If you’re just starting your investment journey, you’ll quickly find out that there’s a number of different investments available to build a portfolio. They all have their own characteristics, and each have their pros and cons and can vary in risk.
Stocks & Shares
Stocks and shares are basically the same thing.
The difference, although minor, is in the way each term is used. Stocks typically refers to general ownership of any company, whilst shares refers to specific ownership of a particular company.
I have a portfolio of stocks, and one of the companies I own shares in is Vodafone.
If you buy shares in a company, you will own a portion of the company, meaning you should benefit from the company’s success when their share price increases. Of course, if the company doesn’t do so well, then the share price can also go down, which could affect your invested money and you may get less back than you initially invested.
When performance is good, some companies may choose to reward shareholders with some sort of payment. Typically known as a dividend, shareholders may receive a cash payment with the size of the payment (distribution) being relative to the number of shares they hold. For example, if you own 10,000 shares and the company was doing well, they could choose to pay each shareholder 2.5p per share you own. This means you’d receive a dividend payment of £250.00, i.e. 10,000 shares multiplied by the dividend payment of 2.5p.
The dividend payment value is often quoted as a percentage of the share price. When someone says a company has a 5% yield what they mean is you may receive a dividend payment that equals 5% of the value of a share.
Dividends are typically issued as cash payments, or shares allocated to the shareholder by the company. When dividends are paid in the form of new shares it is commonly known as a scrip dividend.
In its simplest terms; if you invest in bonds, you’re lending money to a corporation or government institution to sometimes fund important projects or new areas of business (e.g. transport or a new factory). In exchange, they’ll promise to reimburse you the full amount of your loan plus interest.
For example: if you invested £20,000 in a company as a bond, you’ll typically be paid interest throughout the bond’s life, usually quarterly or semi-annually. Then when the bond reaches its maturity date (you’ll be told the maturity date upfront), you would hopefully get the full £20,000 back.
One thing to keep in mind is that bonds don’t usually guarantee payments as there’s a risk that corporations and governments can default. So, just like stocks and shares, you could end up with less than your initial investment.
Cash investments are generally the lowest risk option compared to other investments or asset types. You can invest cash into an account and get interest on your money. The return is lower than other ‘riskier’ investments such as bonds or shares, but they are typically more stable, which is why cash investments are popular.
Investing in property has become increasingly popular since house prices have consistently increased in most UK regions since the 1980s. TV programmes like Homes under the Hammer, have also helped to shine a light on the possibilities that property investment can bring.
One way to invest in property is to purchase a residential property, either to live in or let out to tenants. This typically gives you more control since you own a physical asset - but buying a property isn’t as simple as they make out on TV. Also, if you only buy one property, you’re taking a greater risk as your money would be tied to one asset type, meaning if anything negative was to happen, you could risk losing quite a lot (if not all) of your initial investment.
If the direct route isn’t for you, you could look at alternative options to enter the property market:
- Real-Estate Investment Trusts (REITs) REITs focus on investing in a range of different properties. Whilst some REITs hold properties from one specific region or area of real estate (e.g. only shops), others invest in different types of property from a range of locations. Choosing a REIT can allow you to spread your money across a large number of properties, which can help mitigate your risk.
- Peer to Peer Lending Although Peer to Peer lending isn’t solely for property investing, it does allow you to lend money to someone (a home buyer) and/or a business (housing companies) and in return, they commit themselves to pay you interest on the loan. This investing strategy has evolved with the launch of Innovative Finance ISAs back in April 2016. This enables investors to lend via FCA regulated peer-to-peer platforms without paying income or capital gains taxes on returns. But, peer-to-peer platforms can leave you exposed to risk, if the person or company doesn’t pay you back as agreed - this is no different to most other loan products.
Commodities can be classed as raw materials, basic resources, agricultural or mining product that can be bought and sold, such as oil, copper, coffee, wheat, gold, iron ore or sugar, to name but a few.
Commodities are most commonly purchased for practical use in the real world, but financial institutions are now using commodities in portfolios for the diversification benefit it provides, thanks to its uncorrelated behaviour to the other asset classes.
A mutual fund is looked after by an investment manager and allows you to have your money invested in stocks, bonds or a mix of other investments, depending on the type of mutual fund held. Mutual funds are a great way to achieve a diversified investment plan and it doesn’t matter if you invest large or small amounts.
Mutual funds can passively track stock or bond market indices such as the FTSE 100 or the S&P 500 which means the mutual fund should behave in a similar way. For example, if the FTSE 100 increases in value, the mutual fund tracking it should also increase in value and vice versa.
Some mutual funds are actively managed where the fund manager actively selects the stocks, bonds or other investments to invest in – for a fee. Actively managed mutual funds are generally more expensive to own as you’re paying for the fund manager to physically look at all the investments you hold and decide what action they should take.
ETFs stands for Exchange-Traded Funds. They are investment funds that aim to track the performance of a specific index like the FTSE 100. They are like mutual funds, but they are traded on the stock exchange and are valued constantly throughout the day whilst the markets are open, giving investors greater flexibility when buying and selling their investments. ETFs are a type of index fund.
If you’re choosing to put your money into a fund that tracks markets, it’s important to hold onto your investments over the long-term. American Business man, investor and philanthropist, Warren Buffett, strongly believes in investing over the long term and has even said that following his death his wife should invest in an ETF.
There are hundreds of index funds, that each track their own benchmark and are typically sold cheaper than active funds.
The key thing when you invest is to build a diversified portfolio. Put simply, choosing to buy a large number of investments from different markets and regions could help you mitigate the risk of losing all your invested money. Spreading your money across assets and places doesn’t necessarily require you to spend a huge amount of time looking for thousands of investments. You could simply buy investment funds which are like baskets containing a varied range of assets selected by qualified investing experts.
Please remember the value of your investments can go down as well as up, and you could get back less than invested.