Types of Investment

IMPORTANT FACTS- Asset classes – these are type of investments that you can make.

IMPORTANT FACTS- Shares/Stocks/Equity –

VIDEO- Watch this video that clearly explains shares using a stick. You only need to watch until 5 mins 25 secs.

  • Shares represent part ownership in a company and those that own shares are called shareholders.
  • The more shares owned the greater the proportion of the company owned, and therefore the higher the dividends or capital value.
  • Shares, stocks or equity mean the same although ‘stocks’ is only used in the context of the stock market, for example the New York Stock Exchange, the biggest in the world.
  • Publicly owned companies listed on the exchange are traded between investors and companies raise new money (capital) from investors through the medium of the stock market.  

There are two ways to make money from shares:

Dividends 

  • Annual or semi-annual payments paid to shareholders depending upon how many shares they own.
  • The amount is usually dependent on company profit. The higher the profit, the higher the dividend payment. 
  • Growing companies usually pay no or low dividends because they see good opportunities to retain profit to re-invest and grow. If these investments are successful the share price of the company will rise.

Changes in capital value 

  • You can buy and sell shares in companies and make (or lose!) money depending on what happens to the share price while you own it.
  • Share prices rise when more investors want to buy than sell, and fall when there are more sellers than buyers.
  • Share prices depend on what investors think of a company’s current and future prospects.  

REAL LIFE EXAMPLE:  BP’s share price fell by more than 50% after the 2010 oil spill, as people knew they would have to spend a lot of money cleaning it up and compensating those who were affected. 

REAL LIFE EXAMPLE:  Share prices of publicly listed companies (i.e. those companies whose shares are for sale on stock exchanges) are widely available – those are the figures you see printed in the financial sections of newspapers. There are also indices of share prices such as the FTSE 100 Share Index – this is an index of the share price of the 100 biggest companies listed on the London Stock Exchange and is often used to give a measure of how the stock market is doing overall. See this Wikipedia article on Stock Markets for more details

IMPORTANT FACTS- Bonds

A bond is an investment with a capital value, a term and an income stream. Bonds are issued by organisations: you lend them money and in return you get a regular interest until the loan is repaid. Public bonds are traded between banks and other financial institutions and prices are published in the financial pages.

The most common type of bonds are:

  • Government bonds – you lend money to a government e.g. UK Gilts, US Treasuries
  • Corporate bonds – you lend money to a company

VIDEOS- These two videos explain how bonds work and the difference between Gilts and corporate bonds.

There are many variations in bond terms but the most common are:

  • Fixed interest – the coupon payment you receive is fixed for the period of the bond.
  • Index linked – the rate of interest varies depending on an index, usually an inflation index. In the UK index-linked bond interest is related to the RPI
  • The term of the bond can vary from a few months through 5 years, 10 years or even 25 years or perpetual. 
  • Different companies and governments have different credit ratings. These are produced by ratings agencies such as Standard & Poor’s and Moodys

REAL LIFE EXAMPLE: Recently the credit rating of some governments’ debts such as Greece and Portugal has been downgraded. This means the market believes these governments are finding it difficult to generate the cash needed to pay existing bonds after paying for public services. These countries have responded by cutting these services, as part of what are known as ‘austerity measures’. Greece and Portugal do not have the option of simply creating more money (and likely future inflation) to pay their debts, as the bonds they have issued are denominated in euro. See this Wikipedia article for more details.

Property

VIDEO– Another good clip from Pete Matthews on property. 

  • Investing in property can give you both income (rent from a tenant) as well as capital growth (when selling it for a profit in the future).
  • You can either buy your own buy-to-let property or invest in a property fund. 

Remember the costs of property ownership is much higher than that of equities or bonds – you will need to maintain the house for it to retain all of its value and that could represent 5 % of its capital value per year. Bonds and equities are held on your behalf by a bank or a custodian for a costs that can be from a few basis points to 1 % pa.

Cash

  • Cash deposits – bank and building-society accounts – are a good place for money needed for the short term (under five years) and for an emergency fund.

Collectibles

  • A collectible is any physical asset that appreciates in value over time because it is rare or it is desired by many – this includes fine art and antiques. 

Collectibles will need to be stored and insured and this needs to be taken into account if they are just held as investments.

Gold & other precious metals 

  • Gold, silver, platinum and other metals are valuable both for their use in jewellery and in industrial processes
  • Usually gold or silver is bought by private investors through the stock exchange by buying an exchange traded fund (ETF). The price of the ETF will reflect the underlying price of the precious metal less fees for storage and administration. Of course if gold is bought this way the investor has a credit risk with the institution that issues the ETF.  
Investment Advantages Disadvantages 
Shares/stocks/equity– Can vote on major issues- Part own a company – No limit to money you can make- More likely to make a return over time than bonds and cash– Can be risky- Can lose money over short periods 
Gilts (government bond) -Less risky than shares-Credit risk is that of the government- they should be able to create more pounds to pay interest and capital– Lower rate of interest than corporate bonds 
Corporate bond– Less risky than shares- If the company goes bust, it is obliged to pay back bondholders– High yield bonds are in risky companies with lowcredit ratings-Inflation impacts bond prices-Capital value diminishes in real terms- Bonds need to yield more if in currencies proneto inflation
Property– High demand for rental properties- Rising property prices– Not guaranteed a return on your investment-Property prices can go down- You may not always have tenants
Cash– Considered to be a safe investment-FSCS covers risk up to £85,000 per person per firm- Less volatile than other investments-Good for emergency funds– Returns not particularly attractive over long term- Effect of inflation on your money means thatthe money you save will buy less each year. – You need after-tax interest rate that is more than the rate of inflation, but accounts offering these rates may not be available
Collectibles– Most collectibles increase in value along with inflation- Experts can make a lot of money- Items can value quickly depending on demand -Take very long time to increase in value- No assurances to future value- Offer no income- Maturity for a collectible can widely vary e.g. fad collectibles such as Beanie Babies or Pokémon cards can reach their peak price very quickly whereas antiques could take several decades- Hard to sell at desirable price- Aren’t ideal if you need money quickly 
Gold & other precious metals– Viewed as a safe way to store value in time of war(it’s easy to pick up and flee with if you need to) & economic uncertainty.-Usually increases its value alongside inflation.- Currently in high demand particularly with global tensions– Very dependent upon economic uncertaintyin terms of inflation or risk.- Supply of gold can exceed demand in industrial andcommercial settings