Investing in shares
Reviewed on 2 September 2015
Companies issue shares to raise money to invest in their businesses. When you buy shares you effectively become a part-owner of that company and share in its fortunes.
Most large companies that issue shares list them on a recognised stock market such as the London Stock Exchange. This makes it easier for people to trade as it brings together potential buyers and sellers. Small companies may not trade on a stock market and this makes it harder to buy and sell their shares.
When shares are initially issued they have a set price. But once they start trading, the price is determined by supply and demand so the price can go up and down.
Shares are also called equities.
Investing in shares has traditionally produced better returns over the medium and long-term than safer investments such as savings account. But it's a higher-risk strategy as you could lose some or indeed all of your initial investment if the shares don't do well.
Returns from shares come in two forms.
- Dividends. Most large companies share their profits with shareholders by paying dividends. These are typically paid twice a year and the amount is based on how profitable the company has been. Smaller companies may only pay small dividends if any at all, instead preferring to reinvest profits back into the business.
- Capital gain. If the shares do well and increase in value, then you may be able to sell them at a profit.
Companies can issue more than one type of share.
- Ordinary shares. These are the most common and give owners the right to share in the profits of the company (dividends) and to vote at general company meetings.
- Preference shares. These usually pay a fixed dividend before ordinary shareholders receive any dividend. If a company goes bust, preference shareholders are the first to receive any money from the company ahead of any other shareholders but behind other creditors, such as banks and bondholders. The shares usually have no voting rights and, as they are the first in line for any pay-outs, dividends are generally lower than for ordinary shares.
- Cumulative preference shares. Any unpaid dividends for these preference shares are carried over and must be paid when the company can afford it and before other shareholders get anything.
- Redeemable preference shares. These are issued on the basis that the company can buy back the shares at a later date which may or may not be fixed.
- You can buy and sell shares through a stockbroker. Dealing costs depend on the type of service you want.
- Execution-only service. The stockbroker buys or sells shares for you but offers no advice. This is the cheapest service and can be as little as £5 a deal if you trade regularly otherwise expect to pay from around £12 each time you buy or sell shares. Increasingly, share dealing services are online and you may be charged either, or a combination of, a regular fee (annually or quarterly) and dealing charges.
- Advisory service. The stockbroker offers advice but you decide which shares to buy and sell.
- Discretionary service. The stockbroker makes all the decisions for you and trades on your behalf. There is usually a regular fee for this service based on the size of your portfolio and you will have to have a minimum amount to invest which could be £50,000 or more such as £150,000.
- You normally pay dealing charges every time you buy and sell. There is also Stamp Duty (a government tax) of 0.5% on purchases (but not sales) over £1,000. However, since April 2014 there is no Stamp Duty to pay if you buy shares listed on a growth market such as the Alternative Investment Market (AIM).
There are various ways you can invest in shares. You can invest in individual shares or in investment funds which hold a basket of shares.
Individual shares can be put in a stocks and shares ISA to minimise the amount of tax you have to pay on any returns.
Building a portfolio of shares requires money and skill. Many people prefer to invest in a ready-made portfolio of shares such as a unit trust or OEIC or an investment trust.