History has shown that one of the most effective ways to build your wealth over the longer term is to invest in shares. And the good news is it’s NOT difficult to get started.
There are four ways you can invest in shares and each has pros and cons.
The way YOU choose to invest in the share market will depend on your personal situation as each approach requires different time and effort commitments.
You will often hear people say ‘the share market is too risky’. Yes, the share market can be volatile, with prices moving (sometimes quickly) on a daily basis but this is not the same as being ‘too risky’. The daily, weekly and monthly fluctuations can be opportunities, especially when you have learned more and have developed a system that helps you manage the risk.
To select the approach most appropriate to your situation, you need to consider:
- how much time you want to spend
- your level of interest
- your appetite for risk and
- your ability to learn and try new things.
The four ways to invest in shares are:
- Directly – You can buy and sell listed company shares directly through a broker (either full service or online / transaction only).
- Managed Funds - You can buy units in a managed fund which is run by a professional fund manager who pools your money with lots of other investors and does the investment decision making on behalf of the fund investors.
- Listed Investment Company(LIC) – You can buy shares through a broker in an LIC, where the LICs purpose as a listed company is not to provide products or services but to own or invest in other companies and financial assets.
- Exchange Traded Funds (ETF) – You can buy shares in a listed fund through a broker where the fund has a specified investment methodology such as representing all the shares in a particular market index.
You can use any combination of the above methods but let’s firstly define exactly what a ‘share’ is.
Shares (or stocks) are the smallest equal unit of ownership in a company. There are different types of shares but don’t worry about that for now. At the moment we are only concerned with the most prevalent type which is common or ordinary shares.
Some companies list on the stock exchange and become a publicly listed company and offer their shares for sale. This means that the public (you!) can become a part owner of the business.
There are thousands of publicly listed shares in Australia and they are listed on the Australian Stock Exchange (ASX). Each company has an identifying code of three capital letters e.g. Commonwealth Bank is listed as CBA.
Stocks are grouped into similar groups called sectors such as retail, finance or materials. Price and other information about particular shares can be found online.
What are the Pro’s and Con’s of buying Direct Shares?
Advantages
- Passive income - As a share owner you are part owner of the business so you have a right to share in the profits of the business, usually in the form of dividends. Over time and with the effects of compounding, this income stream can grow to supplement or replace your income from working.
- Flexibility - You are in control of your investments. You can choose to invest as little or as much as you like, as well as the type and number of companies you want to invest in.
- Potential growth - The value on the stock market of the shares you hold may grow over time, providing you with capital gains.
- Tax benefits - Companies pay a company tax on the profits that they earn. So when they pay those profits out to you (a.k.a. dividends), you can get the benefit of the tax already paid. This is called a franking or imputation credit.
Disadvantages
- Time commitment - Depending on your strategy and approach, managing a portfolio of direct shares can be time consuming. It doesn’t have to be though and later in the module we look at ways to manage a portfolio of shares.
- Risk / volatility - Share prices can fluctuate dramatically and can fall in price, especially when unexpected events occur. Shares can become worthless if the company goes out of business and shareholders are generally the last in line to receive any money back from the windup process.
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