It’s true that investing provides the opportunity for financial growth but there are various unknowns that influence the potential for return.
Many of which are not controllable. Foreseeing wars, natural disasters, pandemics, scandals are not possible and therefore, no one can tell you for certain how your investment portfolio will perform. This doesn’t mean you should not invest; it just means you must be realistic about what investing is, what it means, as well as the possible outcomes. Before you begin, there are a few basics of investing to know and keep in mind.
Note: No investment is without risk. This article is a basic outline of investing and not a recommendation of action. For guidance personalised to you please speak with a qualified financial advisor.
What is Investing?
Investing is agreeing to take a risk with your money in hopes that it will result in a Capital Gain. This means your money makes more money.
When you choose to invest in something you’re doing so with the belief that it will increase in value. Whether this be a property, a stock, an investment fund, commodities, or cryptocurrency you, or your fund manager, believe that the thing you buy will be worth more when you sell it.
Most investing involves some sort of goal. Some goals are short term, some goals are long term. Knowing what your goals are helps make sense of what sort of investment option is best for you. Without having a goal for your money, it might be unclear which investment makes the most sense.
If you’re thinking about investing is all start with…
Knowing Where You Are Right Now
Before you start investing it’s important to have a solid understanding of where you are financially. Are all of your bills easily paid each month? Are you able to comfortably afford your life as it currently stands? Do you have an emergency fund? Do you have any debt to clear?
Answering these questions will help you decide if this is the time to start investing, or if there are things you should sort out before you begin. Having a healthy financial starting point can help you be calmer about the potential fluctuations of your investments. If you’re hoping your portfolio can move up in value quickly to help you pay off your debt or build an emergency fund, it could lead to sleepless night and constant worry that you will be worse off than you were when you first started.
If you feel confident that now is the time to begin, you need to decide how much money you are comfortable potentially losing. What level of risk can you stand?
Know Your Appetite for Risk
No reward comes without risk. No investment comes without risk. Remember, there is too much about the world that is unpredictable. We are all heading towards a future that no one can guarantee. So, if you invest and get nothing back or worse, lose it all, how much loss can you stand?
This is relevant both in terms of the amount of money you might lose and the amount of sleep.
No sleepless night is worth a potentially great loss. If one of your aims of investing is to feel more financially secure, taking huge risks with your money might not support that. If you will end up stressed and distracted by the performance of your portfolio how will the quality of your life be affected?
There is more that goes into learning what your appetite for risk is when investing, and we have a longer article on that topic. But a good starting point is to ask yourself how much money you can stand to lose. Answering honestly is key.
For a more detailed insight into risk check out our previous article on Appetite for Investment Risk.
Define Your Goals
What do you want the money you invest to be for? The options are endless; retirement fund, house deposit, school fees, care fees, dream holiday. Whatever it is, there will be a strategy to support it. You must know what your goals are before you make a strategy.
Think of it like this, you know you want to drive across the country. There are many roads to get you there. Do you want to go the quickest route? The most scenic? To visit friends en route? Do you want to stop along the way for a meal, some sightseeing, or a stay in a quaint hotel? You must decide all those things first, and then you chart the course.
Planning investments is the same. General financial planning is the same. Money management is the same. You need to know where you want to go before you can figure out how to get there.
If you are not sure of exactly what your goals are, or how much money you will need to achieve them, a financial advisor can help.
Different Types of Investment Products
Before you start investing it is important to understand each potential investment option. Below you will find a list of these options and a brief description.
Stocks
Investing into individual companies by purchasing a share of their business. Known as socks, shares or equities it means you own an individual share in a business which then fluctuates in value based on demand over time. Your share of the business also typically qualifies you for an equivalent share of any dividends the company pays out. Increases in a company’s share price can generate very high profits over time but equally those shares can fall heavily, and if the company ceases trading your shares could become worthless. Your risk is based on the company’s performance and how attractive the shares are to investors. Typically, buying into a portfolio of shares is desirable to spread the risk.
Bonds
The purchase of a company’s debt (corporate bonds) or a governments debt (gilts in the UK). The debt issuer offers a regular coupon for the risk you are taking on which is normally a fixed amount. The purchase of the bond is for a fixed amount, but the value of this bond can vary over time in the second-hand market depending on both interest rates and the risk of the bond provider. If the bond provider defaults the value of the bond may be lost entirely. Most bond returns come from income but the capital value does vary over time as well, although typically less volatile than stocks and shares.
Mutual Funds
A pool of money from a group of investors used to invest in a rage of investments. They could buy shares, bonds, property, or a variety of investments. Typically mutual funds have a set investment objectives and a strategy. The pooling effect is designed to reduce risk through diversification and provide a manged investment portfolio with costs spread between all investors. Returns are based on the performance of the pooled assets such as stocks and shares or bonds.
Exchange-Traded Funds (ETFs)
A pooled investment like a mutual fund but investing accurately to track a specific index or asset. The fund is traded on an exchange, like stocks and shares are, with the aim to replicate the index’s performance. It allows an investor to mirror returns from a particular index, eg. the UK stock market without the large task of buying each share individually. It avoids the risk of active management where picking particular stocks over another may or may not beat the index returns over time. Typically low cost due to low level of management involved.
Real Estate
Direct property investment, or indirect via property funds. Purchasing property with a view to returns from Income (rent) and capital appreciation. Property investing often involves borrowings (mortgages) which can enhance returns (or increase relative losses) through gearing. Effectively making a return on the lender’s capital. Real estate is considered a ‘real asset’ as it has a physical presence but can be illiquid (not always quick / easy to sell). It can also be heavily impacted by interest rates, regional demand, and government policies. Residential property investing is in houses and apartments, commercial property investing covers offices, shops, and industrial units.
Commodities
Investments into real assets like metals, meat, agriculture, or energy. Can be direct commodity purchases (but storage and transport costs on a large scale involved) or more typically through a fund (pooled investment) and/or using futures contracts. Futures contracts agree to buy or sell a commodity at a fixed price and date in the future and these contracts are then traded before the expiry with price determined by expected change in demand over time. Often a complicated and volatile market to invest in but offer a real asset as the underlying investment and potentially high returns if successful.
Cryptocurrencies
A digital or virtual currency secured by cryptography to try and remove the risks of counterfeit. Typically outside of government control it offers an alternative currency for purchasing services or assets with the value of the currency fluctuating based on demand and future expectations. Very high volatility historically due to high levels of speculation and uncertainty over future levels of use. Risks from lack of regulation, changing technology and complexity but potentially high upsides if high levels of adoption.
Investment Strategies
Now that we’ve looked at the main options for investments, let’s take a look at the strategies which are often used. At the most basic level there is long-term and short-term investing.
Long-term investing
Buy and hold strategy for UK stocks
A buy and hold strategy for shares involves holding on to company shares for the long term to benefit from continued increase in those business share values over time. It typically means little trading of the stocks, but instead making confident long-term investments into growth oriented and profitable businesses.
Dividend investing
Most companies pay out a share of their profits each year in dividends. This is especially true of larger, capitalised businesses with a long track record like utilities, banking, or healthcare firms. This income stream from dividends can be very attractive to investors whose return can then comprise of both capital appreciation on share price rises alongside regular income from dividends. Dividends attract a different tax rate to income tax and the income stream can, in some cases, be quite predictable and consistent.
Short term trading options
Day Trading
Day trading is the short-term buying or selling of shares in UK listed companies, often through contracts for differences (CFD). It allows investors to make a profit on the short-term movements in share prices and as such often involve volatile markets. They also consistently use gearing to increase the potential returns / downside. Investments are often speculative rather than based on long term fundamentals but can make large profits quickly if successful.
Swing Trading
Unlike Day Trading, where a share is usually bought and/or sold in one trading session, swing trading involves holding a position for more than one trading session. The amount of time it is held can vary (or swing) but it is typically not longer than several weeks or, potentially, a couple of months.
Occasionally a position might be held longer than a couple months yet still be considered a swing trade. It is also possible that a Swing Trade will occur during a single session, however this is usually in response to particularly volatile’s conditions.
Value Investing in Stocks
Looking for share investments into businesses that appear to be priced lower than their real value. Investors usually look at fundamentals (some core financial metrics of business performance) and see where market sentiment may have moved to a position where the share price doesn’t reflect what they believe a share is worth over time.
Growth Investing Opportunities
Buying into businesses where there are expectations for above average growth. This might mean start up / early stage businesses with significant growth potential or to more established businesses with scope to disrupt a sector or major acquisition plans.
Understanding Diversification
Often times, investments will be spread across various products. This helps mitigate the need to be reliant on the performance of one specific thing. Having a diverse portfolio allows for a potential balance across all assets. If Asset 1 is having a bad day, you have X amount of other assets to potentially be having a good day. Therefore, Asset 1 won’t necessarily have a big impact on the overall performance of your portfolio.
Entering the Market
If you feel confident that you are ready to begin investing both in terms of your financial position and your knowledge bank, you can either go it alone or work with a professional advisor.
How Much to Invest
The first area to think about when deciding on how much to invest is what kind of a reserve / emergency fund you will have left. Investing should come from surplus income or savings reserves. You should have enough left behind to avoid the risk of needing to cash out your investments in a rush, potentially realising a loss or missing out on potential return. Try and look at your regular income and expenditure, add in any expected one-off expenditure and then apply a sensible buffer for unexpected costs.
Next, think about your liabilities and whether you are better off paying these off before you start investing. It is nearly always better to pay off debts before you start investing, especially if these are on higher rates of interest like credit cards, loans, and overdrafts.
Finally think about how long you are looking to invest over, consider the amount you are prepared to take a risk with and then start a lump sum or regular investment amount from the balance. It is typically easy to top up investments so don’t be afraid to start smaller and build up in future when you have more confidence in how investments work and more confidence in your own budgeting.
Where To Put Your Money (Tax Wrappers: ISAs, Pensions)
Once you have a clearer idea about how much to invest, and the level of risk you might be comfortable with, you need to think about how to invest the money in a cost and tax efficient way. You may want to buy a share portfolio through a trading platform or buy investment funds. Both can have major tax savings if done through an ISA or a pension over a direct personal holding. Always look at ways to make tax free returns wherever possible in the first instance including using ISA allowance, Pension allowances, using capital gains tax allowances and personal allowances and savings rate allowances. Minimising tax on the returns you make can have a massive impact on your total return over the longer term.
You need to be aware that certain investment vehicles like a pension are inherently long term so you may not be able to access the money you put in for a long time. Others may offer instant access or access within a certain number of working days. Bear in mind, if you are likely to need to access any investments before you commit to a specific investment type or tax wrapper.
You also need to choose an investment provider to purchase your investments through. There are many investment companies, investment platforms, insurance companies and banks that offer a route to buying and selling investments. You need to look at costs and charges, range of options, service levels, financial security, reputation, and experience before you choose the right company to engage with.
How to Implement
If you have the time and confidence to self-invest there is no reason you cannot look at building your own investment portfolio to manage personally. The alternative is to seek a professional advisor who can go through this process with you and use their experience to recommend and manage a portfolio of investments on your behalf.
Note: this does not need to be a binary decision as you may feel comfortable to manage some of your investments but engage an advisor to run certain elements of your overall investable wealth.
The most important thing to think about is the time you have available to suitably research all aspects of investing before you start, and the time it takes to keep this under review. Professional advisors look at investments on a daily basis and may have access to research and support that individuals may struggle to find. Self-investing is arguably cheaper and more accessible for individuals than it has ever been, but investing can be a complex and rapidly changing environment and good advice can be extremely valuable.
It is much like the choices we face for any service available. Most of us can probably turn our hand to painting and decorating, cleaning, or filing our tax returns but do we have the time, skill and experience to do a better job than paying a professional? Like most decisions it largely comes down to a value judgment. But never underestimate the possible cost of making the wrong investment decisions.
It's About What Works For You
Whether you choose to manage your investments yourself or work with a professional, it is important to have an understanding of the process and products involved. A proper education around the options and strategies available will help you make informed decisions. Decisions that support your personal circumstances, financial goals and appetite for investment risk.
If at any point you think you can benefit from the advice that experience can offer, get in touch with the team at Bigmore Associates. We can help you design a portfolio of your choosing as well as talk you through what our Core and ESG Propositions are built on: highly diversified funds that are risk rated with a lower investment cost.
Article by Adam Nettleship
Managing Director
