Welcome to Financial Expert‘s Investing Guide for Beginners. Whether you just want to find out what investing is all about, or you want specific tips for beginning to invest – this website should contain the answers to most of your queries. Please make sure you understand the disclaimer for this website. Summary: This content is based on journalistic research and does not replace professional, regulated advice. Please seek professional advice from a financial planner if you are still unclear about investing, or would prefer personalized advice tailored to your situation.
This investing guide is currently being compiled, but will eventually provide information (or at least a good reference) on all of your main investment options beyond bank accounts earning fixed or variable interest.
Beginners Investing Guide – Stocks & Shares Introduction
Stocks or shares (the terms are completely interchangeable), are the bread and butter of investing. This site has a massive portal dedicated just on how to invest in shares, but I will summarize the main points here for beginners.
A single share can be represented by a certificate, or a digital entry in a stockbroking account. It represents ownership of a small chunk of a business, which brings with it the entitlement to a share of any cash dividends paid out to investors, as well as a share of any of the assets left over if the business winds up.
Beginners Investing Guide – Share Prices & The Stock Market
The entitlement of a shareholder to future dividends allows investors to place a value on the share itself. If a share is expected to receive £5 in dividends every year, then investors may be willing to buy that share for £50, in which case the £5 dividends would represent a 10% annual return on the price they paid. The stock market works in a way similar to an auction, whereby greater demand for a company’s shares will lead to a higher market price.
Share prices move so often because investors expectations of future dividends and company profits are constantly changing. If good news emerges regarding the success of a new product launch, then investors will anticipate higher future profits than previously anticipated, and will be prepared to pay a higher price to own a single share. Therefore the stock market constantly reacts to all kinds of news that may affect companies, causing expectations to be revised, and prices to move accordingly.
Beginners Investing Guide – Risk of Shares
Shares have the highest expected return of any major asset class, but they also present a high level of risk. If a company enters bankruptcy and stops paying dividends, then the company’s shares would become virtually worthless. This sounds like a rare nightmare scenario, but given that roughly 3% of large companies become insolvent each year, this is a major risk for anyone holding shares. This risk can be reduced by holding a basket of many different shares in a fund or directly, (read: The Simple Science of Diversification), but not all risks can be so easily avoided. For instance, bad economic news will cause share prices of all companies to fall, meaning a rough economic cycle can hit your share prices hard.
Not all shares are created equal. Within the stock market, different shares and funds will have different levels of risk and return. A share of BT, for instance, would not be expected to move as volatile as a small oil exploration company which relies upon infrequent, large discoveries to continue to survive. Because the oil explorers dividends will be much more risky, the price of the shares will be lower to reflect this. This represents the opportunity for a much greater return on your investment if the oil explorer is successful. This is the basis of the close relationship between risk and return.
Beginners Investing Guide – Property
Whilst shares are considered as the core investing category – property is in reality the most popular. This is because so many of us aim to own our own home, that we invest in property at an early age to ‘get on the property ladder’. The relatively high prices of housing in the modern day is pushing the average purchase age ever upwards, with recent price falls in 2009 and 2010 making little impact on the overall trend of house prices in the UK.
The standard method of investing in property is to save a deposit of between 10% – 25% of the property’s full purchase price, and fund the gap with a secured loan known as a ‘mortgage’. To find out more about mortgages, I recommend MoneySavingExpert’s free mortgage guide at this link, as it covers all the obvious questions and tackles many common myths.
Investing in a property in this way is a high risk activity from a finance point of view. Funding 75-90% of the house purchase with a loan means that house price changes will have a disproportionate affect on your actual equity (ownership value) in the house. For example if you put a £20,000 deposit down on a £100,000 house, and house prices fall by 10% to £90,000, you will only have equity worth £10,000 after the £80,000 mortgage value is deducted. In other words, by only putting down a 1/5th of the purchase price in cash, you exaggerate returns by a multiple of 5 times, which can quickly lead to a buyer being in negative equity.
Now that you’ve covered the basics, why not read our main guide: How to Invest in Property.
Beginners Investing Guide – What Types of Bonds are There?
Bonds come in many different forms. In essence they are an IOU from a borrower to a lender, with the promise to repay a fixed amount plus interest at a date in the future. From an investor point of view, these can be issued in many forms, and by many different types of institutions. Bonds are popular with investors as they provide regular and fixed income. Bonds are perceived to be lower risk than shares, but higher risk than bank accounts.
Beginners Investing Guide – Bank Bonds
Banks offer ‘bonds’ to savers, which act very much like a bank account. You deposit funds into the account and receive interest, usually at the end of a fixed period. By investing in such schemes, you aren’t really buying a ‘bond’ in the proper sense, as you are unable to sell or transfers your bonds to others, which means you are unable to make capital gains on these accounts. What’s more, these bonds are also usually covered by the deposit protection scheme, just like any other savings account. As a result, you should not expect to receive any premium for taking risk with these investments.
Beginners Investing Guide – Gilts
The word ‘Gilt’ is an informal name for UK government bonds. These are issued by the government at regular intervals to finance the public debt. These are understood to be the safest investments available in the UK, as they are backed by Her Majesty’s Treasury, which can in theory always print money to pay the bonds back. Gilts can only be bought by the public in chunks of £500,000. For the rest of us who don’t have £500,000 ready to invest, there are a wide variety of government bond funds which accept small minimum investments.