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I receive a lot of questions about “how to start investing” and this month alone I’ve fielded more questions than ever before, so, as a belated birthday present to myself I decided to get this all out into a simple blog.
A couple of housekeeping points first: Any tax rates and thresholds mentioned in this post will be correct as at the time of writing but tax is something that gets tinkered with all the time so this could get dated pretty quickly but using figures will help you to understand how it all currently works, in principle. Everything I share here is information not advice. Once you decide to actually start investing you would be well advised to: a) do some further research yourself; and b) speak to a fee-only all-of-market independent financial advisor. Fee only means they don’t charge you a percentage of what you have to invest (that is, they charge a fixed fee) and all-of-market means they can offer products from a range of institutions.. Ideally, you should only invest money that you will not need for at least 5 years. This is because share market prices move up and down a lot and if you need that money before five years is up, there is more chance that you might have to sell at a loss. Investing is a long-term game, the longer the time you can wait, the higher the probability of being up. Over a 20 year period, the S&P500 (which is the 500 largest listed companies in the USA) has returned a positive return 100% of the time. While the future may turn out to be different, you are generally well advised to leave money invested for as long as possible. While my aim is to make this discussion as simple and as unintimidating as possible, at times it will feel really complex not because investing is hard but because we invest within the context of a very complicated and convoluted tax system. But you have to get to grips with our tax system to get ahead with investing…anyhow,…I’ll divide this into four parts to keep it clear:
PART 1 – What sort of investment account should you put your money in
You can think of your 'investment account' or ‘investment vehicle’ as the “house” where your money is kept. There are three different types of vehicles:
1. A pension be it a workplace place pension or personal pension (aka a Self Invested Personal Pension) allows you to invest money before it is taxed; 2. A “stocks and shares” individual savings account or ISA allows you to invest money after it’s been taxed but all dividends and capitals gains are tax free; 3. A taxable brokerage account – means you invest money after it’s been taxed and any capital gains and dividends are also taxable. Any business that offers the services to buy or sell shares and investment funds will typically offer all three vehicles, i.e. they will usually offer pension accounts, ISA accounts, and taxable trading accounts. There are different pros and cons of investing in each of these three. I will highlight the main pros and cons. PENSIONS I am only going to cover defined contribution pension schemes in this post, which is what most people have nowadays. I won’t cover defined benefit pension schemes in which the employer commits to pay you a specific amount from a pre-defined retirement date until death. The rules are much the same between the two but if you’re responsible for your own retirement income as is the case if you have a DC scheme you’re likely to be more aggressive with building that pension pot. I’ll cover the difference between DC and DB pensions in a future post. Pros of investing through a pension
Cons of investing through a pension
Rules on how much you can invest in a pension… There are limits on how much you can invest via pension each year and over your whole lifetime. Firstly, the annual allowance is the maximum you can put into your pension each year and still get a tax benefit. This is currently £40,000 gross (i.e. before tax) or your full annual income, whichever is lower. So, if you earn £30,000 a year the maximum you can put into a pension is £30,000. I am sorry that this is getting complicated already but the UK tax system is mad – so a little detail is essential. A key thing to note is that not all income qualifies towards this pension contribution limit. Earnings from property aren’t allowed. So if all your earnings are from a buy-to-let property portfolio that is in your name, the maximum you can put into a pension is £2,880 and with the government tax benefit this is grossed up to £3,600. So, you’d only invest £2,880 into the pension and it would be grossed up to £3,600. If your BTL properties are in a company, then you could pay yourself a salary (and you’d need to follow rules on national insurance contributions too) and whatever your salary is – up to the £40k annual allowance limit – would be the maximum you could pay into a pension and still get a tax benefit. The second limit is the pension lifetime allowance which is just over £1m at the moment. This may sound like a high limit but it includes capital gains not just contributions so you can easily breach the limit. For instance, if you had £250k in your pension at the age of 35, a 7% growth rate in your portfolio would mean the money doubles every 10 years, so even if you didn’t invest anything else, that £250k would grow to £1m by the age of 55. Ideally, the lifetime pension allowance should grow with inflation but it’s frequently frozen and was even slashed from £1.8m in 2012 to £1m in 2017. This post is not about pensions but they are one of the primary vehicles you can invest through so hopefully what I’ve said so far will help you understand whether is this is the best vehicle for you. Depending on how much money you have to invest, I would look at putting some money in both a pension and an ISA and if you have more besides then you can put some into a taxable investment account. ISAs I love ISAs because once the money goes in, you don’t have to think about making tax declarations any more – it’s all tax free from that point. Pros of investing through a stocks and shares ISA I won’t cover cash ISAs here as this post is specifically on getting started with investing in stocks and shares.
Cons of investing in an ISA
Whether you plan to invest in a SIPP or ISA depends on your financial position and future plans, e.g. retirement goals, goals for your children if you have any etc. As tax advisor to my friends and family I recommend different things depending on what I know about the person including their propensity to choose spending over saving or investing, there is no blanket rule. Taxable brokerage account If you have maxed out your £20,000 ISA allowance and your spouse’s £20,000 ISA allowance and your £40,000 pension allowance then the next place you would look to invest is via a taxable brokerage account. If you are saving that much though, you may want to just spend more…better holidays, more life experiences etc. PART 2 – Who i.e. which institution should you invest your money through
So, you’ve figured out whether to put your money in a pension, an ISA or even taxable account, you now need to decide where to open your pension, ISA or taxable account. The way to think about this is, if you had money to save, one of the questions you would want to answer is ‘which bank should I keep my money with’, that’s the decision we are trying to make in part 2.
If you have a workplace defined contribution pension, that decision is usually made for you although in some cases you’re offered limited options. You are allowed to have a personal pension outside your workplace in addition to the work one but I personally I’m happy with the options provided by the provider of my DC pension at work so I don’t contribute more to another SIPP. There are three options open to you when it comes to type of institution:
The key driver of which platform to use is:
Fees – annual management charge Of the platforms I would guide you to research, these are the annual platform fees you can expect to pay as a beginner. In many cases the fee falls as your portfolio grows:
In addition to platform fees, whatever you invest in will have an ongoing annual fee. Ongoing fees usually range from as little as 0.05% to over 1.00% and in some cases as much as 3%. Watch out for the ongoing fees of what you buy as this is what can really harm the growth of your portfolio. There may also be fees for leaving or joining the platform. Look at all chargeable fees before committing to an account – you can always change institutions if you change your mind but it’s better to do your research before you even start. Any institution regulated by the Financial Conduct Authority, FCA, will be transparent about all the fees charged. Don’t invest through any unregulated institutions. As I researched this article I discovered that Junior ISAs at Fidelity are not charged an annual management charge and I immediately transferred all my children’s ISA investments to them from Hargreaves Lansdown. That was £55k in total – their investments of £20k each, have grown well over time so despite the poor stock market returns of 2022, they remain up. If you’re interested in how I invested for my kids see my post, Q&A: How can I save and invest for my children? I won’t spend a lot of time on fees but will link to several articles that discuss fees across a range of platform: PART 3: HOW MUCH TO INVEST
sIf you have a lump sum to kick start your investing, that’s great. You can invest it all in one go, however, some people prefer to spread a large investment into smaller chunks spread over 2 or 3 months. There is no real benefit in this if you are investing for the long-term – in fact, data suggests that lump-sum investing beats drip feeding your investment into the stock market 75% of the time. But if it makes a psychological difference to you, you can split a large lump sum over a few months.
What’s large? That’s for you to define because if I had a large sum to invest, I would invest however much I plan on investing all in one go. Generally, most people don’t have a large sum and the decision is about how much to invest each month. Investing monthly, over a long period of time, is called ‘dollar cost averaging’ into the market as your shares are cheaper in a bear market and more expensive in a bull market so over time you are paying the average price of the market. If I was working with a specific person, I would want to know how much they want to have at the age of 50 or 55, either as an annual income or in total and I would back calculate the amount they need to invest monthly, today, to achieve that goal. You can do this for yourself using an online calculator - I like the investment calculator on Dave Ramsey's website, you can ignore the fact that it has a $ sign and put in your GBP investments - the sign doesn't matter - I assume a gross return of 7% (that's the return before inflation is taken into account - with average inflation of 3% this is a net return of 4%). You can also ignore links to other resources as they are US-centric. PART 4: WHAT TO INVEST IN
Equities / shares
Investing in the shares of companies is called investing in equities. Equities pay dividends if they have money left over after paying all costs including interest on their debt. Some companies, especially fast growing companies, choose not to pay dividends and instead re-invest the money. If you buy the shares in a company, you’re known as a shareholder and you also make a return or loss from any increase or fall in the price of shares. So, if you buy shares for 10 and they grow to 12, that’s a 20% return; if their price falls to 8, that’s a 20% loss (the profit or loss is only realised if you sell, i.e. a loss is only a loss on paper - not a real loss - unless you sell, so, if share prices fall they can be left invested so that they recover in price). Debt / bonds Investing in the debt that companies issue is called investing in bonds. Bonds earn a fixed and known return. There are a few options you can choose from, here I’ll suggest 3 for you to look into: Option 1: 100% stocks in a diversified fund If you’re starting out in investing, you should be satisfied to earn the average stock market return by investing in a low cost diversified index fund. It requires a lot of time to identify specific companies that are undervalued or those with great growth potential and you don't need to do this to do well with investing - in fact, the evidence suggests just putting money in one or two diversified passive funds gives better returns than stock picking yourself and trying to beat the market. I personally prefer stock indices that track the S&P500 (these are the 500 largest companies in the US) – these funds usually cost 0.10% or less. Large US companies usually have global sales and source materials internationally so I feel it is adequate diversification that implicitly includes Europe and exposure to many emerging markets without having to worry about corporate governance issues. The historical average yearly return of the S&P 500 is 9.645% over the last 20 years, as of the end of November 2022. This assumes dividends are reinvested. Adjusted for inflation, the 20-year average return (including dividends) is 6.932%. (source: tradethatswing.com) If you prefer to invest in the UK stock market, you can choose fund that tracks the FTSE-100 in the UK. In the 20 years leading up to 31 December 2019, the FTSE 100 had an average annual return of 0.4% if dividends were not re-invested but this rose to a not insubstantial return of 4% a year if dividends were reinvested. Option 2: Target date funds Target date funds are funds that invest based on the assumption that you will retire in a given year. These funds have a higher proportion of riskier equity investments and a lower proportion of bonds which give a fixed and known return. As the retirement date approaches, more and more money is invested in bonds and less and less is invested in equities. Some in the investment community consider that target date funds get too conservative too quickly because no one retires and needs all their invested money straight away. So, if you want to have some money in equities and a portion in bonds, you could start with a target date fund with the retirement date set further in the future than you plan to retire - perhaps set it 20 years further than you plan to retire especially if you're partly saving to pass on an inheritance rather than just for your retirement needs. Option 3: Ready-made funds Many institutions offer ‘ready-made funds’ to get you started with investing and if you choose to go with that, as I did when I first started investing, take that as a learning opportunity. Seek to understand what is in those funds, what the fee structure is and if you don’t like the underlying investments or see that the relative fees are high, either don’t buy them in the first place or seek to move away to other investments. I do not recommend investing in single stocks, e.g. buying specific companies as this exposes one to a lot more risk than tracking a whole market so I won’t cover single stock investing here. I used to trade in single stocks myself but I no longer do. A simple example - investing in action
I know all this information might seem confusing so I thought I’d give you an example of all this in action.
So, as an example, about 3 years ago, unprompted, I told a 30-year old couple I know and like that if they wanted to have £300,000 or so when they are 55, in addition to their work place pensions, they should put £100 into a SIPP every month. With a lump sum like that they would have the option to retire early and as DINKies (double income no kids) I knew they wouldn’t feel that kind of investment even if it fell to zero – and with the government match they would be 25% up from the outset due to the tax saving. As I knew they were first time investors and quite risk-averse I got them to put almost all of the invested money in S&P 500 trackers with about 10% in an actively invested fund. They use Hargreaves Lansdown – I chose this for them because their customer service is great and you can easily get a person on the phone – but as their funds grow I might get them to move to a cheaper provider. I’ll review this when they have £50,000 or so. Three years later, they have about £20k between them (they invest a little more than I suggested). As I wasn’t happy with the performance of the actively managed fund, I got them to sell all of that and stick to low cost diversified funds. They’re happy with this set and forget strategy and aren’t much interested in overthinking it and unlike most of their friends have savings. In about four years, they will also be mortgage free to boot – based on a repayment plan I’ve advised them to stick to. Financially they’re on a great track and are also enjoying life… So, investing doesn't need to be complicated or big. You can start small and increase your investment as you learn more, develop confidence, and start to understand how different investments work...OVER TO YOU! Get help investing:
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I used to coach people on business issues only but I quickly discovered most struggles were the result of factors that hadn't even been considered. My coaching programs last 3, 6 or 12 months. During that period you have full access to me by phone, email, text, skype and if you live locally, even for coffees. So that we can just crack on with making you awesome I take payment upfront. Psychologically this makes you commit fully and wholly to the program too. My coaching covers:
Before a coaching relationship starts I recommend you book a one-off call to discuss your self-development needs . If you go on to book a coaching package this "analysis call" will be refunded. You're awesome. Let's make sure everyone who so much as walks past you sees that too! Bonus: you will get the Build A Booming Business Planner & the iPlan To Succeed Life Planner free with this coaching package. Check your email as soon as you've checked out of the shopping cart. 12-Month Coaching Program
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This 12-month coaching program will be custom built to suit your needs.
I used to coach people on business issues only but I quickly discovered most struggles were the result of factors that hadn't even been considered. My coaching programs last 3, 6 or 12 months. During that period you have full access to me by phone, email, text, skype and if you live locally, even for coffees. So that we can just crack on with making you awesome I take payment upfront. Psychologically this makes you commit fully and wholly to the program too. My coaching covers:
Before a coaching relationship starts I recommend you book a one-off call to discuss your self-development needs . If you go on to book a coaching package this "analysis call" will be refunded. You're awesome. Let's make sure everyone who so much as walks past you sees that too! Bonus: you will get the Build A Booming Business Planner & the iPlan To Succeed Life Planner free with this coaching package. Check your email as soon as you've checked out of the shopping cart.
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Heather on WealthI enjoy helping people think through their personal finances and blog about that here. Join my personal finance community at The Money Spot™. Categories
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Heather Katsonga-Woodward, a massive personal finance fanatic.
** All views expressed are my own and not those of my employer ** Please get professional advice before re-arranging your personal finances.