Your coffee break investment plan - Day 1: What is investing?
When we talk about investing, some bring up an ‘investment’ purchase such as an expensive handbag or a watch. They think that a luxury item that is beautiful, well made and useful could turn into a nest egg in years to come.
Others think about their savings in the bank. It feels good to stash away hard-earned money in the bank and seems like the ‘sensible’ thing to do. It’s what our parents did and encouraged us to do when we were children. The trip to open our first bank account and the free piggy bank that we received are significant and happy childhood memories.
Unfortunately, if we put all our spare money into luxury items and savings accounts, we’re not investing at all in the true sense of the word.
Watches and handbags will be difficult to sell when times are bad. They may get damaged and they could be stolen. There’s no harm in investing in the pleasure of owning something beautiful but it won’t pay you an income.
Savings are completely different. We feel that the money in the bank is ours to do with as we wish. We have ownership of that money and it is safe. We know that we can get our hands on the money. But we shouldn’t expect to become rich through our savings.
The most we can expect is for the money to hold its value, or grow a tiny bit more, over the years. Interest rates on savings are at historically low levels so you’re unlikely to grow your savings by more than inflation, even if you make sure your savings are always in the top-paying accounts. The longer you stay in cash, the more your nest egg may shrink, relative to what it can buy you.
Investing is all about making your money work hard for you. It’s about the pursuit of financial freedom. It’s about planning a comfortable retirement and helping our families.
Many experts say a real investment is one that has the potential to grow in value over time, but will pay you an income while you wait for it to grow.
So a real investment is not the Hermes Birkin, the world’s most coveted handbag, which can cost up to £150,000 new. Neither is it gold, which is a store of value in troubled times but doesn’t pay an income.
These investments have the potential to grow significantly in value but they also involve the risk of losing some or all of your money. A company can go out of favour or even go bust and a property might fall in value or suffer subsidence.
However, if you invest over the long term – more than five years – in a range of different types of investments, not just one, then history shows that things are likely to work out well.
For the purposes of this guide, we are looking at investing in the stock market through shares and investment funds. Everyone who has a long-term financial goal should be putting money into the stock market. It’s not a shady world that you have to be super rich to join. It’s easy to buy and sell funds and shares online, whether you have £50 or £50,000.
The term is interchangeable with stock exchange, and is a market that deals in securities where market forces determine the price of securities traded. Stockmarket can refer to a specific exchange in a specific country (such as the London Stock Exchange) or the combined global stockmarkets as a single entity. The first stockmarket was established in Amsterdam in 1602 and the first British stock exchange was founded in 1698.
An increase in the general level of prices that persists over a period of time. The inflation rate is a measure of the average change over a period, usually 12 months. If inflation is up 4%, this means the price of products and services is 4% higher than a year earlier, requiring we spend and extra 4% to buy the same things we bought 12 months ago and that any savings and investments must generate 4% (after any taxes) to keep pace with inflation. Since 2003, the Bank of England has used the consumer prices index (CPI) as its official measure of inflation (see also retail prices index).
The catch-all term applied to investors who buy properties with the sole intention of letting them to tenants rather than living in them themselves, with the proceeds from the let usually used for the repayment of the mortgage. Buy-to-let investors have to take out specialised mortgages that carry higher interest rates and require a much bigger deposit than a standard mortgage. Other expenditure can include legal fees, income tax (on the rental profits you make), capital gains tax (if you sell the property) and “void” periods when the property is unlet.