Frequently asked questions about investment markets

0
95

Investments are never the same, and knowing about them, why one needs to invest, what to invest in, when to invest and how much to invest are questions that are frequently asked. We endeavour to answer some of those questions that will fill the gaps on investing so that you make informed decisions. However, we advise that you seek professional advice before investing.

What is the difference between Savings and Investments?

Savings represent that part of a person’s income which is not used for consumption. Saving is a passive activity and is more focused on safety of principal (the amount you start out with) and less concerned with return.

Savings are put in the safest of places or in products that ensure that you can access your funds anytime. Savings products include a savings account with a bank or certificates of deposits. Since the funds are accessible any time they are required, and the safety of the principal amount, means that returns are generally lower.

Investing is the proactive use of your money to make more money. When you invest, there is a greater risk of losing your money than when you save.

However, you could earn substantially more through investing. Investing requires a longer period than that for savings.

Due to the longer investment period, funds meant for investments should be more than provisions made for emergencies. Simply put, you should invest so that your money grows and shields you against future risks. People can invest in different investment vehicles such as buying shares, bonds or unit trusts.

Why should I invest?

There are many reasons for investments and these are very clear and simple as summarised below:

To meet future needs such as buying a house and payment for college fees; Preservation of value, for example, guarding against inflation;

To earn a profit; To protect against unexpected events, such as, to cover for extra medical costs; To raise capital for starting or expanding a business;

To grow your money, for example, the returns allow your money to build or create wealth over time.

What are the types of investments (asset classes) that are available?

Investment types consist of a group of securities with varying degrees of risk. The diagram below shows the four main asset classes of investments available on the local market:

Each type of investment or class consists of different investment characteristics, such as the level of risk, the potential for delivering returns and performance in different market conditions:

What are Listed Equities?

An equity/share/stock represents a form of ownership. The holder of such a share is a member of the company and has voting rights.  Equities (also known as ‘ordinary shares’ or ‘shares’) are issued by a public limited company, and are traded on a Securities Exchange/Stock Market, for example, the Zimbabwe Stock Exchange (ZSE) or the Financial Securities Exchange (FINSEC).

Equities or shares represent a claim to a company’s assets (everything the company owns including buildings, equipment and trademarks) and earnings (all the money the company makes after meeting all obligations).

Apart from risk characteristics, the essential characteristic of a share is ownership and upside potential.

Company Ownership

When you buy a stock, you are buying a piece of a company and you become a part owner. You are regarded as a shareholder or stockholder.

This ownership gives you certain rights, including voting on important matters before the company and participating in the profits if the company distributes dividends.

Most people associate owning a company to having to go to work and overseeing operations like what a sole proprietor does.

When you buy a share, you become an owner and the company appoints a board of directors who safeguard your interest (with management who run the company and are accountable to the board) as you pursue other interests.

How do I make money from shares?

When you own stock, you participate in the growth of the company. As the value of the company increases, so does your investment. There are mainly two ways of how shareholders are rewarded for owning shares in a company which are:

(i) Share price increase: This refers to the increase in the value of your investment. This is the difference between the sell price and purchase price.

For example, if you buy one Innscor share for 71 cents and after some time the price goes to 90 cents, you would have made a 27 percent gain. The growth in the value of a business comes from growth in its sales and profits. This growth is the one reflected in the price increase.

(ii) Dividend payments: This is a payment made by a company to its shareholders as a distribution of profits. Dividends are an important portion of the investment return. Companies balance the cash they retain in the business to finance growth and the cash paid to shareholders to reward them for investing.

To determine whether a stock is cheap or expensive so that you can buy or sell the stock is not necessarily easy and requires the services of professionals in that field. There are many strategies that are employed to benefit from a stock price increase or a stock price decrease and these require the services of investment management professionals.

Where are Shares bought and sold?

Like at a market for tomatoes, shares are also bought and sold on a market called the Securities/Stock Exchange. Locally, we have the Zimbabwe Stock Exchange (ZSE) and Financial Securities Exchange (FINSEC) where company shares are bought or sold.

Only licensed Securities Dealers or Stockbrokers or Asset Managers (through stockbrokers) can buy and sell shares on the Stock Exchanges. Anyone interested in trading shares on the Stock Exchanges places his or her orders (buy or sell orders) with Stockbrokers or Asset Managers.

Why do companies end up listed on the Securities/Stock Exchange?

To raise Capital: A business owner can start off small and raise cash from family and friends. However, as the operations expand the business owner might require large sums of money like a million dollars. The stock exchange is where companies being listed for the first time (a process known as initial public offer) raise cash to invest in plant and equipment to increase production. Subsequently the company can raise more money by issuing shares through a process called a rights offer.

As an Exit Strategy: An Initial Public Offering is often used as a strategy by founders to exit the company or sell some percentage of the company to make money and sometimes to reduce the risk of losing it all.

To Raise the company profile:  The visibility that comes along with a successful listing on a stock exchange can increase the firm’s brand value and act as a marketing tool. The fact that a firm exposes itself to public scrutiny can be interpreted as a commitment by management to perform well and such scrutiny can help it borrow funds in the debt market.

How is Trading in shares conducted?

Trading can be conducted through the following summarised steps:

(i) Select the stocks you want to buy e.g. Econet, Delta, Seed Co etc. This can be done through getting advice from licenced professionals.

(ii) Open a personal bank account with any local bank.

(iii) Approach a Stockbroker and open a Securities Trading Account.

(iv) Once accounts have been opened, deposit or transfer funds into the account provided by the Stockbroker.

(v) Instruct broker to purchase the number of shares of a company of your choice that you want to buy.

(vi) The broker will execute the purchase on your behalf and when the purchase has taken place, you will be notified. An electronic share certificate will be issued out to you via the Scrip Custodian in step iv.

What are the functions of the Stock Market?

To mobilise Savings: Stock exchanges play an important role in mobilizing savings of individuals and institutions. Savings mobilized can be used to invest in various projects, thus boosting industrial and economic development of a country.

To raise Capital: If you are starting a company, you might look for funding from people who would want to be part of your business (mobilised savings). People will buy a share of your business in turn giving you the funding to buy the requisite equipment. Raising capital is important for industrial development and the economic growth of a country

To provide Liquidity: Stock exchanges provide liquidity to investors. They serve as a platform where buyers and sellers of securities come into contact to buy and sell securities. Therefore, any person who owns a security can sell his security in a stock exchange and convert into cash. Thus, wealth is created when one buys low and sells high.

As an Economic Indicator: The stock market is a leading indicator, meaning, people buy shares when the economy is expected to do well in the future. Hence, the performance of the stock market should ordinarily tell you where the economy is going. However, there are times when the economy is not rational or normal and no link can be traced between future economic growth and the performance of the stock market.

To attract Foreign Investment – Stock exchanges assist in attracting foreign investment. They attract foreign money which can be used in the Banking sector. The presence of foreign participation also serves as an indicator of whether doing business in the country is conducive.

What are the risks of Investing on the Stock Markets?

The returns are not guaranteed:  There’s no guarantee you’ll make money on a stock at any given point in time. Although many things can help you assess a stock, no one can predict exactly how a stock will perform in the future. There is no guarantee that the share price will go up or that the company will pay dividends. Or that a company will even stay in business.

You may lose your money: Stock prices can change often and for many reasons. You must be comfortable with the risk that you might lose most of your money when you buy and sell stocks, especially if you’re not planning to invest for the long term.

Having a Long-Term perspective:  It is always necessary to maintain a long-term perspective on investments. Research has shown that stock markets go through many cycles.

However, the securities tend to perform better than bonds and money market investment over long periods. A disciplined and long-term perspective has high chances of paying off a good reward.

Next week we continue with your frequently asked questions about Fixed Income Securities Investments.

LEAVE A REPLY

Please enter your comment!
Please enter your name here