Spreading your money among different types of investments is generally accepted as a good way to reduce risk and build a strong portfolio. But what should you do when starting out with a small amount?
Before beginning, it’s important to recognise that there is always a risk that the shares you buy won’t increase in value or provide a return through dividends. Past performance is also no guarantee of future performance. For many people that’s why the concept of spreading risk by having more than one investment is appealing.
So what can you do if you don’t feel like you have enough for many different assets at the outset?
- Choosing investments to suit you
- Discover your investing options
- Share investing for absolute beginners
Before you start investing
Regardless of how much you are beginning with and your individual reasons for deciding to invest, there are some good general principles to follow.
The first is to work out what you are trying to achieve and the timeframe you are investing over.
While a general rule is that higher potential returns involve a higher risk, some investments might be riskier than you appreciate without seeming to offer returns much higher than others. This is why it is important to not just look at risks but also be sure you understand what it is you are investing in and consider such things as whether you will be able to access your money quickly if you need to.
It’s important to make sure your investment suits both your budget and long-term wealth goals and that you are ultimately comfortable with the level of risk you are taking on.
Looking long term
Ultimately a diversified investment portfolio will most likely have elements from a number of different asset types, such as property, cash and fixed interest, as well as shares. This sort of diversification can help mitigate risk.
While that sort of asset mix might be a slightly longer term goal if you are beginning with $10,000 or less, knowing what approach you are comfortable taking will help inform your investment choice.
For instance, you may decide to begin investing either in the share market or by using a fund, but determine that you want to implement a savings plan to help you increase the amount available to invest over time.
What are the options?
There are a number of different vehicles you can use to invest and try to either grow your money or protect it.
The kind of investments that will be suitable will depend, as above, on considerations such as your time frame and goals.
While investing directly in the shares of a large listed company is a common way in Australia for investors to try and generate a return, it is by no means the only option. Particularly if you are starting out with a smaller amount of capital, it can be a good idea to know what other options are available.
This might mean looking at ways to diversify using a fund such as a managed fund or an exchange traded fund (ETF) which can be a way of achieving a broad spread with a small amount, or you can start to build a portfolio of different shares if that’s what you are interested in.
Funds such as ETFs and managed funds operate by pooling together the money of multiple investors to give you a stake in a portfolio of assets.
In other words your exposure will typically be much broader and in the case of ETFs will mimic the performance of a market index.
As with any investment though, it’s important you fully understand the benefits and risks before making any decisions.
Thinking about costs
Costs are another consideration, particulary when starting out with a small amount.
There are a number of reasons you may not want to buy into lots of stocks with only a small starting amount, for example.
The first is that for every transaction you make, you will generally incur a brokerage fee, whether you buy or sell. This can reduce the return you make on your investment.
Capital gains tax (CGT) also has the potential to have a big influence on the eventual growth of your investment, too, particularly if you sell shares within the first year after purchase.
It’s also good to note that when figuring out your real return, you also need to take into account the fact that inflation will eat away part of the value of the money you earn.
Another reason for not spreading yourself too thin is that companies typically don’t like to have lots of shareholders holding very small numbers of shares – called unmarketable parcels – so sometimes the company may try to buy back holdings worth less than $500.
Ultimately regardless of how much you have available to invest, you want to make sure you adopt a strategy that is compatible with achieving your goals.