A stock is a share in the ownership of a company. When you purchase a share, you have an interest in a company, and when you sell your shares for more than what you paid for them, you receive a return on your investment called a capital gain. The company’s earnings power is usually the driver of a stock’s price over the long term. But in the short run, stocks can be influenced by things like market sentiment, changes in economic conditions and supply-and-demand trends.

A stock can also be compared against a benchmark to gauge its performance. For example, a stock that has returned 8% this year may seem impressive on its face, but it’s important to consider how much the rest of the market has returned as well. This information can help you determine whether a stock is meeting your investment goals.

Reviewing internal fundamentals is also important. A company doesn’t exist in a vacuum, and its fortunes get buffeted by external forces like the economy, competitors and government regulations. For instance, a bank might outpace its competitors in terms of revenue growth, but it could see its share price decline due to falling interest rates. A food processing company that’s seen slow earnings growth could see its share price accelerate if the economy enters a recession and investors seek stability. And a pharmaceutical stock might lose ground to competitors’ new products and changing consumer preferences.

It’s also a good idea to keep an eye on a company’s debt level and cash flow. Debt levels should be manageable, and a company’s cash flow should cover its operating expenses and interest payments. A good rule of thumb is to divide the company’s total assets by its total liabilities and add this figure to the company’s net worth. This is known as the company’s acid test, and it can give you an indication of its financial health.

Another way to evaluate a stock is by its intrinsic value. This is an estimate of what a stock is really worth, but it can be difficult to determine. A stock’s price-to-sales ratio, for example, is a common method of calculating intrinsic value, but it’s important to know that this number is subject to the market’s whims, and should be combined with other methods to get an accurate picture of a stock’s true worth.

Stocks can also be classified based on their sector, and there are a variety of different classification systems. This can be useful, as different sectors tend to react in predictable ways to changes in the economy. However, it’s a good idea to keep in mind your risk tolerance and capacity when making sector choices — investing too heavily in a single sector can make you vulnerable to unforeseen events that might drive down the price of those stocks. In addition, sectors can often overlap, so it’s a good idea to spread your investments across several of them. This will lower your overall risk.