The pros and cons of investing in shares

Every week I get several emails asking me to consider a new investment for my clients. They nearly all come with the promise of great returns with no risk. I am always reminded of the saying if it seems too good to be true it probably is.

With investing, there are five broad asset classes. Business, property, bonds, cash, and alternative investments.

Over the next few blogs, I am going to dive into each of these a little deeper and talk about the different subgroups. In this blog today, I’m going to discuss the pros and cons of investing in shares.

“If it seems too good to be true, it probably is.”

Businesses, range from large multinationals like Westpac, Apple and Amazon down to the local gardener that runs his business as a sole trader.

Regardless of their size, the aim of all businesses is to make money for their owners.

Personally owned / small business

The main benefits often talked about with owning your own business are the independence you have and the increased control over your own destiny. There are also financial benefits like paying family members (or at least telling the ATO you have paid them!) and having the business pay for your car, phone or personal insurance.

The biggest downside is you don’t always have a stable income. Along with making it a struggle to pay the bills at home, you may not be able to get any income protection insurance. As a business owner, you are not required to pay yourself super. The most recent data shows 20% of business owners don’t have any super.

So no safety net and no automatic retirement savings.

Running your own business can be extremely rewarding financially and personally, but there are big risks people often overlook.

Publicly listed companies

Over the long term, publicly listed companies have provided returns on average of around 10% a year.

However, not all returns are achieved in the same way.

• Some pay the shareholders a small (or no) income and put the rest of the profits back into the company for further growth.

• Others pay a larger portion of their profit out in higher dividends.

• The last group here are those companies that don’t generate a profit and continue to borrow to grow the size of the business.

Typically, Australian companies are encouraged (through franking credits) to pay higher dividends than international companies.

High dividend options

In Australia, companies like the big four banks, BHP, RIO Tinto, Wesfarmers, and Telstra pay higher dividends. Over the last ten years, this group has provided an average dividend of 6.1% and had annual growth of 4.1%.

Having a higher dividend can be a disadvantage for investors if they already have a high income, as they will be paying tax on the income at their (high) marginal tax rate.

High growth companies

In Australia, this is generally the smaller companies and those that have greater growth opportunities like technology companies. Over the last 10 years, they have provided dividends of 4% but had growth of 6%. Compare this to the top 500 US companies which over the last 15 years have provided dividends of 2% and growth of 10%.

The big benefit from investing in these companies is the capital growth is generally not taxed until you sell. Therefore, you get the benefit of compounding. Over time, this makes a significant difference to your total returns.

Companies that borrow to grow

While investing in these companies can be worthwhile to the shareholders if it works out, as an investment they are significantly riskier than well-established companies.

Each of these investments can have a place in your portfolio, but you need to understand the pros and cons of each before you invest. To discuss what ones suit you, book a chat via the link below or contact us on 0417 034 252 or at office@constructwealth.com.au.