With interest rates set to remain low, investing in the stock market can be an attractive option – but it’s vital to plan ahead and draw up an investment thesis.
Your investment thesis should reflect both what you are hoping to achieve, and your appetite for risk. From there you can go on to define the type of stocks or funds you want to buy, and how you manage them once they are in your portfolio.
Remember, stock prices go down as well as up, and in extreme cases you could lose everything – those disclaimers on financial advertising are there for a reason.
However, one of the aims of drawing up a thesis is to minimise those risks and have a clear action plan as to how you will react if your new ‘buy’ starts heading south.
Risk appetite is fundamental to investing in the stock market. Are you risk averse, just seeking to make a modest but steady return on a ‘safe’ stock or fund, in the absence of good savings rates at banks and building societies?
Or are you perhaps more of an adventurer, prepared to risk a loss in pursuit of double-digit returns?
Or you might prefer a middle course, putting a small amount of your investment pot into higher risk investments, but hedging that risk by putting your remaining cash in those steady earners.
Stocks or funds?
Once you’ve established your risk appetite, the next decision is whether you want to invest in stocks or funds.
Buying an individual stock – perhaps a glamorous high-flying tech company – can seem an attractive idea, particularly if it’s already on the rise. But it goes without saying that putting all your eggs into one basket is a highly dangerous proposition, even for someone who is not risk averse.
To reduce the risk and achieve a balanced portfolio you should be looking to hold at least 10-15 stocks, and you should aim to carry out some in-depth research into the underlying strengths and weaknesses of those companies. You also need to make time to review your holdings on a regular basis.
On the plus side, thanks to the internet it’s much easier to invest in stocks yourself. Gone are the days of paying expensive stockbroking fees – now all you have to do is log on to your online account and choose the stocks you want to buy.
There will be a small transaction charge, but it’s tiny compared with the fees of yesteryear – just make sure you shop around for the best deal.
Investing in a fund that holds a basket of stocks on behalf of a big pool of investors is a much safer proposition. The fund manager and his or her team will have carried out in-depth research on the fundamentals of the companies they are buying and the markets in which they operate.
They will examine the companies’ financial health, the strength of the management team, their product pipeline, their dependence on certain customers or suppliers and other criteria.