A Guide to Investing for UK Investors: Building Your Investment Portfolio

What's on this page?

1. Understanding Asset Classes
2. The Power of Diversification
3. Why Diversification Works
4. Types of Diversification
5. Building Your Investment Portfolio
6. Investment Vehicles for UK Investors
7. Getting Started: Practical Steps
8. Common Mistakes to Avoid
9. The Importance of Regular Reviews 
10. Looking Ahead

Understanding Asset Classes

Think of asset classes as different categories of investments, each with their own risk and return characteristics. The main asset classes available to UK investors include:

• Equities (Stocks and Shares): These represent ownership stakes in companies. When you buy shares in a company like Tesco or BP, you become a part-owner and can benefit from the company's growth through rising share prices and dividend payments. Equities typically offer the highest long-term returns but come with greater short-term volatility.
• Bonds (Fixed Income): Bonds are essentially IOUs issued by governments or companies. When you buy a bond, you're lending money in exchange for regular interest payments and the return of your principal at maturity. UK government bonds (gilts) are considered safer, whilst corporate bonds offer higher yields but carry more risk.
• Property (Real Estate): This can include direct property ownership or Real Estate Investment Trusts (REITs) that own and manage property portfolios. Property can provide both rental income and capital appreciation, plus it often acts as a hedge against inflation.
• Cash and Cash Equivalents: This includes savings accounts, money market funds, and short-term government securities. While offering the lowest returns, cash provides stability and liquidity for emergencies or short-term goals.
• Alternative Investments: These include commodities, precious metals, and private equity. While they can diversify a portfolio, they're generally more complex and suitable for more experienced investors.

The Power of Diversification

Diversification is perhaps the most important concept in investing. It's based on the principle of not putting all your eggs in one basket. By spreading your investments across different asset classes, sectors, and geographical regions, you can reduce risk without necessarily sacrificing returns. The spread of asset classes in a portfolio is called the asset allocation.

Why Diversification Works

Different investments perform well at different times. When UK stocks are falling, international stocks might be rising. When equities struggle, bonds might provide stability. This natural variation helps smooth out your portfolio's performance over time. This boils down to how correlated asset classes are. For example, typically equities and government bonds are not highly correlated with bonds offering a potential cushion for investments portfolios when equity markets are falling.

Types of Diversification

• Asset class diversification: Mixing stocks, bonds, property, and cash
• Geographic diversification: Investing in UK, European, US, and emerging markets
• Sector diversification: Spreading investments across technology, healthcare, finance, and other industries
• Company size diversification: Combining large-cap, mid-cap, and small-cap stocks

Building Your Investment Portfolio

Creating a well-balanced portfolio requires careful consideration of your personal circumstances, goals, and risk tolerance.

• Assess Your Risk Tolerance: Your risk tolerance depends on several factors including your age, income stability, investment timeline, and emotional comfort with market volatility. Younger investors can typically take more risk as they have decades to recover from market downturns, while those nearing retirement might prefer more conservative approaches.
• The Core-Satellite Approach: Many investors use a core-satellite strategy. The "core" consists of low-cost, broadly diversified funds or ETFs that form 70-80% of your portfolio. The "satellites" are more focused investments in specific sectors, regions, or themes that you believe will outperform. The Satellites could be thematic investments such as clean energy, AI or defence exchange-traded funds (ETFs).

Strategic Asset Allocation: Another approach is to build a strategic asset allocation. This focuses on building a long term asset allocation based on the risk and reward dynamic of the various asset classes. An investor who wishes to take more risk may build a more equity heavy portfolio than an investor who considers themselves risk averse or needs the money in a relatively short period of time.

Investment Vehicles for UK Investors

Individual Savings Accounts (ISAs): ISAs are tax-efficient wrappers that protect your investments from income and capital gains tax. You can contribute up to £20,000.00 per year across Cash ISAs and Stocks & Shares ISAs. Given the tax benefits, maximizing your ISA allowance should be a priority for most investors.

Self-Invested Personal Pensions (SIPPs): SIPPs offer tax relief on contributions and tax-free growth, making them excellent for long-term retirement saving. Basic rate taxpayers receive 20% tax relief, while higher rate and additional rate taxpayers could be eligible for even more tax relief.

General Investment Accounts: Once you've maximised tax-efficient accounts, general investment accounts offer flexibility but without tax protection. You'll pay capital gains tax on profits above the annual exemption and further taxation on dividends above the dividend allowance.

Getting Started: Practical Steps

Choose Your Platform: IG offers a comprehensive service with access to global markets and competitive pricing. IG provides share dealing, SIPP and ISA accounts, plus advanced tools for research and portfolio management. Their platform offers access to UK and many international stocks, as well as ETFs and investment trusts.

Start with Index Funds: For beginners, low-cost index funds are often the best starting point. Through IG, you can access a wide range of ETFs that track global indices. A global equity index fund can provide instant diversification across thousands of companies worldwide. UK investors might consider ETFs tracking the FTSE All-World or MSCI World indices, which are readily available on IG's platform.

Regular Investing: Rather than trying to time the market, consider setting up regular monthly investments. This pound-cost averaging approach helps smooth out market volatility and removes the emotional element from investing decisions.

Keep Costs Low: Investment fees compound over time just like returns, but in reverse. IG offers no commission on ETFs or Stocks, with the quarterly custody fee being wiped if you make one trade a month, making it cost-effective for long-term investors. Look for ETFs with low annual management charges when building your portfolio through IG's extensive security selection.

Common Mistakes to Avoid

New investors often fall into predictable traps. Avoid trying to time the market or chase last year's best-performing investments. Don't let emotions drive your decisions, and resist the urge to check your portfolio daily. Stay disciplined with your investment strategy and remember that building wealth is a marathon, not a sprint.

The Importance of Regular Reviews

While you shouldn't constantly tinker with your portfolio, reviews are important. Monitor your asset allocation and rebalance your holdings when needed, especially after strong performance in one area has skewed your original weightings. If you don’t engage in regular rebalancing your portfolio over time could be skewed either too aggressively in terms of risk relative to your risk appetite or too low risk.

Looking Ahead

Building a successful investment portfolio is a journey that evolves with your life circumstances. Start with the basics, keep costs low, stay diversified, and remain patient. IG's platform provides the tools and access you need to build a diversified portfolio, from beginner-friendly ETFs to more advanced trading as your experience grows.

The power of compound growth means that even modest regular investments can grow into substantial sums over time. IG's ISA and SIPP options help minimise the tax efficiency of this growth, keeping more of your returns working for you.

Remember that investing always carries risk, and you should never invest money you can't afford to lose or might need in the short term. IG provides educational resources and market analysis to help you make informed decisions.

The key to successful investing isn't finding the perfect strategy, but finding a good strategy you can stick with through market ups and downs. By understanding these fundamentals and starting early on the IG platform, UK investors can build the foundation for long-term financial success.