Investing in stocks
Investing in shares can appear daunting to the beginner, but with banks and other lenders currently offering very low interest rates on savings and investments, the stock markets offer the chance of better returns.
UK banks and building societies currently offer interest rates on savings accounts that are well below the Bank of England’s historically-low base rate of 0.25%, meaning that returns are dismal. In contrast, the FTSE 100 index of Britain’s biggest listed companies has made a 59.2% total return with dividends reinvested over the past 10 years. That’s quite an incentive to consider share dealing.
The first thing any investor has to realise about share dealing is that it is more risky than holding savings in cash. Stocks and stock indices go down as well as up. It’s important, therefore, that you avoid making typical investment mistakes, that you make a plan with clear aims and stick to it, understand risk and your own attitude to risk, and you review your investments regularly.
Once you’re sure you want to invest in stocks and shares, there are two ways you can go about it.
- Invest in stocks and shares through a broker.
You have two options to investing through a broker. The first is to pay more for a full-service broker who will generally offer you bespoke services and advice. The second option is to go through an execution-only broker. Execution-only services are cheaper, and the client is in control of buying and selling shares, generally through an online share dealing account.
If you choose the latter option, which will help you keep costs down, then there is plenty of information available for free on the internet to help you make your investment choices. Often, the online platform of the execution-only service will have a broad offering of news, information and data to help you.
- Spread the risk by investing through Exchange Traded Funds
Investing in Exchange Traded Funds or ETFs is an indirect way of investing in stock markets, in the sense that you never own shares. It is a great way of helping to spread the risk, as you can get exposure to the FTSE 100 or FTSE 250 index, for example, by buying an ETF that tracks the performance of a given index, rather than having to buy shares of the constituent companies. There are ETFs that give investors access to almost every area of the market.
ETFs are passive investments, and are cheaper than investing through actively managed open-ended funds or unit trusts.
You can get exposure to movements in whole indices using ETFs
When you do start out in stocks, one important bit of advice is not to over trade. Making a lot of small share deals can mean the costs of buying and selling those shares quickly eat into any profits you may have made. Share dealing is a medium- to long-term investment.
The rules for successful investing in shares are the same as for other longer-term investments. Be clear about your trading goals, what risks you are prepared to take, and make a trading plan based on these factors. It’s important to remember that stock prices fall as well as rise. Don’t put all your eggs in one basket, and invest in a portfolio of shares that will best meet your investment needs.
Before you invest, you should also take a close look at costs. Fees vary enormously between active and passive investments, and depending on whether you use an execution-only online platform or a bespoke service broker. Costs and fees can seriously impact your returns, particularly over the longer-term. Read our article on high fund fees
It’s also important not to try and time the market. Successful share dealing involves buying low and selling high, but constantly trying to time the market is impossible. Instead, invest regularly into the market, and hold on to your investments. Remember, stock markets can rise and fall. Whilst the FTSE 100 made a return of almost 60% over the past 10 years, it fell sharply in 2008 and 2009.
While data and information can help inform your investment selections, don’t let news alone drive your trading decisions. Financial news tends to focus on the short-term, and can induce a sense of panic during difficult times.
Contrary to popular belief, investing in stocks is not just the preserve of the very wealthy. Investing little – say £50 a month – can often can generate big returns, and the lower costs of online share dealing mean it’s very affordable.
Investing in this way can also help iron out the impact of share price fluctuations. Known as ‘pound cost averaging’, you will get more shares for your money when the price is down than you will when the price is up. Over time, you get an average price over the period of your regular investments, helping iron out the rises and falls.
Tax-free investing in stocks
Stocks and ETFs can be included in tax-free wrappers including Individual Savings Accounts (ISAs) and Self Invested Personal Pensions (SIPPS).
These are both longer-term ways of investing in stocks, as you’re incentivised to keep your money in the savings account to take advantage of the tax-free status. In the case of stocks and shares ISAs, you can take money out but your annual allowance will be adjusted down by the withdrawn amount, and you may have to pay a management fee. As with any pension scheme, you’ll incur a penalty if you withdraw money from your SIPP before you are 55 years old, and you will have to pay HMRC up to 70% of the sum.