Chapter 1: Making money on the sharemarket
As share prices can fluctuate daily the anxiety that you could lose money is a constant feeling you may experience. Sure you can drop a bundle if share prices plunge. But you can also make heaps if they rise. Provided you do your homework and invest sensibly, owning shares can be a very rewarding and lucrative way of building up your wealth. In this chapter I chat about the basics, and explain that investing in the sharemarket is not all doom and gloom. I also chat about the different ways you can invest in shares.
To gain confidence dealing with this type of wealth-creating asset, itâs important that you understand the fundamentals â both good and bad. The following information explains the nuts and bolts of investing in the sharemarket.
Cashing in your chips: highly liquid
During one of my sharemarket courses a woman casually said to me, âI own a $50 000 share portfolio but I have no cash that I can quickly accessâ. When the first aid officer helped me recover from the sudden shock of hearing such a statement, I had to remind her that shares are effectively a substitute for cash. In chapter 2 I emphasise it normally takes no more than a few seconds to buy and sell them (especially if itâs done online). And youâll normally get your money back within a few days. Alternative investments like managed investment schemes, real estate and collectables could take an eternity to sell. So what does all this mean? Shares allow you to quickly get in and out at minimal cost. And youâll be able to take advantage of any good buying opportunities in other asset classes that may pop up from time to time.
Shares also give you the opportunity to sell small parcels at short notice. For example, you own 1000 BHP Billiton shares and you need to sell 500 shares to access some cash quickly. Unfortunately, you canât do this with alternative investments such as real estate and collectables: you canât rock up to an auctioneer and try to sell your front bedroom or the left-hand corner of an expensive painting by a famous artist! Although there is no minimum number of shares you can sell, the brokerages fees payable to sell minute parcels could make the transaction uneconomical.
Adding to the pile: investing small amounts
One of the great things about shares is you donât need a truckload of money to start the ball rolling (as is the case with wealth creation assets like real estate). There are simply no set minimums. With as little as $1000 you can start a small share portfolio and build from there. And you can buy more shares as you become more affluent. Further, when you become a shareholder, you may be given the opportunity to participate in rights issues and dividend reinvestment plans, where you can buy more shares direct from the company. These offers to buy additional shares are normally at a discount to the current market price, and no brokerage fees are payable! A great example that comes to mind is the National Australia Bank share purchase plan. In August 2009 shareholders were given the opportunity to buy shares direct from the company at $21.50 per share. When the shares were allotted to the shareholders a few weeks later, they were trading at around the $28 mark (you little ripper!).
Counting your money: prices published daily
I love counting my money, especially when share prices are rising. The great thing about owning shares is you can instantly check their current market value, while sitting in front of your laptop sipping a cool drink at a popular holiday resort. If they go up in value you can quickly sell them and take a profit, and either buy them back again if they fall in value or move into something else. For example, on Monday you pay $30 for 1000 shares. On Tuesday at 10.05 am they jump to $31.25. You immediately sell them and pocket a lazy $1250 profit (less brokerage; building wealth and loving it!). At 2.45 pm they fall back to $30. So you decide to buy the shares back. Unfortunately, you canât do this with alternative wealth-creating assets like real estate. Although you can get a sworn valuation itâs meaningless unless you can find a buyer whoâs willing to pay the price youâre asking.
Rolling in dough: receiving a dividend
The major Australian companies listed on the ASX normally declare two dividends around the same time each year. They are called an interim (or mid-year) dividend and a final dividend. If you have a number of companies that declare dividends on different dates, itâs possible to get a steady and reliable income flow. For example, CBA normally pays dividends in March and October while NAB pays dividends in July and December. If you also have Telstra in your portfolio, which normally pays dividends in April and September, youâre on the way to getting a nice little income flow going.
Itâs also possible for you to qualify for a dividend within a few days of buying your shares. When a company declares a dividend it will announce the ex-dividend date. This means if you buy the shares before the ex-dividend date you will qualify for the dividend. For example on 1 February the company declares 50 cents per share dividend and announces the ex-dividend date is 14 February. If you buy the shares before 14 February youâll qualify for the 50 cents per share dividend when theyâre paid. If you do this youâll be buying the shares cum-dividend (meaning with the dividend attached). But the good news gets even better: if you sell them after they go ex-dividend (for instance on 16 February), youâll still get the dividend even though you no longer own the shares! The person who buys them from you misses out. Contrast this with a term deposit where you may need to wait six months before interest is credited to your account. Unfortunately, when a company goes ex-dividend you may find the share price falls. This is because the company has now got an obligation to pay a dividend. So you may need to take this into account if you plan to sell your shares in the short term. Besides getting a dividend, youâll also receive a franking credit if the dividend is franked. In chapter 3 I point out that franking credits are tax offsets that you can apply against the net tax payable on the dividend (and other income) you derive.
Making easy money: capital growth
One of the great things about investing in the sharemarket is shares have the capacity to increase in value â sometimes very quickly. Youâll generally find share price growth is primarily dependent on a companyâs ability to grow its business and make more profits. So itâs important that you invest your money wisely (see chapter 4). The more profits a company can generate the greater the chance that your wealth will grow in the long term. Itâs as simple as that! In the meantime, no tax is payable on any âunrealised gainsâ until the shares are sold. And if you hold them for more than 12 months the added bonus here is only 50 per cent of the gain you make on sale is liable to tax (see chapter 3).
Rights issue
When companies need to raise additional capital they will give you the right to buy additional shares at below their current market price. For example, when Blue Scope Steel needed additional capital they offered their shareholders in May 2009 the right to buy more shares at $1.55 per share. When they made this announcement the shares were trading at around the $2.50 mark. Investors who exercised their right to buy them would have picked up a bargain. When the shares were trading above $3 a few months later they would have doubled their money!
No annoying charges: no holding costs
The great news about owning a share portfolio is there are no ongoing costs. Unfortunately, you canât say this when you buy a property or put money into a managed fund. For example, if you own a property you will incur ongoing costs like land tax, rates, insurance and repairs (which could amount to a substantial sum). And if you choose to invest in a managed fund you will have to pay them umpteen ongoing fees and charges for the privilege of managing your money. Speaking from personal experience, itâs exhilarating to come home each night and not find any annoying bills relating to my share portfolio in my âin trayâ!
The risks you need to take
The benefits you can gain from investing in the sharemarket may sound great. But the trade-off here is the risks youâll need to take to gain them. There are three major concerns that youâll need to consider before you invest in the share market.
⢠Share valuations could fall. Although share prices can rise in value, they can fall just as quickly. Thereâs a stock market adage that goes along the lines of âthe market hates uncertaintyâ. Put simply, share prices are very sensitive to global events and downgrades in company-earning forecasts. So if your share portfolio were to take a nosedive you could suffer a substantial loss if you sell them. By the way, if you find yourself in this situation keep in mind an old adage that you should ânever hold on to a loser just to collect the dividendsâ. To reduce the risk of losing money itâs prudent that yo...
