What Are Equities?
In a nutshell, equities, or shares, are units of ownership in a company. Owning a share of a business entitles you to have a say in how the company is run and to receive a share of the company’s success. This is via:
- share price growth (assuming they appreciate),
- receipt of dividends (if the business is profitable), and
- voting at its annual general meeting (AGM).
Investing in equities has been taking place since the 17th century in the UK and equities now form the backbone of many people’s savings and pensions. Most shares are listed on the London Stock Exchange (LSE) or Alternative Investment Market (AIM). These are venues for trading shares in companies.
How Do they Work?
Most companies start life as private concerns, not listed on a stock exchange. They may be funded by individuals at first, and once the business model is proven seek to grow further by seeking investment from outside sources.
An initial private offering (IPO) would see a firm look to list on the stock market. An IPO can raise a firm’s profile, provide an exit opportunity for early backers, or be used as the means to tap public markets for more equity, giving the business the chance to gain further market share.
Equity owners seek two types of return from their investment: capital growth and dividends. As a company’s value increases, so should the price of its shares, which might then be sold for a profit. The opposite is true if a company’s value decreases; the shares will drop in price and may have to be sold for a loss.
High dividend payments are not always beneficial to the shareholders. Companies have been known to try and prop up weak performance, poor prospects and share price pressure by paying out high dividends. This can be nothing but a short-lived gain.
Why Invest in Equities?
Equities have the potential to generate higher returns over the long term than most other types of investment. By way of illustration, over the past 100 years, UK equities have generated average returns of 5.5% a year over and above inflation. That means that real value of your investment should double every 13 years. Over a 30-year time period, you might be able to turn £1,000 into £5,000 if equity markets perform as they have historically.
The challenge for most people is knowing where and when to invest. That’s why we leave it to the market experts, through investing in pension funds and other, equity-based savings.
Risks and Rewards
Most pension funds invest in a wide range of assets to try and minimise your exposure to risk. These are likely to include a worldwide spread of equities, bonds, property and cash.
Most of these assets are traded on stock markets so it makes sense that when the markets are strong a pension can perform well, and when the markets are weak a pension can underperform. For better or worse, any impact on your pension should be relatively low due to how your investments have been diversified and spread, but you may still notice some occasional fluctuations to your balance.
Last month’s blog explained why I’m a firm believer in taking a long-term view of investments.
I’m still a believer in taking a long-term view of investments and equities have proven themselves in the long term to deliver better-than-average returns. Talk to a professional, like me, about how to manage risk in the way that suits you and your needs. Then, with the right fund managers working for you, you have a chance of reaching your pension investment goals, with a portfolio that includes equities.