Investment in shares provides attractive long term returns. Based on the current market scenario and the abysmally low interest rates in the Fixed Income space, most local investors have veered towards equities in search for better returns and also in a bid to stay ahead of inflation. Here, we will explore the several benefits that accrue from investing in shares and also highlight pitfalls to avoid.
SHARES
A share is a unit of ownership that represents an equal proportion of a company’s capital. It is a representation of the portion or part of a company that an investor owns. When an investor buys a share, he or she is referred to as a shareholder because the payment affords the investor a small percentage of everything that that company owns e.g. Buildings, equipment, computers, etc. Holding the share of a company also gives an investor the right to make decisions that may influence the company. It also entitles its holder to an equal claim on the company’s profits and an equal obligation for the company’s debts and losses.
Shares fall into two main categories made of ordinary shares and preference shares:
Ordinary shares
Ordinary shares include those traded privately as well as shares that trade on the various quoted stock exchanges. Ordinary shares have a stated “par value”, but the true value of an ordinary share is based on the price obtained through market forces, the value of the underlying business and investor sentiment toward the company. They have voting right but bear the liability of the company in the event of a winding up.
Preference Shares
This class of shares affords an investor ownership in a company which entitles him to a higher claim on the assets and earnings than ordinary shares. Preference shares do not have voting rights and they generally receive dividend that must be paid out before the ordinary shareholders are paid. Shares are available to investors in the primary market through private placements, public offers and the secondary market.
These transactions are brokered by stock broking firms who earn commission on the trades executed on behalf of the shareholders.
OWNING SHARES IN QUALITY COMPANIES
Ultimately, owning shares allows you to own a portion of a company (a share). The management team and board of directors effectively work for you, and are there to maximise your wealth. They carry out their fiduciary responsibility in a way that benefits you. Shares have the potential to generate good returns. However, it should also be noted that shares can also be risky. Investors deciding to invest in shares should have a long term view, this means a 3-5 year time frame to maximise their investment.
EASE OF DIVERSIFICATION
Diversification is simply not putting all your eggs in one basket. If you make smaller investment in different companies, the likelihood that one of your investments fails means that it would not have a great effect on your total investment. If you have all your eggs spread between a numbers of baskets (investments), you are more shielded from any possible downturns, because you can buy small number of different shares.
AVAILIBILITY OF INFORMATION
Information about a particular company’s share, especially blue chip shares, are readily available everywhere; news on TV, newspaper and most financial websites. Investors can get to know up to the minute value of their share portfolio. Also the Listing Rules on the Nigeria Stock Exchange require that companies must report information to their shareholders, including financials (full year and half year), news that may affect the share price, such as acquisitions and divestments and response to queries relating to large movements in their share price. This disclosure ensures that all shareholders are kept up to date on their investments.
LIQUIDITY
The liquid nature of quoted shares makes them very attractive to investors. The market for shares is large (for the large blue chip companies), meaning you can find buyers and sellers to fulfil your request. For example, if you want to liquidate your portfolio (sell everything), it is relatively easy to find buyers, compare this with selling property, where you may have only one or two interested buyers.
CAPITAL APPRECIATION
Capital appreciation refers to the amount of increase found in the principal value or the price per unit of a share. It is also a rise in the value of an asset based on a rise in market price. Essentially, the capital that was invested in the security has increased in value, and the capital appreciation portion of the investment includes all of the market value exceeding the original investment or cost basis. Capital appreciation is one of the two main sources of investment returns, with the other being dividend or interest income.
DIVIDEND
A distribution of a portion of a company’s earnings, decided by the board of directors, and approved at the company’s Annual General Meeting (AGM) to a class of its shareholders. The dividend is most often quoted in terms of the naira amount each share receives (dividends per share). It can also be quoted in terms of a percentage of the current market price, referred to as dividend yield. Dividends may be in the form of cash, stock or property. Most secure and stable companies offer dividends to their stockholders. Their share prices might not move much, but the dividend pay-out attempt to make up for this. Note however that high-growth companies rarely offer dividends because all of their profits are reinvested to help sustain higher-than-average growth.
SOME PITFALLS TO AVOID IN INVESTING IN SHARES
Investing in shares has a lot of benefits and also could lead to some pitfalls if you lack the understanding of how the stock market works and do not make the right choices. Some of the pitfalls to avoid include:
·High Volatility: share prices can go up or down due to one reason or the other, sometimes share prices drop so much that it may not provide you retirement income in form of dividends from these stocks. Always seek the advice of a professional when making decisions on stocks to purchase.
·Risk of Ownership: It is true that you are part owner of the company but when it declares bankruptcy, you would be one of the last persons to receive any proceeds from the liquidation of the company or more often, you do not receive anything at all. Sometimes, companies go into liquidation thereby eroding the investments of ordinary shareholders.
You must be vigilant to watch over your investment if you consider it important to you. It is essential that you engage the services of an experienced Fund manager to help you guide you in enjoying the benefits and avoiding the pitfalls.
·Fraudulent stock brokers: Some stockbrokers are fraudulent to their clients. They may collect your money when there is perceived information that the shares of a particular company is a good one and instead of making the transactions in your name, divert the money for their selfish interest. You must be careful in selecting your stockbroker. The equities market is indeed a unique space with constantly evolving dynamics, from operators to the regulator and even investors; it demands a devotion to its processes and practice to ensure that expectations are met. New investors desiring to play in the market will do well to update their knowledge before entering the market.
