Investment Masterclass: Essentials

Sarah Coles: Welcome to week 4 of our six-week Investment Masterclass. I’m Sarah Coles and along with some wonderful colleagues, I’ll be walking you through this week’s session. Last week we covered common investment accounts and what you need to consider when choosing an account. This week we’ll look at different types of investment, how they work and their levels of risk.

This course has been designed to help you learn more about investing and the role it can play in your personal finances, but none of it is personal advice. If you’re unsure what's right for you, please do seek advice. Let’s start with shares.

Susannah Streeter: A share is simply a part ownership of a company. When a company is listed on the stock exchange the shares have a market value and can be bought and sold.

Shares are the equivalent of ownership in a corporation. Because they represent ownership, not debt, there is no legal obligation for the company to reimburse the shareholders if something happens to the business. However, some companies may distribute profits to shareholders through dividends.

Others may not, deciding to use all profits to operate, grow, and invest in their future. The potential return from shares is generally higher than that of bonds and cash but they’re also higher risk. The level of risk can change depending on which specific share/s you invest in.

Sophie Lund-Yates: Bonds are investments representing the debt of a government, company or other organisation. Effectively they are loans, or "IOUs" issued by these organisations and bought by banks, insurance companies, fund managers and private investors.

The key factors you’ll come across with bonds can be broken down as follows:

• Issuer – This is the entity which is borrowing the money – i.e. the government, company or other organisation.
• Coupon – The rate at which the issuer will pay interest.
• and maturity – Date the loan will be repaid.

This is a nice easy way to remember the key factors of bonds, but you can find a more detailed description of each of these in the article that accompanies this video.

Shares and bonds are very different kinds of investment. Shareholders own the company, bondholders simply lend it money. This means the risk/reward profile is very different.

Bondholders just need the company to have enough cash to repay the loan and service the debt. Profits could halve, ordinary dividends could be slashed but, as long as the company can meet its obligations to bondholders, they should continue to receive a fixed rate of interest and their capital back at redemption. However, if the issuer fails you might lose some or all of your investment and the income could stop before maturity.

In terms of risk and reward, therefore, bonds generally sit between cash and shares. Remember, the value of bonds and the income that they produce is not guaranteed so you could get back less than you invest.

Emma Wall: A fund is an investment that pools together the money from many individuals. The fund manager then invests the money in a range of assets, for example, UK shares, overseas shares or bonds. Each investor is issued units, which represent a portion of the holdings of a fund.

Fund managers choose and manage underlying investments within a fund. By buying into these you can benefit from expertise knowledge and time spent by the fund manager and their team researching and picking the best opportunities in a chosen sector.

Different funds specialise in different sectors - for example, if you're interested in Europe you could invest in a fund that focuses on Europe.

Two different strategies you will come across are active funds and passive funds. With an active fund, a fund manager uses their skill and experience to try and do better than a benchmark to fit an investment goal. Passive funds try to closely track the performance of a stated index, so they are also known as tracker funds.

Diversification is a great benefit of a fund, as investing in funds means your money is spread across different investments. As some investments will perform better and some worse over time, diversifying will, in theory, help spread the risk and help smooth returns over time. This means the risk level is lower than investing in individual shares.

There are many types of collective investments, funds as we’ve explained, but also Exchange Traded Funds, or ETFS and Investment Trusts.

Exchange Traded Funds, or ETFs are a type of collective investment which provides access to a diversified portfolio for usually a much lower cost than purchasing the individual investments yourself. When you buy an ETF, you are buying a slice of what the ETF has invested in.

ETFs can be bought and sold on a stock exchange, just like shares. Most track an index – a collection of securities that represent a certain sector or region. For example, the FTSE 100 is an index that represents the largest 100 companies in the UK.

An investment trust is a type of collective investment set up as a company, so its shares can be bought and sold on the stock exchange. They aim to make money for their shareholders by investing in a portfolio of shares, property or other assets, chosen and run by the investment trust manager. When you buy a share you are buying a slice of the trust’s underlying portfolio.

You should only invest in investment trusts if you have the time and know-how to select and maintain a diversified portfolio to help reduce risk.

There are many funds available for investors. Take a look at a few of the options in the linked article below and see if you’d like to build your portfolio yourself, use one of our ready-made options, or even consider getting professional advice to help with your portfolio.

You’ve now completed the fourth week of HL’s Investment Masterclass. This week we covered the different types of investments, how they work and what the different levels of risk are. You can test what you have learnt this week via the quiz at the bottom of the article. In the next lesson, you’ll look at how to build a portfolio. We’ll see you there.