In the final part of our series on investing and the ingredients that should be included in a balanced portfolio we’re going to look at shares and equities.
Many people are still nervous about the stock market, perhaps because of a series of high-profile crashes over the years.
But while this can be unsettling, there is a large body of evidence to say that given a long enough period of time shares and equities will outperform cash.
One of the reasons why they are included in an investment portfolio is that they are a good hedge against inflation.
We know that the Bank of England’s target is to keep inflation at around 2-3% so if we’re not earning this on our savings in real terms our money is falling in value. Shares might typically deliver a higher return than this.
When it comes to investing in shares and equities, diversification is crucial.
For example, an individual who buys shares in say British Airways is exposed to lots of different risks: The risk of BA going bust, the risk of oil prices rising which increases BA’s costs and therefore reduces their profits, geopolitical risk because BA is based in England, so what happens when we leave the European Union?
You’ve also got sector risk because if the prices of shares across the airline sector fall then BA shares will fall with them.
So, I have exposure to all those risks, but I can reduce this by let’s say buying some BP shares because if oil prices rise, whilst BA shares might go down in value, the BP shares will go up in value.
Therefore, I’ve diluted my risk and I now have exposure to oil as well as airlines.
For most people the best way of investing in shares and equities is to buy into a fund as opposed to purchasing individual shares which can be an expensive and time-consuming process that can quickly become unmanageable.
Most people who run a personal portfolio and think that they can spot the right investment probably own 10 different stocks and they’re probably all UK-based.
When we put a client into a global fund they might have 20,000 holdings.
What I would say to people who are nervous about shares and equities is that we never know where the best returns are going to come from, but we can tell people where the best returns have come from, that’s very easy.
Because of this, the only sensible approach to investing in shares and equities is to hold a bit everything.
If you’ve read the previous columns in this series where we’ve talked about cash, bonds and property then you’ll know that shares are now just making up part of our portfolio – a portion depending on your personal risk profile. The more adventurous you are the higher the proportion of shares and equities will be.
The ideal portfolio should have a blend of all the things we’ve talked about over recent weeks and the only thing that changes from one person to another is the weighting towards each ingredient depending on their risk profile, time horizon, tax situation and capacity for loss.
INVESTMENTS – THE VALUE OF UNITS CAN FALL AS WELL AS RISE, AND YOU MAY NOT GET BACK ALL YOUR ORIGINAL INVESTMENT
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