How to Invest in Shares
When investing in shares you have a number of options:
- Invest Directly: You could pick a portfolio of stocks to invest in. If you go down this route you’ll need to pick at least 20 stocks to ensure that you have some diversification in your portfolio, with the stocks spread between different industries and geographies. You’ll also need to keep on top of the performance of these stocks to make sure that their returns are in line with your expectations.
- Invest via a Passive Fund: There are a number of exchange-traded funds (ETFs) available which give you access to different segments of the market. For example, you could purchase an ETF that gives you access to the ASX200, which is the largest 200 companies on the Australian Stock Exchange. There are also ETFs available by sector (e.g. healthcare) or by size of company (e.g. small cap stocks), or by geography (e.g. international ETFs). To invest via an ETF you are likely to pay a fee of between 0.10 – 0.50%p.a.
- Invest via a Managed Fund: Alternatively, you could pay a fund manager 1 – 2% with the belief that they will pick well-performing stocks and outperform the passive funds or index. According to the SPIVA scorecard, only 26% of fund managers outperformed the ASX 200 over the last 5 years.
Interestingly, the majority of managers that focused on small and mid-cap stocks (which we’ll cover in more detail next week) outperformed the market over a 10 year period. This suggests that it may be worthwhile using a passive fund to invest in the ASX200, and a fund manager to access small and mid-cap stocks.
Too many shares?
Over the last 20 years, shares have generated an average return of 8.70% per year, so why not invest 100% in shares? The reason is risk. A higher return is always accompanied by higher risk.
In the period from November 2007 to end of February 2009, the market dropped by over 50%. That means that if you invested $10,000 in the market on 31 October 2007, by 1 March 2009 you would have $4,951 left.
As at 31 December 2016 your initial $10,000 investment would be worth $8,387. Keep this in mind each time you are considering investing in shares. They are an important part of an investment portfolio, but shouldn’t form 100% of it.
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