and the NASDAQ, have created criteria for firms to adhere to in order to preserve their listing on the markets and their ability to sell shares to the public. For example, in order to maintain a listing on the NASDAQ, a corporation must keep at least 1.25 million shares available for trading at a minimum price of $1 per share. While the NYSE requires a minimum of 1.1 million shares to be accessible for trading, it does not have a minimum share price. It requires merely a minimum market capitalization of $400 million.
In addition to additional security standards and regulatory guidelines, the shares must maintain market minimum requirements in order to remain publicly listed. It is very typical for companies to be delisted if they cannot meet the minimum requirements. While stringent laws ensure that businesses maintain the necessary volume and value, there are still exemptions for enterprises that fall behind to restore these circumstances.
In most instances, the exchange will give notice to the firm that they are in danger of being delisted and will inform them of the standards they are not meeting. This warning typically occurs when a firm's share price has fallen below the minimum; it serves as notification that the company has 30 days to recoup the minimum value or be delisted. The most popular solution in this situation is a "reverse stock split," which can significantly enhance the price.
Some reverse stock splits are as extreme as 5:1 and include the consolidation of outstanding shares. While it reduces the number of shares held, the value of those shares grows. For instance, if you entered a 2:1 reverse split having 100 shares with a hypothetical value of $0.055, you would exit the split with 50 shares, but they may be worth $1.10 per share depending on the parameters of the reverse split and the market capitalization of the company.
What occurs when a stock's value reaches zero?
If you purchase shares in a cash account and they go to zero, you will only lose the amount you initially invested. If you used margin, you now have no equity and a balance on your margin loan, which means you owe money.
If you short a stock and it goes to zero, you have earned the highest potential return. You may retain all of the proceeds from short selling; only short sales are permitted in margin accounts.
Which Stocks Are Risky to Invest in?
Even though stocks are inherently dangerous, stocks of poorly managed companies and penny stocks are especially risky. Shorting a company that you believe is doomed might result in a significant loss.
As quickly as your investment in penny stocks can explode, it can also crash.
Penny Stocks
Penny stocks or stocks with a very low price are susceptible to significant levels of volatility. Historically, these were $1 stocks, but today, any stock trading for less than $5 comes into this group.
Penny stocks are traded on over-the-counter (OTC) markets or the pink sheet system, although the issuing corporations make negligible profitability. Moreover, they are vulnerable to fraud, and their value is likely to approach or fall to zero.
Stocks From Poorly Managed Companies
If a corporation issuing penny stocks has a bad business model, its stock price can drop to near nothing. A similar situation can occur if a firm declares bankruptcy. Before investing in a company, it is vital to understand its business and how it operates.
Despite this, stock prices do not necessarily fall to zero when a firm declares bankruptcy because the company still has value. In addition, stock exchanges often delist low-volume shares before they reach zero or after 30 days of trading below $1.
Most companies with poor stock prices opt for a reverse stock split to reduce the number of outstanding shares.
Is It Possible to Lose More Money Than You Invest?
When trading on margin or shorting, it is possible to lose more than you invested. When margin trading, you can lose money if the stock decreases, and when short selling, you lose money if the stock rises.
When Utilizing Margin
Margin trading occurs when you purchase a stock using additional funds borrowed from your broker, so leveraging your trade. This leverage can reach 1:2 depending on how much of the trade is funded by your own funds.
In order to trade on margin, you must have a margin account, as opposed to a cash account.
When trading with borrowed funds, your losses are multiplied by the leverage. In addition to losing your own money, you also lose the broker's, which could result in losing more than you first invested.
When Going Short
When you borrow a stock or the cash to purchase it from a broker with a sell order, i.e., an obligation to repurchase the stock in the future, this is known as a short sale.
Additionally, you can lose more than you initially invested if you short a stock that suddenly appreciates by more than 100 percent. This is especially true if you take a short position on stock from an underperforming firm.
The short-sell strategy is based on the assumption that the stock price will fall. However, when the opposite occurs and the stock price rises, you risk losing more than your initial investment because you must repay the borrowed funds.
Earnings, investor perception, and supply and demand can all decide and influence the value of a stock. When a stock is seen favorably by investors, is in high demand, and has generated profits in prior years, the share price is expected to rise.
Investor Perception
The perspective of investors determines the price of a certain stock. When investors judge the value of a company's shares to be poor, share prices fall. Moreover, investors believe that the stock price indicates both the current value and predicted future growth of a company.
Despite the fact that a stock's price movements reveal what investors believe the company is worth, a stock's value is distinct from its stock price. Rather, the worth of a corporation is its market capitalization.
Supply and Demand
Demand and supply also influence stock prices. The share price rises when there is a greater demand (demand) for a certain stock than supply (supply).
In contrast, if more people wish to sell the stock than purchase it, the price will decline as the supply will exceed the demand.
A Company's Earnings
This is a significant aspect influencing the value of a firm. A corporation that does not generate a profit cannot thrive for long. Consequently, public firms are required to publish quarterly earnings.
Analysts' company valuations are based on such reports as well as earnings forecasts.
When a company's results exceed expectations, the share price increases, nevertheless, the share price plummets if the results fall short.
How Can A Firm Lose Its Value?
If a company's worth has dropped nearly to zero, it is more likely to have declared bankruptcy than to have gone bankrupt. Only when the stock has a value of $0.00 does it qualify as "worthless."
However, certain companies are more likely than others to achieve this goal. When a company's fundamentals are essentially weak, its performance will be inferior to that of a company with solid fundamentals, such as excellent leadership, revenue, and growth potential. Additionally, a substantial amount of effort is required to become a publicly traded corporation, and the company must be robust in order to do so, reducing the likelihood that it will fall.
If a company's stock price falls below a specific threshold, it will also be delisted from the stock exchange. The NYSE will delete stocks, for instance, if the share price falls below $1 for 30 consecutive days.
How to Safeguard Your Money?
You should always have a method of protecting your investment as a stock investor. Fortunately, there are numerous ways to do so, including the following:
1. Using stop losses
One way to limit the amount of money lost in a transaction is to use a stop loss order, which protects your position from a decline in price. You can safeguard your transaction with many sorts of stops, including hard stops and trailing stops.
A hard stop is a predetermined price level that initiates a sell order if the stock price falls below it. However, trailing stops climb with the stock price but stay put at the highest point achieved during a decline.
2. Utilization of Put Options
Utilizing a put option strategy is efficient for protecting your stock investment. You purchase a put option on the stocks in which you are invested. Therefore, even if the stock price drops considerably, you may still sell your shares at the strike price prior to the stock's expiration, safeguarding your investment from massive losses. The name for this type of options strategy is protective put options.
3. Diversification of stock
Diversifying your stock portfolio is an effective method of stock market protection. Purchasing a single stock or a handful of stocks from the same industry is inherently dangerous, but a diversified stock portfolio decreases risk. These options are available for portfolio diversification:
Creating a diversified stock portfolio necessitates the purchase of multiple stocks from various industrial sectors to ensure that they are non-correlated. However, this process can be capital intensive.
Purchasing an ETF: Obtaining a diverse portfolio is made easier by purchasing an ETF with a large basket of non-correlated stocks. Index ETFs that match the S&P 500 Index is one example.
Investing in an index fund is another alternative. Index funds monitor broad market indices such as the S&P 500 Index.
4. Diversification Into Non-Correlating Assets
While a diverse stock portfolio can provide protection against unsystematic risk, it may not provide protection against systematic risk. Therefore, it may be preferable to include non-correlated assets, such as government and municipal bonds, commodities, and real estate, in your portfolio.
Final Thoughts
A stock's price can fall to extremely low levels and is capable of reaching zero if the issuing business declares bankruptcy, but it can never fall below zero. However, this does not rule out the possibility of incurring losses in excess of the initial investment, as this is the case with any form of margin trading.
FAQs
Is investing in stocks safe?
Stocks aren't as secure as cash, savings accounts, or government debt, but they're generally safer than volatile investments such as options and futures. Dividend stocks are considered safer than high-growth ones because they pay cash dividends, reducing but not eliminating their volatility.
Can you lose your entire investment in stocks?
Yes, technically. You can lose your entire investment in stocks and other high-risk investments. However, this is uncommon. Even if you hold only one stock that performs poorly, you will typically maintain some value. The greatest method to avoid experiencing big losses in stocks is to be well-diversified, research the holdings you invest in, and establish loss-limiting levels beyond which you will exit investments.
What happens if your stock goes negative?
The negative value of a stock cannot decrease to zero, and it can only become zero if the business fails. The only situation in which a negative result is possible is if you purchased the stock and the price decreased. For instance, you purchased Walmart stock at $157 per share, and it plummeted to $150. Then -5% will be deducted from your account for this stock. It does not indicate that you have lost money; you only incur a loss if you sell the asset.
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