To a beginner, the stock market can appear a rather daunting experience. But in reality, with dismal returns on offer from banks and building societies, investing in shares provides an opportunity to achieve greater returns.
In the UK, the main stock market is the London Stock Exchange, where public limited companies and other financial instruments such as government bonds and derivatives can be bought and sold.
The stock market is split into different indices - the most famous in the UK being the FTSE 100, comprised of the largest 100 companies. The most well-known indices come from the Footsie group - the FTSE 100, the FTSE 250, the FTSE Fledgling and the alternative investment market (AIM), which lists small and venture capital-backed companies.
Unlike cash, the stock market is not a risk-free investment; it has its ups and downs. For more information, read our article What is the stock market?
In the 20 years between December 1996 and December 2016, you would have enjoyed returns of 65.3%.
The ten years between December 2006 and 2016, meanwhile, would have seen returns of 13.6%, and the five years between December 2011 and December 2016 would see you repeating returns of 26.9%
There are two ways to access the stock market: directly, and indirectly. Although 'directly' is a misnomer - investing in the stock market is always done through a third-party broker - direct investment means buying the shares in a single company, and becoming a shareholder.
There is a wide range of broker services available. Some offer bespoke services and tailored advice, such as Charles Stanley, Redmayne Bentley and Killik & Co, whereas others are nothing more than execution-only share dealing services.
These are online platforms through which a client can buy and sell shares independently through a share dealing account, without being offered advice.
Examples of these include Interactive Investor, Hargreaves Lansdown or The Share Centre. Read Moneywise's guide to the best investment platforms for beginners.
"For beginners who want to be more involved and dabble with individual shares, it makes sense to open an online, execution-only share dealing account which keeps the cost of investing to a minimum," says Martin Bamford, managing director of Surrey-based IFA Informed Choice.
Reading the financial press can be useful in terms of choosing which shares to buy, Mr Bamford adds. "There are also plenty of internet forums where share tips can be found. Don't part with your money to receive share tips, as there is plenty of useful information in the public domain free of charge.
"Stick to companies you find interesting and spend the time researching a company before you invest."
Moneywise's sister website Money Observer is a good place to start, as it lists the full performance, along with yield and price/earnings ratio, of shares listed on the major FTSE indices each month; as well as performance for funds, trusts and exchange traded funds - more on those later.
An indirect approach through investing in pooled investment funds is a more common way of accessing shares, as it spreads risk by investing in a number of companies.
"Beginners are best suited to using collective investment funds to access the stock market," says Mr Bamford. "This enables them to use the collective buying power of a fund to reduce charges on a small starting portfolio. They also get access to a professional fund manager to buy and sell individual stocks, rather than having to make these decisions on their own."
This can be done via an open-ended fund, such as an open-ended investment company (OEIC) or unit trust, which is made up of shares typically from between 50 and 100 companies, and can be sector, country or theme specific.
Money in these funds is ring-fenced away from the fund provider, so if the firm defaults, the money is still safe.
An investment trust is another pooled investment, but it is structured in the same way as a limited company. Investors buy shares in the closed-end company, and it is listed on an index in the same way as a company such as Tesco or RBS. Trusts are less numerous than funds, but often cheaper.
Many investment funds and the majority of trusts are actively managed products, run by a fund manager who handpicks stocks and has some direction over the performance of the fund. In contrast, some funds invest passively, which means they just try to replicate the performance of a major stock market index. These are called tracker funds.
An exchange traded fund (ETF) is another type of passive product. ETFs are vehicles that simply track an index such as the FTSE 250. As index-linked products, they can access almost every area of the market.
ETFs are far cheaper than funds or trusts, as there is no active manager to pay for. However, as they simply track an index, if the index falls spectacularly, so will your investment.
All the investment vehicles described above can be accessed through a broker or fund platform, directly through the asset manager or through a tax efficient wrapper such as a stocks and shares individual savings account (Isa).
As for more complicated investments, Mr Bamford has some words of advice for beginners: "Leave spreadbetting and day trading to the professionals, as these can be high-risk ways of investing money."
He adds: "When you are getting started, it makes real sense to buy blue-chip company shares on the London Stock Exchange and hold them for several months. Regular trading will kill profits quickly, with the cost of buying and selling shares exceeding the returns you can make from a small starting stake."
A fund-of-funds or a multi-manager fund, which is a single fund investing in a range of others, can be a good starting point for novices as it demands little involvement from the investor.
"It's proactively managed and investors can choose a risk profile which suits them, so they are secure in the knowledge that the investments are in line with their expectations," says Peter Chadborn, founder of Colchester-based IFA Plan Money.
However, these types of funds are more expensive than investment trusts and funds.
What to be aware of
There are several things that investors should be aware of before committing any money to the stock market.
"As a starting point, you need to decide what you want to achieve, how long you are planning to invest for and how much risk you are prepared to take," says Patrick Connolly, certified financial planner at AWD Chase de Vere, "as this will help you decide which investments are appropriate".
Tales of other people's huge gains can be tempting, but the market won't always go in your favour and you must be prepared to see your investment drop as well as fall. "You must understand your tolerance to risk rather than appetite for reward. Risk and reward go hand-in-hand, and any investor must consider the potential downsides before investing," says Mr Chadborn.
"Secondly, investors must understand the structure of the investment: look at the fund factsheet rather than the glossy marketing material," he comments. "The factsheet will tell it warts and all, rather than what the company wants you to see."
The costs involved in buying funds, trusts, shares or ETFs can vary massively, and higher fees can easily eat away at future returns. To ensure value for money, Mr Chadborn highlights the importance of comparing charges on different products. "By buying directly from a fund supermarket, you'll benefit from reduced initial charges on funds, as compared to a big retail outlet like a bank."
That said, fund supermarkets, also called investment platforms, don't offer advice, so for a novice investor, it may be better to seek some professional, independent advice from a financial adviser before making any investment decisions.
Without the help of a crystal ball, timing the market is impossible. Instead, look to invest regular premiums on a monthly basis rather than a depositing a lump sum into a fund. By drip-feeding money in, it's possible to negate the risk of market timing - if the market falls, the regular premium will simply buy shares at a cheaper price the following month.
"Don't get swayed by investments just because they are at the top of the performance tables," warns Mr Connolly. "Strong recent performance should be seen as a warning sign, as the investment gains have already been made, rather than as an opportunity to buy." For more on this read The emotional diary of the (not so) smart investor.
The final key point is that investments should be held for at least five years to smooth out any bumps in the market, but that doesn't mean once they're bought they can be left unchecked.
Mr Connolly concurs: "Review investments every six months to ensure they are performing in line with expectations. If they aren't, try and understand why and then look to make changes if appropriate."
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This article first appeared on our sister website, Money Observer.
Moneywise doesn't recommend a beginner investing in stocks & shares, but do take a look at our guide for beginners who would like to invest:
Also take a look at our guide on how to invest in shares to better understand the risks:
The Moneywise Team
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