Buying Shares

So you've managed to save a little extra money.  You know that to make it grow you'll need to consider some other investment options beyond term deposits and online savings accounts.  You've heard that buying shares is one of the investment options you should consider - but what's the next step?  Read on to find out.

How Do You Make Money From Shares?

Before we start investing in shares we should know a little bit about what we're doing and why.  Growing our investment may be the goal but how does that happen?

There are two main ways of making money from shares - capital gains and dividends.

A capital gain is the profit we make when the price of our share investment goes up.  As a company's profits grow, so too does the share price.  At some point in the future we hope to sell our shares for more than we paid for them.

Dividends are the other way we make money from shares.  They're the regular income we receive as owners of shares.  They're kind of like the interest we earn on a bank account.  However, it's important to note that not all companies pay dividends.  Companies which are growing quickly may need to retain all of their profits to fund that growth.  Smaller speculative stocks (particularly resources companies in the exploration stage) may not yet have any profits and therefore can't pay out any dividends.

How To Get Started Buying Shares

There are a number of options when it comes to investing in the stock market.  The method you choose will depend on your level of experience and the amount of time you're willing to put in among other things.  Your main options are as follows:

  • Buying shares directly
  • Buying a managed fund
  • Buying an Exchange Traded Fund

Buying Shares Directly

If you want be able to pick and choose the individual companies in which you invest, then direct share ownership might be for you.  You would normally buy shares through a stockbroker or perhaps through an initial public offering or 'float'.

When buying shares through a stock broker you again have options.  You may choose to buy through a discount broker or online broker where you do all of your own research and decide what to buy, when and for how much.  The brokerage (the fee you pay to a stockbroker to buy shares on your behalf) is normally less but you do not get any personal advice.

The other option is what is known as a full service broker.  This is normally a deeper relationship.  The stockbroker will (or should) know your individual financial circumstances, your investment goals and your tolerance for risk.  Your broker would then suggest individual companies whose shares you might want to consider investing in.  It's important to note that you are still in control - the final decision of whether to make any particular purchase is still yours to make.  Brokerage rates for full service brokers are normally higher than discount brokers.

Sometimes you might choose to bypass the stockbroker and buy directly from the company in an Initial Public Offering.  This normally happens when a company first lists on the Australian Stock Exchange.  The company offers investors the opportunity to buy shares directly.  If this is something you're interested in pursuing, make sure you do your homework.  Many new companies have short operating histories and should be considered speculative.  When making the share offer, the company is required to publish a document called a prospectus.  Make sure you read this document and seek professional advice before investing.

Managed Funds

If you're not yet ready to invest in the stock market directly another option to consider is a managed fund.  A managed fund is a professionally managed investment vehicle.  When you buy a unit in a managed fund, your money is pooled together with many other investors.

The managers of the fund make all of the decisions about what shares to buy and sell.  In fact many managed funds may invest in asset outside of the sharemarket.  They may invest in cash, bonds or other fixed interest investments or real-estate as well as Australian and international shares.

You will pay a higher fee for a managed fund.  But for the extra cost you will receive the services of professional investment managers who will do all of the research for you.  An added bonus (particularly if you only have a small amount to invest) is that you normally receive a reasonable level of diversification with just one investment.

Exchange Traded Funds (or ETFs)

If you're looking for broad exposure to the Australian stock market (or indeed many international markets) then an exchange traded fund or ETF might be the way to go.  You can buy or sell ETFs through your stockbroker just like shares.  Most ETFs are index funds, meaning the underlying investment tracks the performance of a particular share market index (like the ASX100 for example).

Management fees for Exchange Traded Funds are normally considerably lower than for managed funds.  But advocates for managed funds would ague that you're paying the extra fees the manager for trying to beat an index rather that just matching it as is the case with an ETF.

Next Steps

Hopefully this brief introduction has provided some useful background information to the world of stock market investing.  I would suggest researching each of the topics mentioned above in more depth.  Seek professional advice but always remember that the final decision is yours.  Buying shares can be very rewarding but make sure you do your homework first.


Jacob A. Irwin said...

Thanks for submitting this article for inclusion in this month's Carnival of Passive Investing!

In my experience, I have found that professional broker advice isn't worth too much. Discount brokerages where you can self-direct your invests is what I prefer.