How to Invest
By Charlie McMillan Summons and Anton Mifsud
Investing is a luxury activity which entails the risk of loss of capital. So before beginning your journey to invest, it is wise to critically consider your investing goals and your personal circumstances.
Before investing, it is important we remember and understand that investing is about compounding your money over time. To invest and “survive” financially means:
- to always have money in a savings account to pay for the costs of living, and
- having an emergency fund in cash to fall back on.
Liquidating your investments to pay for groceries or rent means you are not benefiting from the powers of compounding. It is also pointless to have some money to invest if you do not have a plan. The aim of investing is making rational choices. Having a predetermined investment plan which accounts for your investing timeline and your appetite for risk guards against knee-jerk action in periods of high uncertainty or volatility.
In this article, we hope to give some tips on how to begin investing including opening a brokerage account, researching shares, introducing some tools and information sources to help guide investing decisions, and finally explaining how orders execute. While we focus on stocks, this article will be relevant for other types of exchange traded investments.
Opening a brokerage account:
Once you have enough saved to invest, it’s time to open a brokerage account. A brokerage account is the platform through which you buy shares and other exchange traded products. There are four main factors which will influence your choice:
In general, brokers charge a fee every time you buy or sell shares. All things being equal, you want to pay fewer fees when investing as this ensures more of your money is compounding.
However not all things are equal. Some brokers, like SelfWealth, offer a low brokerage fee but only let you buy shares listed in Australia. The brokerage services attached to the big banks in Australia as well as BellDirect offer international shares, although this comes with a higher fee than buying Australian listed investments.
Brokers also offer research tools and financial information to varying degrees of detail. Some people might opt for a passive approach to investing where they don’t need many bells and whistles beyond cheap brokerage. But for those who will regularly trade or research purchases a better service can be worth it.
For most brokers, you will receive a Holder Identification Number (HIN) when you sign up. This involves you being in the ASX’s share registry- which is called CHESS. Shares that you buy on the ASX attach to your HIN and therefore you own them directly. A less common brokerage model is the custodian model. Under this model, brokers own the shares on your behalf. This creates additional risk if your broker becomes bankrupt whereas CHESS sponsorship means your holdings are squarely yours.
How to Research Purchases:
Arguably, the most important step in becoming an investor – irrespective of the amount of money about to be invested – is the researching stage. Most trading platforms have sufficient tools for research baked into the platform. The simplest way to research is by using charts.
While it is important to track the general trend in a particular stock of interest, it is also highly important that the stock be measured in terms of an index. A stock market index is a portfolio of either a segment of a market or of the whole market. Investors follow these indexes to see how the overall market is trending and to have a benchmark against which they can compare their own performance.
In Australia, it is common to use the ASX 200 (ASX:XJO) – an index of Australia’s largest 200 companies by market value – as a proxy for a stock of interest. It is worth noting, that not all indexes are constituted equally, and this should be taken into consideration. For example, in contrast to the ASX 200, the ASX 50 ranks the largest 50 companies. Both these indexes are weighted by market capitalisation. An alternative to this is the MVIS Australian Equal Weight Index. .
Sometimes, it is useful and more appropriate, to select a more specific index. For example, you could index against the S&P/ASX 200 Financial, S&P/ASX 300 Metals and Mining and so forth. In using sector-specific indexes allows investors to see how stocks perform relative to their counterparts in the industry. Another benefit to sector-specific indexes is that different sectors are affected differently by general economic trends.
To view the most common Australian indexes, the ASX website lists and charts them here.
Awareness of economic conditions
Depending on your investment horizon, this factor is important. Economic conditions, and even expectations of future conditions, play a crucial role in investing. The market is at its essence forward looking. It is important that you research key macroeconomic indicators and factor in their impact on your decisions. For concise economic indicators, the Reserve Bank of Australia (RBA) provides a regularly updated visual snapshot here.
For more in depth reading, the RBA publishes a Statement on Monetary Policy four times per year. Another great resource for getting a feel for the economy, is Trading Economics, which provides a plethora of statistics.
Charting is an invaluable tool for investors because it conveys statistics and data in a visual medium, providing quick insight into trends. Trading platforms often have their own software that allows investors to create charts. But, equally, the ASX website provides free-to-use charting tools. The RBA provides its own Chart Pack, which can also be useful in developing awareness of macroeconomic conditions.
The above tools are holistic approaches. If you are investing in specific companies, it is also critical to examine the individual companies themselves. Some strategies for that include:
- Analysing a company’s Annual Report.
- Fundamentals: Fundamentals quantitatively value the company which can be a great way to compare companies. Note, that it is important to know how the ratios are calculated and that they are dependent on what is reported and classified in the balance sheet.
- Announcements: Announcements are a good way to gauge where the company is at in between quarterly filings.
While the above has focused on researching stocks, other investment alternatives exist such as currencies (which are generally speculative investments), commodities like gold and oil (which are often good safe havens or hedges against inflation) or ETFs (usually a very large basket of stocks available in one product).
After deciding what you want to invest in through research and having opened a brokerage account you can begin investing. A brokerage account allows you to purchase, inter alia, equities, bonds, and REITS. So how do you actually do that? First of all you will need to transfer money into your brokerage account from your bank account. If you wanted to buy $2,000 worth of, for example, NAB shares (ASX:NAB), you would need to transfer the $2,000.
Once you have this money and you know what you want to invest in, you place an order. Let’s continue using NAB shares as an example. Let’s say that the current bid price is $15.34 and the current offer price is $15.35. The bid price represents what buyers are willing to pay for NAB shares. The offer price is the price at which sellers are currently willing to sell at. At any one time during market hours you can imagine the orders for a particular stock to be like the diagram below.
There are a plethora of order types. However, the basic kinds are market and limit orders. Market orders buy or sell at the best available price whatever that might be at the time. Limit orders allow the buyer to place an upper limit at which they wish to purchase shares. The order will execute if there are sellers below that price. In contrast, sellers place a minimum sell price. Orders placed outside of market hours will be open to be filled as soon as the market next begins trading.
Continuing the NAB example, if I submitted a market order of $2,000 with the aforementioned bid and offer prices. Once the trade executes, the broker takes their fee. If I were using BellDirect as a broker, that would be $15. So the remaining $1,985 will be used to purchase NAB shares at the offer price of $15.35. That will give me 129 shares with $4.85 left over.
Your holdings are also managed by a share registry. Which registry depends on which company’s shares you buy. Dividend payment or reinvestment and investor relations occurs through these registries.
Investing is a skill which takes time and practise to develop. The above are some tips and guidance in directing you to become a sound investor. However, markets are not perfect and can be unpredictable and react to circumstances in unusual ways. Thus, the most effective way to become a sound investor is to immerse yourself in the world of investing.
In our final edition of our ‘Intro to Investing’ series, we’ll go over portfolio allocation. This will be a culmination of all the knowledge we’ve gained so far, and we hope you look forward to it.
Other Related UNIT Articles:
Take a look at other articles in our series:
- ‘What is Investing’
- ‘Introduction to Stocks’
- ‘Introduction to Bonds’
- ‘Introduction to Property’
- ‘Introduction to Portfolio Allocation’
Disclaimer: The views expressed in this article are solely that of the author’s, and do not necessarily reflect the position of UNIT nor the University of Melbourne. The advice given is general in nature and does not consider an individual’s personal financial circumstance. Transacting off this information is done so at one’s own risk, and individuals are encouraged to consult a finance professional before making investment decisions based off of this article.