Investing for beginners.
If you’re new to investing, it’s important to know:
- What is investing?
- What am I looking to achieve from investing?
- What can I invest in?
- How do I choose what to invest in?
There’s always a first time for everything – and investing is no different. Traditionally, investing has been perceived to be for the wealthy, but new technologies and mobile investing apps have made investing more accessible.
While investing is a great way to save and accumulate wealth for your future, it’s important to understand the ins and outs to ensure it’s successful for you. If you’re thinking about investing for the first time, this article aims to help you have a better understanding of how to invest, what to invest in, and what to expect from investing.
What is investing?
Investing is putting your money into an asset with the expectation of earning more money, called a return. It often means foregoing current day access to your money with the intention of creating a future benefit.
While the term ‘investment’ can refer to any mechanism used to generate future income, when we speak of financial investments, we are most commonly referring to:
- Cash investments are things like an amount of money in a short-term interest-bearing savings account or term deposit.
- Shares are essentially buying part of a business in the hope that the business will make money and grow in value. In Australia, shares are most commonly traded electronically on our stock market, the Australian Securities Exchange (ASX).
- Bonds are where you ‘loan’ your money to an organisation (such as the Government, a government body, or a corporation) for them to use for a specific project. The bond-issuer then pays you interest on your ‘loan’ either throughout the term or as a lump sum at the end of the term when your ‘loan’ is repaid.
- An investment property is real estate purchased to earn a profit, either through rental payments or resale, not for you to live in.
- Alternative investments are those investments outside the cash, share, bond and property markets. Hedge funds and private equity are alternative investments most commonly used by high-net-worth individuals and organisations. Some other common alternative investments are commodities such as gold, or collectables like art.
Why do I want to invest? What am I looking to achieve?
There are two ways an investment may make money for you – capital growth or income. What you're aiming to achieve from investing will help you work out which of these, or what balance of these, is going to help you achieve those goals. This becomes known as your investment strategy.
Capital growth is when you ‘buy’ your investment with the intention of selling later at a higher price. For example, buying a house for $500,000 and selling it for $550,000 indicates a capital gain of $50,000. Or, if you bought some shares for $1,000 and sold at $1,500, this would be a $500 capital gain.
Investments may also pay you a regular income. For example, if you own shares that pay dividends or if you buy a property and rent it out.
What are the different types of investments?
There are many different options for investors these days. Which option is best for you will depend on what you’re looking to achieve and your risk appetite. Some of the more common options are:
A Managed Fund is a pool of money from a large number of individual investors, that is invested by a ‘manager’ on their behalf. The manager of the fund uses the investors’ money to buy a range of shares, bonds, property or commodities (or a combination of) that they consider will provide an attractive return with an acceptable level of risk. Managed Funds may be a good choice for first-time investors as your money is being managed by a professional with skills, knowledge, and expertise in investing. Managed funds do charge fees for their services and returns are not guaranteed. There are many funds to choose from, so it’s a good idea to do your research as each will have different conditions, fees, returns, and risk profiles.
The stock market is a complex field, and it pays to do your research before investing here. Essentially, when you buy shares, you buy a portion of ownership in that company. The price of shares can vary widely and is influenced by past performance of the business and anticipated future performance. Investment returns from shares may be in the form of ‘capital gains’ should you sell the shares at a higher price than you paid for them, or regular income/dividends from company profits. Share prices can be quite volatile and dividends are not guaranteed so shares may be regarded as a medium-to-high risk investment, however over the past 20 years Australian shares have generally outperformed cash investments.
Exchange Traded Funds (ETFs).
Exchange Traded Funds are an investment in a collection of securities (tradable financial instruments such as shares) that track an underlying stock market index or asset class. They're sometimes known as index funds. You can buy ETFs in things like the ASX200 (the top 200 stocks on the Australian Stock Exchange) or a commodity, like gold. The intention of ETFs is to track the market, rather than to beat it, so they tend to provide a moderate return over the long term. The work of selecting what to track is done by the fund manager so ETFs may be more suited to beginner investors with a low risk tolerance. If you want to understand more, look at this course from the ASX.
Fixed interest investments are things such as term deposits or bonds. Essentially you ‘loan’ your money to the bank, government, or corporation for a fixed period of time for a fixed amount of interest. The interest may be paid to you periodically throughout the term or paid as a lump sum at the end of the term when your money is ‘repaid’ to you. Fixed interest is considered to be a low-risk investment and often doesn’t generate the same level of returns as riskier investments.
Cryptocurrencies are a recent addition to investment types and remain unproven in terms of risk and return over the long term. They are decentralised and unregulated making them highly volatile and a high-risk asset to invest in. It’s advisable to do plenty of research if you’re interested in this new and largely untested investment asset before risking your hard-earned cash.
How do I know what to invest in?
There are a couple of factors that come in to play when considering how you want to invest your money. Essentially, you need to know what you want to achieve. Do you want a secure place to put your money and leave it to grow over time, or are you willing to accept a higher risk for a higher return? If you’re still young, you may be willing to accept more risk as you may not need to rely on that money in the next few years. If you have a large family to support, or are expecting to retire soon, you might want a more secure place for your money to grow with less chance of losses.
Different investment types carry different risks and returns, so knowing your willingness to accept risk will help you decide on what to invest in.
It’s good practice to do your research and be clear on your financial goals before making an investment.
What are the risks of investing? What is my risk profile?
The risk associated with any investment is that there is the potential for you to lose some or all of the money you invest, or that the investment doesn’t perform as expected. There are many different types of risks with an investment. Some of the financial risks are:
- Equity risk – the risk that your investment decreases in value. For example, a share price drops, or the value of an investment property goes down.
- Interest rate risk – the risk that changes in interest rates may change the value of your investment.
- Currency risk – if you have investments overseas, there is a risk that exchange rates can devalue your investment in local currency terms.
- Liquidity risk –is the risk that you won’t be able to sell your investment when you want or need to. The more ‘liquid’ an asset is, the easier it is to sell. A highly traded stock is very liquid, while a house during an economic downturn is not as liquid.
- Concentration risk – this risk of loss is caused by investing all your money into one asset or one type of asset – a house, a specific stock or type of stock, or a commodity.
- Inflation risk – also referred to as purchasing power risk, is the risk that over time inflation will undermine the value of an investment and it’s returns.
These are some of the most common risks but do your own research on the investment type you have in mind as there may be other specific risks associated with that type of investment or your own personal situation.
Risk management through diversification
One way that you can reduce the risk of your portfolio is to diversify. As they say, ‘don’t put all your eggs in one basket’. By investing in a range of assets (instead of just one), you spread the risk of your portfolio. By having a diversified portfolio, if one asset isn’t performing well then another potentially is, reducing your risk of losses or diminished returns.
What role does superannuation play in my investment portfolio?
Superannuation, often known simply as super, is tax-effective retirement savings and plays a significant role in many people’s investment portfolios. In Australia, employers are obligated to set aside a specific percentage of your salary into a superannuation account, this is known as the Superannuation Guarantee. This money is then invested on your behalf by your superannuation company. You can also add money to this account yourself, and to encourage you to do so there are tax concessions available on the money that you invest here (up to certain limits) and on the money you earn from this investment. As this money is retirement savings though, you can’t access this money until certain conditions have been met, such as reaching a specific age and/or retiring from the workforce.
Super is an investment overlooked by many people, however as with your other investments you have a certain amount of choice about how it’s invested. You can choose which super provider you wish to use, select from their range of investment options, and you can choose to align your super investments with your risk and return profile. Remember to compare the fees of different providers too as this can have a long-term impact on your savings.
Who can help me?
There is a wealth of information available online however, if you’re researching this way, ensure you’re using reputable sites and consider cross referencing the information to ensure it aligns and is consistent.
If you’re getting serious about investing and building wealth, consider talking to a professional Financial Advisor. Their knowledge and industry expertise may be helpful in putting together a portfolio of investments best suited to your risk and return profile and the financial goals you’re looking to achieve. In many cases they can also help with personal insurances and estate planning to help protect your family’s long-term financial future too.
Afterall, that’s the reason you’re investing. To create a better financial future for you and your loved ones.
This information is general in nature and has been prepared without taking your objectives, needs and overall financial situation into account. For this reason, you should consider the appropriateness for the information to your own circumstances and, if necessary, seek appropriate professional advice. © Westpac Banking Corporation ABN 33 007 457 141 AFSL and Australian credit licence 233714.