How to start investing in shares
Your 7-step guide to become a share investor
Investing has sometimes been viewed by New Zealanders as a dark and mysterious field. Fortunately, as Kiwi’s become more familiar with a wider range of investments – such as KiwiSaver, shares, property, or managed funds – this is steadily changing. Unfortunately, at times when we know a little bit about something, we become more dangerous than if we knew nothing at all. Consider this old English proverb: “A little knowledge is a dangerous thing”. This is because a small amount of knowledge can mislead people into thinking that they are more expert than they really are, which can lead to mistakes being made.
So, as New Zealanders knowledge of investing grows, there are certainly:
- Greater opportunities, and
- Greater risks of people getting it terribly wrong.
Why start now?
A new breed of investment platforms and service providers have pitched themselves to retail investors as an easy way to get into the markets.
Compared to several years ago, information on investing and shares is now everywhere and is mostly freely available.
Supporting this, Covid-driven lockdowns gave many people the spare time and space to look into share investing.
Another factor is the low interest rate environment. Savers are being punished with interest rates at rock-bottom lows, and are driven elsewhere to get better bang for their buck.
Perhaps Kiwis are also getting over the fear of shares from the 1987 stock market crash, which saw a generation of New Zealanders get out of the share market and stay out.
Whatever your reasons, here’s your seven-step guide to start investing in shares.
1. Get the first things first
Before you start investing, cover the basics of your everyday finances. That means taking steps like building an emergency fund and paying off bad debts (usually those debts with high-interest rates).
There’s no point investing if other things are going to hold you back financially.
For instance, getting rid of high-interest debt is essential. If you have debt that charges 12% interest, making extra payments toward that debt is equivalent to investing that money and earning a 12% after-tax annual return.
Another thing to consider is your earning potential. It might not be worth investing into shares or anything else if you’re struggling to make ends meet. In this case, taking a mental step back to consider more radical choices could be beneficial before you invest anything, perhaps:
- Working overtime and/or striving to achieve bonuses.
- Investing in yourself through courses or qualifications to boost chances of a promotion.
- Shifting to a higher-paying career with better long-term prospects. A quick check online reveals there’s presently more than 80,000 job listings advertised up and down NZ!
- Starting a side-hustle.
- Something else.
2. Determine what you’re trying to achieve
For some, money may represent power, achievement or prestige. Others may tend to view money in terms of personal security, freedom, and a way to achieve goals. Some may just have a fear of missing out (often dubbed “FOMO”).
Whatever the case, be honest with yourself about what you’re really investing for.
A major part of this is deciding how long you plan on staying invested for and sticking to it, as long-term investors should outperform short-term investors by doing things that short-term investors can’t. These include riding thorough periods of market volatility (that is, sometimes dramatic changes in prices over the short-term), investing in things that may be underpriced over the short term, and by taking advantage of slow-burn investment themes – perhaps the increasing uptake of technology.
In general, investing should be a long-term endeavor. There are three primary factors that influence how much your portfolio will grow:
- The amount you invest.
- The annual return of your portfolio.
- How long you leave your money invested.
3. Identify your investor risk profile
Even if you’re investing for a long timeframe, and want to increase your investment portfolio’s value over time, your personal risk tolerance may lead you to less risky investments.
Someone with a high-risk tolerance and a lengthy time horizon might be willing to build a portfolio composed solely of shares (stocks). People who don’t feel comfortable with that risk might want to hold a mixture of stocks and bonds even if their investment goals are long-term.
There are plenty of online quizzes which can help you decide on your risk profile, but like anything in life, it’s not always as simple as taking a quiz. Most of this topic comes down to emotions, and when it comes to the potential or real loss of hard-earned money, we can all be emotional to some extent. The biggest risk to investing isn’t usually the investment market or changes in prices, it is usually the investor themselves. The main risk is that you will withdraw from investments or significantly change your approach when values drop (which they always have done from time to time), then you’ll lock in losses, and probably miss out on a chance to earn them back if you don’t get back in at the right time. For the avoidance of doubt, the chances of re-investing at the right time are nearly nil.
Especially during periods of stress and/or when facing the unknown, we might not always make logical decisions. Don’t think so? – remember the people stockpiling toilet paper at the height of uncertainty during the start of the Covid outbreak!
This is where your risk profile helps you understand how you will handle the inevitable periods of stress and unfamiliar or unknown situations that will come up over the many decades you could be investing for.
4. Get educated about your choices
Financial education never ends. The world is moving fast, and the investment world is moving faster than ever. Investing is all about the future, after all.
Over recent years, a new breed of NZ investment platforms and service providers have pitched themselves directly to retail investors as an easy way to get into the markets. While this will appeal to many, unless you’re only wanting to invest sums the size of ‘lunch money’, before you do anything else, get educated.
Some of the key outcomes from the first steps of financial education might include:
- What investment choices are there?
- What investment platform choices are there?
- What service choices are there?
- What are the strengths and weaknesses (including costs and tax implications) for each investment, platform, and service?
- Which of each might suit me?
- Am I still comfortable with a DIY approach, or do I need professional assistance?
Depending on your situation, the last question could be the most important. If you’re just investing a little each fortnight or month into an online share-trading account, perhaps there’s no need to discuss things with a pro. Alternatively, if the sums are getting larger and/or are for an important goal such as funding your retirement, then having a chat with a trained professional is a no-brainer.
If you’d like to discuss things with one of our team, get in touch.
5. Due diligence
Whether you plan to buy individual stocks or bonds on the stock market, managed funds, or almost anything else, doing your due diligence is essential. There’s two parts to this.
i. Initial investment due diligence
That means researching every investment before you buy it.
ii. Ongoing due diligence
That means continually re-assessing every investment.
How to conduct due diligence
Publicly traded companies are required to submit certain paperwork to the market. These documents include information about the company’s revenues, expenses, account balances, and more. You should read these documents carefully and make sure you understand what they contain before investing. You’ll also want to understand things like:
- What makes the company unique? How is it better than the competition?
- Does it have growth potential? How much is it reinvesting in growth, or is it paying a steady dividend? Or parts of both?
- What moat does it have? The moat is the barrier to competition, which can vary widely depending on the business model.
- Is it under or over-priced?
- What risks or uncertainty does the company face?
There are a range of different technical and non-technical methods that can be used to analyse information, but regardless of the strategy that you use, having a strategy, knowing how to implement it, and taking the time to do your due diligence are essential.
The ongoing part of due diligence means continually re-assessing all of these matters with any investments you hold.
6. Build a diverse portfolio
One of the most important things to do when building an investment portfolio is to diversify. You don’t want all your eggs in one basket.
Learn more: diversify to make yourself indestructible.
Diversify it yourself
The most basic strategy for diversifying is buying shares in multiple companies, but there are more advanced strategies that you can use, including:
- Diversifying across different sectors of the economy. For example, financials, technology, healthcare.
- Diversifying across different parts of the world. For example, Europe, the US, Asia. This includes across companies which generate sales in different parts of the world, like Microsoft, which is a US-based company, but which has customers allover.
- Diversifying across companies of different sizes. Large-cap companies — those worth the most — have historically tended to have lower returns but lower volatility than small-cap companies. That said, there are signs this may be changing.
- Diversifying by holding different types of investments. For example, you might build a portfolio that is 70% shares, 10% listed real estate, and 20% bonds. Stock prices can be highly volatile but bonds tend to be more steady. A mix of stocks and bonds lets you get most of the benefit from strong markets, but reduces your losses during downturns.
Diversify with managed funds and ETFs
One of the easiest ways to build a diversified portfolio is to invest in managed funds. These funds pool money from multiple investors, then use that money to buy investments. A single managed fund can hold hundreds or thousands of different stocks.
Investors can buy shares in the one managed fund to get exposure to all of the stocks in that fund’s portfolio. Instead of having to keep track of 10, 20, or more companies that they hold in their portfolio, an individual investor only has to keep track of the fund or funds they invest in.
Learn more: what is a managed fund.
7. Invest logically, not emotionally
Whether you choose to invest on your own or to let a fund or adviser manage your investments, it’s important to keep emotions in check.
Letting things get emotional is widely regarded as one of the biggest mistakes amateur investors make. Some things to watch out for could include:
- Holding on to investments that haven’t performed well in the hope things will change, even if innovation, competition, or some other development has changed the situation and now made the original investment unwise.
- Investing in brands or companies you like, rather than those that make the best investment. Investments should be based on a sound strategy and research, not just a love of a product or service. Air New Zealand is a well-known company that can be popular with retail (“mum and dad”) investors. However, its share price has fallen in value approximately 85% over the last 20 years, excluding dividends. The company has also been through multiple taxpayer-funded bail-outs.
- Investing in a company because a family member or friend thinks it’s the next big thing! As with any investment it pays to do your own due diligence and rely on independent sources for information.
- As mentioned earlier, it can be stressful to watch your portfolio’s value plummet as the stock market drops. Resisting the urge to pull your money out of the market urge is crucial, history shows that the most important part of investing is staying invested through good times and bad.
Investing in the share market can be exciting and is an important part of building wealth. However, it is important understand these seven steps and seek advice when you need it.
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