If you are a new investor following tips and advice in the media, then you need to know how to cut through the noise.
Thousands of companies, fund managers and analysts are talking up their pet investments to drum up trade because they have a financial interest in you buying in to what they are saying.
Just because an investment is in the news does not make staking your hard-earned cash is a good idea.
You need to have a clear vision of why you are investing and what you would like as the result.
New investors also need a heads up on how to avoid some basic pitfalls.
This guide aims to highlight what you and shouldn’t do as you start on your investment journey.
Table of Contents
Risk v Reward
Everyone invests to make money, but the sad fact is many investors lose money as well because they make the wrong choices.
Investing in a stock market comes with risk. It’s up to you to make an informed decision about how much risk you find acceptable.
The rule of thumb is the higher the risk, the higher the reward, but the rider is high risk also comes with a good chance of losing your money.
Common Investment Mistakes
You can’t avoid making losses if the market tanks, but you can act to minimise the scope of your loss if you follow some simple tips:
Spread the risk – Invest a little in a lot of different assets and stocks. If one investment has a tough time, hopefully the others should keep your head above water
Ignore gurus and rumours – There are no investment secrets that will make you money and supposed experts running courses and passing on tips make their money from charging you, not following their own advice
Don’t act on advice you don’t understand – If you don’t know how an investment works, you’re leaving yourself open to unforeseen risk
Ignore yesterday’s news – Just because a market has a rising trend over recent months or years doesn’t mean it won’t crash tomorrow. Make investment decisions based on the most up-to-date data to hand.
The same applies to fund and stock prices online – make sure they are current figures before acting on them as some web sites can be up to 24 hours behind the markets.
Don’t invest on impulse – If you’re not sure, don’t invest however golden the investment may seem – another opportunity will always come along
Hold your nerve in downturns – What goes up must come down, and often the reverse is just as true. You can make money buying low and holding for the long term rather than selling cheap to stem losses
Set investment rules – Give yourself a limit on how much you can invest so you don’t overstretch your budget. Investing too much could mean falling into financial difficulties with your other bills and commitments
Manage your risk – Only investment money you can afford to lose, or you may have a problem that can turn into an addiction
Investment income is uncertain – You can’t live on income from investments that can fail at any time leaving you financially high and dry
Inflation is the wolf at the door – Build reasonable inflation estimates into your investment strategy. Earning 1.5% growth when inflation is 2% means you capital is not keeping up with the cost of living – you’re losing money.
How To Buy Shares
Most investors buy shares directly – as an individual – or indirectly – like through a fund.
The cost of a share is generally higher than the sale price.
The buying cost is called the ‘bid price’.
The selling cost is called the ‘offer price’.
The difference between the two is called the ‘bid/offer spread’.
The share price is calculated by taking the value of the company’s assets, subtracting any liabilities, like loans and debts and dividing by the number of shares issued. Sometimes this is called the ‘net asset value’ or ‘NAV’.
Shares bought for lower than the NAV are discounted, while those costing more than the NAV are bought at a premium.
Shares And Tax
Investors can hold shares in various ways, and each comes with its own tax obligation on sale and purchase.
|Holding share certificates||Direct ownership||Income tax on dividend income and Capital Gains Tax (CGT) on selling|
|CREST||Direct ownership||Income tax on dividend income and Capital Gains Tax (CGT) on selling but tax can be diluted by holding shares via a Self-Invested Personal Pension (SIPP)|
|Nominee account (pooled)||Broker is legal owner of shares while investor is beneficial owner||Income tax on dividend income and Capital Gains Tax (CGT) on selling but tax can be diluted by holding shares via a Self-Invested Personal Pension (SIPP) or ISA|
|Nominee account (designated)||Broker is legal owner of shares while investor is beneficial owner||Income tax on dividend income and Capital Gains Tax (CGT) on selling but tax can be diluted by holding shares via a Self-Invested Personal Pension (SIPP) or ISA|
Holding Your Shares
The way an investor holds share is personal to them and depends on their tax and other financial circumstances.
Most investors choose an ISA or pension to hold their shares.
- ISAs are tax free – there’s no tax on fund growth or when taking money out but annual investments are capped at £20,000
- Pensions – investors get tax relief on contributions but only 25% of the fund is tax-free on withdrawal, income tax is paid on the rest, but the fund grows free of taxes. Annua contributions are capped at £40,000 for most savers but the limit can vary
Other options include bonds, unit trusts, real estate investment trusts (REITS) and investment funds.
For investors happy to take on extra risk, the most generous tax breaks come with the Seed Enterprise Investment Scheme (SEIS), the Enterprise Investment Scheme (EIS) and Venture Capital Trusts (VCT).
When To Sell Your Shares
Many experienced investors are in stocks and shares for the long term – that’s holding for five or 10 years or more.
Knowing when to sell comes with experience and should be an unemotional transaction.
One way to take the stress out of the decision is implementing a stop-loss policy.
A stop order is an instruction to your stockbroker to dispose of shares when they reach a predetermined price. The psychology is investors tend to sell high but hang on too long to shares in freefall in the hope they will regain value. The stop order removes the human element in the decision.
Many investors try to avoid overpriced shares by selling.
Shares can fall into the overvalued category by rising too much when the underlying performance and asset base of the company stays unchanged.
A quick gauge of company value is the price-to-earnings (PE) ratio so investors can compare the share price with that of other companies in the same sector.
To find a company’s PE ratio, divide the share price by annual earnings. The higher the ratio, the more the share leans towards overvalue.
How To Buy And Hold Shares FAQ
Buying and selling shares can be fun as well as a profitable investment for the future.
But for the uninitiated, how and when to jump on the bandwagon can be perplexing.
Here are some answers to the most asked questions about how to buy and hold shares.
How much should I invest every month?
There’s no set limit, but you should be comfortable with the amount and should not invest money you can’t afford to lose.
That means making sure all your day-to-day expenses are covered first. Next, you should have some liquid cash for emergencies, like the car or boiler breaking down.
Should I self-invest or work with an adviser?
Self-investment is cheaper than working with an adviser, who will charge a percentage of your savings, an hourly rate or flat fee, depending on their business model. Adding this to the normal fund and administration charges means reducing your return on investment.
However, a fund manager has the back-office support for carrying out due diligence and monitoring the market that is almost impossible for an individual investor.
Besides the PE ratio, are their other ratios I can use to invest?
Besides the PE ratio, investors often use three other formulas to assess a company:
- Earnings per share (EPS) – compares net income with total shares for revealing if the company can generate profit. The EPS is the company’s net income after tax plus any preferred dividends divided by the number of ordinary shares.
- Dividend cover – a company’s financial ability to pay dividends from profits. There are two alternate calculations; net income divided by declared and paid dividends or EPS divided by dividend declared or paid for each ordinary share.
- Dividend yield – measures return on investment by dividing the dividend per share by the share price.
How long does it take to buy and sell shares?
Buying through an online platform can take just a few minutes in theory, but often takes a day or two to complete the transfer.
What is a dividend?
A dividend is money a company pays to shareholders as a reward for their investment. Generally, a dividend is declared at x pence or cents in the pound or dollar and is paid at the same rate on all shares in the same class