Investing for Beginners

When it comes to creating a better financial future, we know it’s important to have an emergency fund which is easily accessible (see “Building an Emergency Fund”). For this reason, people will often save money in a bank account which ensures your money doesn’t decrease in value and you can usually access it if you need it. However, with interest rates being low it does mean that there is a risk your money doesn’t grow quickly enough in a bank account to keep pace with the increased cost of living.

Once you have created your emergency fund, you may wish to consider investing your remaining savings to give your money the chance to grow more quickly. However, there is a risk with investing that your investment can fall as well as rise and isn’t right for everyone. Here we provide a simple introduction to investing to help you decide whether investing is right for you.

What is investing?

Unlike saving, which is considered a passive way to grow your wealth because you put it in the bank and leave it to grow, investing is a more active process where you put your money to work for you. Whilst there are some exceptions, investing generally involves buying something you hope will increase in value and/or provide income over a period of time.
It is possible to invest in a range of things, including company shares, property, investment funds, bonds, and commodities such as gold and oil. It’s also possible to invest in more unusual things such as art, postage stamps, racehorses, and cryptocurrencies.
The fundamental thing to remember with all investments though is that there are seldom any guarantees that your investment will grow, or that you will receive the income you hope for. If you get it right though, your investment can grow rapidly, and income can be much better than you’d get from your money sitting in a bank account.

Investing: Growth and Income

Growth and income are the two main ways you could make money by investing.

Growth, as the name suggests, involves the thing you invest in growing in value, so that when you come to sell it you receive more money back than you originally put in.

Income from an investment is money earned by having an investment and is often received in the form of “dividends.” Dividends are a proportion of a company’s profits that are divided between the shareholders of a company. As the sort of companies that pay dividends are usually larger and well-established, their shares are generally less susceptible to big increases and decreases in their value, so the payment of dividends helps make them more attractive to investors because they provide an income whilst you have the investment.

Shares and Funds: The two main ways to invest

Two of the most common investments are the purchase of shares and investing into a fund.

Shares, as the name suggests, are a share in the ownership of a company. When you buy shares in a company you become a ‘shareholder’ and, along with the other shareholders you co-own the business. People tend to invest in shares by buying shares in companies which are listed on a stock market which means that the company’s shares have a published ‘share price’ i.e. how much the stock market thinks each share in the company is worth. When a company does well, or if people expect it to do well, share prices tend to rise meaning that shares have bought increase in value.

Conversely, when a company does poorly, or people expect it to do poorly in the future, share prices drop, meaning the shares people have invested in reduce in value. Of course, it’s not quite that simple as other factors, such as interest rates, wars, and events such as the Covid-19 pandemic can influence stock markets and people’s perception of how businesses might perform, so it can be a rollercoaster ride!

Nonetheless, as with most investing, you are hoping to buy shares in a company when they are low and sell them when they have increased. The rewards can, naturally, be considerable if a Company’s share price rises dramatically, perhaps because of huge contract wins, or because it is at the forefront of a boom. However, it is also possible to lose your entire investment if a Company collapses or something happens which means people see it as being worthless.

Funds or “investment funds” to be precise, are an investment which pools together money from many investors and is then invested on their behalf by a fund manager. Fund managers are investment professionals who analyse companies and economic factors and select a range of investments in which they invest everyone’s money.

The benefit of investing in a fund rather than buying shares directly is that you avoid “having all your eggs in one basket” as fund managers will select a diverse range of investments which help create a “portfolio” of investments; some of which are selected because of their growth potential, others because they incomes, such as dividends, and other investments because they are safe and secure, such as government bonds. The rationale for this approach is that, by diversifying across a number of companies and investment types, it is unlikely that all the investments will succeed or fail at the same time, and that, ultimately, the value of the fund will grow.

When you invest in a fund, you buy ‘units’ in it which are rather like shares in a company. If the value of a fund grows because its underlying investments grown in value, or they have provided an income which is reinvested in fund, so does the value of the ‘units’ and your investment, which you can sell or continue to hold on to.

As with all investments, funds come in many forms, with some focussed on specific sectors (e.g. technology, natural resources, property), regions (e.g. Asian, North America, Sub-Saharan Africa), themes (e.g. sustainability) and with different risk levels (e.g. cautious, adventurous). Some funds also track (i.e. follow) the performance of a specific stock market, or part of it, such as the Dow Jones, of the FTSE100.

Different fund managers will have different investment approaches and ways of analysing the underlying businesses their funds invest in. As you will appreciate, if a fund manager is good at what they do, the fees they charge for investing in their fund will be higher than less successful, or well-established fund managers. Fees are made clear at the outset though.

Should you invest?

This is obviously the $1 million question. Simply though, it will very much depend on your financial circumstances.

If you have debt which charges interest, such as credit card, personal loan, or vehicle finance, you should look to pay them off first as the money you’ll save on interest payments is likely to exceed what you might gain form an investment.

Also, investing often requires a long-term view to be successful. Very few companies become successful overnight, and share prices, funds and other investments can sometimes drop in value for a whole host of reasons. As a result, only invest money that you don’t need to access immediately and build up savings first to ensure you have a pot of money to cover the unexpected. If you then have money available that you don’t need for, perhaps, five years, then maybe investing is for you.

You also need to consider how you feel about risk. Whilst your money in a bank account won’t fall in value, it also won’t grow quickly and may not keep pace with inflation.

Investments, on the other hand, can grow rapidly in value, but they can also become worthless. Generally, the greater the potential reward from an investment, the greater the risk to your money, and the lower the risk to your money, the smaller the potential reward.
With investing, it is always important to remember that the value of investments can fall as well as rise, and you may not get back all that you invest. If you are in any doubt as to whether investing is right for you, seek independent financial advice.