Many investors are nervous of directly investing in the stock market. They may have been told that it is too risky, and involves making expert judgements. However, the point about risk isn’t really valid any more because there are far riskier markets than the one for stocks and shares. Cryptocurrency trading platforms come to mind.
At least with stocks and shares, you are buying into a company and can check its real-world trading record. And as to expertise, once you have mastered a few basic facts about a company, all of them publically available, you will be in a good position to make a judgement on whether it’s worth investing in.
Every country has its own stock market, and many countries have more than one. In the UK, there is the London Stock Exchange (LSE). But there’s also a junior market, for companies that are starting out, and aren’t yet ready for a full listing on the main stock exchange. They are listed on the Alternative Investment Market (AIM). AIM is riskier because the companies trading there are not so well established as the companies trading on the main stock market.
Every stock has its own code, and this is often preceded by the name of the market it trades on. For example, Lloyds Bank’s is often written as LON: LLOY. This tells you it trades on the London Stock Exchange and its short code is LLOY. Another example would be AIM: ASOS which would tell you that the internet clothing retailer, ASOS, is listed on AIM.
The Financial Times (FT) runs a number of company indices, that investors find useful. The FTSE 100 lists the 100 biggest companies, the FTSE 350 lists the 350 biggest companies, and so on. Every day, the FT measures how much these groups of stocks have risen or declined. Exactly the same thing happens in the US, except that over there the indices are run by the Dow Jones.
People who are not sure which individual stock to buy, often buy into a shared fund. These funds take a lot of the risk out of the equation because they own a basket of shares, and you are buying a slice of lots of different shares. That means that if one company goes bust, it won't have a major impact.
There are also tracker funds which try to own all the shares in an index, in order to replicate its performance as closely as possible. Tracker funds are one of the cheapest ways to follow the performance of stocks without the bother of having to finance multiple sales and purchases. But be aware that you won’t get paid dividends, as you would if you owned the stock itself.
Many funds specialise in buying certain stocks. Some of the people who manage these funds become famous for their specialist expertise. For example, some managers run funds that specialise in Chinese stocks, or in companies that are recovering from setbacks, or in technology stocks.
These funds are a good way of taking a view on the way that finance and the markets are moving. If you feel that Chinese trade success is unstoppable, you might buy into a China fund. But if you feel that a trade war is brewing between the US and China, you might avoid this investment, and perhaps buy a technology fund instead. So funds can be a cheaper, and less risky, way to invest.
People often buy a stock because they feel they have a good knowledge of the business the company is in. For example, you may have a good feel for the mobile phone sector, and be happy to buy say, BT or Vodafone, on this basis, backing your judgement. Similarly, you may be interested in fashion, and able to form a judgement on which clothing retailers are likely to do well over the next period.
When you’re picking an individual stock, you can take advantage of a lot of free online information. If you think that a stock is cheap, remember to use the tools to look at its price, not just over weeks or months, but also over years. Looking at the wider picture can often give a different impression.
Look at the profits not just this year, but for the last few years, and take a view on whether the company’s profits are sustainable, and likely to rise, or fall. Stable and long established companies usually pay dividends from their profits, and again, it’s essential to take a long view and see whether the dividend rises steadily each year, or jumps around a lot.
It’s tempting to look at a high dividend and decide to invest. But sometimes this is a sign that a company has been paying out too much money and not making sufficient investment for the future. So always look at the dividend in combination with the share price.
There’s a very handy indicator that actually does this for you. The price/earnings ratio (P/E) compares the price of the stock with the amount that the company earned for each share it has. If the P/E is high, it may mean that the stock’s share price is overvalued in comparison to its earnings. If it’s very low, it may mean the stock is undervalued. But beware - a low P/E may look like a bargain, but it may mean that the market has reduced the price of the share because it is seen as higher risk.
A final word - some companies, especially in the technology sector, don’t pay dividends. They use all the profits they make, in order to grow the company. That usually means that the share price rises, and even though they don’t receive any dividend income, the investors get richer.
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