Making Sense of Investments
Everyone wants their money to grow over time. However investing is inherently risky and making the right choices is no easy task. For the majority of people, the world of investing is full of complexity, jargon and confusion. When coupled with media scare stories, it is no wonder that when it comes to making a decision, people are intimidated to such a degree that often no decision is made at all. When faced with over 4,500 funds and countless other investment choices, how do you know you are making the best decisions?
First of all, you need to think about the reason for making each investment, your timeframe, your capacity to withstand losses and the extent to which you are prepared to lose in return for gains you could possibly make.
Being aware of your choices is imperative to your financial wellbeing and has potential for increasing your wealth. Spreading your investments across a number of different assets also reduces the danger of all your investments falling in value at the same time.
Cash in the bank
It is, of course, important to ensure that you have sufficient cash that is readily available to meet your short-term needs, though once this has been accounted for, what options do you have?
Since the financial crisis of 2008, the Bank of England lowered interest rates to their lowest level in history and there is no sign of any significant change any time soon. In this low-interest rate environment, the challenge is that cash in the bank will only yield small returns if any at all.
Bank of England Base Rate since 2007
Source: Bank of England
A further dilemma for savers and investors alike is inflation. Over the last 10 years, the average rate of inflation has been 2.9%. Back in 2010, goods and services that would have cost £10,000, now cost £12,918. Whatever your current situation, the likelihood is that inflation will impact your standard of living year on year. With increased life expectancy, the danger of outliving your capital is a very real one.
Consumer Price Index, % since 2014
History is on your side
So how do you overcome these economic forces conspiring against you growing your money over time? Despite short-term market disruptions, history shows that investing in assets such as equities, bonds and commercial property has proved the best way to grow capital and protect it from inflation over the long term.
Take the example of equities. An equity is a stake in a listed company. Its share price is subject to a number of factors including supply and demand, current and future earnings potential, the wider economy, company management and the political climate.
From 1928 – 2017, the long term mean performance of the S&P 500 (the index of the largest 500 companies in America) averaged a return of 10.22% per annum. During this period, 66 out of 90 years produced a positive return. However, 24 out of 90 years produced a negative return.
Source: Standard & Poors
During the Dot.com bubble from 1995 to 1999, gains on the S&P 500 were well over 20% every year, though this quickly came crashing down from 2000-2002, wiping out most, if not all of the gains investors previously made. A similar story can be told with a rally in the stock market from 2003 to 2007, only for gains to be wiped out in the financial crisis of 2008. These are only two recent examples, though history going back hundreds of years is peppered with the economic cycles of boom and bust.
So the question for many investors is how to mitigate against these loses? The answer lies in diversification. This is why, for most investors, having a highly diversified portfolio which is exposed to different asset classes, geographies, industries and company sizes is essential to mitigate losses in adverse market conditions.
So how to mitigate losses?
The table below shows how each asset class has performed over a ten year period from 2009 – 2018. It can be seen that it is virtually impossible to predict how each asset class will perform on a year by year basis, though over a 10-year basis, equities of all sizes (Small Cap, Mid Cap and Large Cap) have outperformed the others.
By diversifying your portfolio, combining equities, bonds, property or alternative assets such as commodities can mitigate losses whilst calming sharp swings in the market.
A quick overview of the other assets are as follows:
A bond is debt issued by a company or government. In exchange for the capital it requires, the company or government pays interest either annually or every six months. This interest paid is known as a coupon. The company or government returns the principal on the maturity date and the loan ends.
There are of course risks involved with bonds, including the fact that the issuing company or even government may not have the means to repay the loan and default on its debt. Bonds also share an inverse relationship with interest rates, so when interest rates rise, the price of the bond usually falls.
When investing in commercial property, the value of the asset is determined by the supply of similar properties and the level of demand of tenants, which fluctuates like any other investment. The value of the property tends to rise or fall in value less than equities. However, there have been instances where commercial property cannot be sold quickly, so investors may not be able to access their capital until the sale of the property has completed.
Alternative investments include commodities such as gold, silver and oil. For most investors, such assets would form a smaller proportion of their overall portfolio.
How we can help
When assessing potential investments, we ensure they match your objectives. Before making a decision, we would assess your attitude to risk, your capacity for loss, any ethical preferences and make sure the charges on the investments are competitive. Only then would we make our selection of suitable funds, with the ultimate aim of helping you to grow your money over the long term to realise your long term financial goals.
Contact us today
If you feel that your financial wellbeing could be improved and would like a one-hour no-obligation chat to discuss your situation, please feel free to get in contact with me on 0117 919 2680 or by email at: firstname.lastname@example.org
Please be aware that the value of investments may go go down as well as up, so your initial investment amount cannot be guaranteed, i.e you could get back less than you’ve paid in.