Stock markets can be scary places for anyone new to investing: a mass of numbers, flashing screens and impenetrable jargon. A far cry from dropping coins into a piggy bank or paying cash into a savings account.
It’s an especially formidable time to be a stock market investor in Australia—or anywhere else for that matter. While we may lucky enough to avoid a recession, there is concern that the US will enter one, which will have widespread implications for global economies. As recently as October 11, Treasurer Jim Chalmers warned that the “world is bracing for another global downturn”.
However, if you’re saving for the future let’s say, five years away at the very minimum investing in the stock market has the potential to produce greater rewards than cash deposits. And it can also head off the corrosive effect of rising inflation.
Here’s a run-through of investing basics, plus a look at the ways beginners can buy stocks and shares.
Note: before you consider going down the investing route, it’s sensible to build up a ‘rainy day’ cash fund worth at least three (and preferably six) months of your usual outgoings and to seek independent financial advice with regards to your individual situation.
What is Investing?
It’s worth starting with a definition of what investing is, and why people do it. Investing is the process of using your money to generate a profitable return (although it should be noted that investing carries with it the risk of loss, except where holdings are kept as cash).
The investing process involves putting your money into a range of investments.
What Are Asset Classes?
There are four main types, which you’ll hear referred to as ‘asset classes. They include:
cash – savings that you build up in a bank or building society account.
bonds – also known as ‘fixed-interest securities. A bond is an IOU that pays its holder regular payments interest in exchange for a loan to the bond issuer and may be provided by companies or the Federal Government. Australian Government Bonds are known as AGBs and are touted as a fairly safe bet.
property – an investment in bricks and mortar, either in the hope that a building’s value will rise, or that you’ll benefit from its rental income and tax breaks, such as negative gearing (sometimes both).
stocks and shares – these are interchangeable terms, and they are also known as equities. Equity investing is where you buy a stake in a company either directly, or via a fund (a form of collective investment, where your money is pooled with that of potentially thousands of other investors). As a shareholder, you are a part-owner of a business, and you’ll share in both its financial successes and failures.
Other asset classes exist such as fine wine, art and classic cars. But mainstream financial products tend to focus on the above list.
An accumulation of assets is often referred to as a ‘portfolio’. There’s nothing to stop an investor focusing on just one asset type, but there’s an ‘all-your-eggs-in-one-basket’ risk associated with doing this.
Spreading your money among different asset classes—known as ‘diversification’—is a sound investing policy.
Risks Attached
Every investment carries a degree of risk, some greater than others. Generally, the higher an investment’s potential return, the higher the risk of losing your money.
In terms of the asset classes outlined above, the risk associated with each tends to increase as you read down the list.
For example, with savings accounts, the risk of Australian savers losing their money is virtually zero thanks to strict compensation rules in place under the Financial Claims Scheme (FCS) should a provider ever get into trouble.
The trade-off, however, of savings accounts is that the returns you can expect are modest at best, from virtually nothing up to around 3% a year.
With Australian inflation running at more than 6%, as per the June 2022 quarter update, and tipped to increase further by the end of 2022, this means that the real value of money held in deposits decreases year-on-year because of rising cost-of-living pressures.
Corporate bonds are riskier than cash because there’s the chance an issuer will not meet its interest payments and ‘default’. Again, the trade-off comes in the shape of a slightly higher rate of interest than cash, typically in the range 2-3%.
Many Australians are fans of property investment, with some buying into commercial developments through managed funds.
Shares are often an investor’s first foray into stock markets, so that’s where we’ll focus on for the rest of this article.
Why Buy Shares?
Historically, the return on equity investments, between 3% and 6% a year going back over 120 years, according to Credit Suisse, has outstripped other asset classes (although past performance is no guarantee for the future).
However, before parting with any cash, it’s worth taking time to weigh up whether investing in shares is definitely for you and to ensure you do it in a sensible and secure way.
Be Prepared for Ups and Downs
With equity investing, you need to keep your ultimate financial goals in mind and be prepared to ride out stock market ups and downs.
Whichever method you choose (see below), there’s also a cost consideration. It doesn’t cost anything to open a deposit account with a bank. But, when buying shares, extra charges will be incurred beyond the cost of owning a piece of the company itself.
Investing in shares also means there may be tax considerations, for example, when selling part of your portfolio.
Before taking the plunge with any form of stock market-linked investment, ask yourself five questions:
Should I get financial advice?
Am I comfortable with the level of risk and can I afford to lose money?
Do I understand the investment in question, and could I get my money out easily?
Are my investments regulated?
Am I protected if an investment provider or my adviser goes out of business?
Types of Investments
There are several ways to invest. You can opt for one, some or all of the following. It boils down to your goals and how actively involved you’d like to be in managing your portfolio. The main options are:
Buying individual shares. This is probably the most time-intensive option. You’ll need to do plenty of research and ‘own’ your decisions.
Invest in share-based exchange-traded funds (ETFs). ETFs are a half-way house between buying shares direct (above) and buying funds (below). ETFs invest in a range of individual shares to track an underlying stock index, such as the Australian Securities Exchange (ASX). Investing via ETFs is like buying into the companies that are on the same index. They are traded on exchanges in the same way as companies but may offer greater diversification.
Invest in collective/pooled investment funds. These are run by professional managers, who oversee portfolios of shares and other asset classes on behalf of investors. Funds focus on specific countries or geographic regions (such as the UK, the Far East) or sectors (such as technology). Actively managed funds are where managers decide which companies to include in their portfolio. Passively managed funds use algorithms to track the performance of a particular stock market index.
How do I Buy Shares?
1) Open an investment account
DIY investors require access to a dealing account, such as the ones offered by online investment platforms and trading apps. These provide would-be investors with a range of share-dealing services.
Investment platforms, such as SelfWealth, Stake and CMC Markets Invest, offer a range of features for both new and seasoned investors, with some offering access to international markets as well as the ASX. It’s also worth checking whether the share trading platform automatically registers your ASX share trades and transfer of ownership with the Clearing House Electronic Subregister System (CHESS).
No single investment platform or app is going to suit all types of users. Personal preference, look and feel, ease-of-use, as well as cost-per-trade, will play a part when making a choice. On top of these considerations, it’s important that a provider offers access to the investments you’re looking for.
It’s also important to pay as little as possible for each trade you make and to minimise charges. Check to see whether there are any additional administrative fees in addition to the cost-per-trade.
2) Choose a robo-adviser
If you have a sizeable amount to invest (say $10,000) but the prospect of being responsible for all your own trades seems a little daunting, you could opt to use an Australian robo-adviser.
Robo-advisors are a simple, inexpensive way to invest in stocks: a half-way house between a DIY approach (above) and full-blown face-to-face investment advice (below). You provide information on how much you earn, why you want to invest, your financial goals and attitude to risk and are given a ready-made investment portfolio by an automated system.
Once you’re up and running, the robo-adviser provides you with updates on your investment performance. This approach is convenient and relatively cheap – fees start at around 0.3% p.a., based on a $10,000 placement. They’re also fast – you could have a live portfolio within a matter of hours.
But because the process is automated and uses data provided by the customer, robo-advisers do not make intuitive recommendations. Depending on the provider you choose, there may also be limited choice in terms of the options on offer and the asset classes you can access.
3) Choose a financial adviser or wealth manager
If you have a larger amount to invest, for example a six-figure inheritance or windfall, you could pay for the services of a financial adviser.
But you still need to decide what kind of advice you need and the goals you’re working towards. For example, are you investing with a particular event in mind, such as retirement?
You also need to decide your appetite for risk, how long you want to tie up your money for, and whether you need advice on different types of investment such as ones run according to ethical or environmental principles.
When you meet with an adviser, you should:
Check whether your adviser is licensed. All advisers, in fact anyone who offers personal financial advice, must have an Australian Financial Services Licence (AFSL).
Ask for a copy of their Financial Services Guide (FSG), which will tell you the services they offer, any links to product providers, who owns the company and their AFS licence number.
Are your interests aligned? Some advisers deal with high net-worth clients with self-managed super funds while others prefer to focus on Millennials and offer very specific investment products. Check yours is the right fit for your financial needs and stage of life.
Query how (and how much) you will be charged. You may be charged an up-front fixed fee, or a percentage fee based on the total value of your investments or even the performance of your fund. While Australian financial advisers are no longer allowed to receive commissions for recommending general and superannuation investments, they may still charge a commission from certain life insurance companies. You can find out more information about fees from the Australian Government’s Moneysmart site.
Note: the investments listed above are intended as factual information and do not amount to recommendations of any kind.
