June 2001 Volume 82 Number 6 "serving the protectors"
By Ruth McCance, ASX Investor Education

Shares

Thinking about shares? Some factors to consider

If you want to develop personal wealth, separate from your superannuation, then you may be considering shares. Over the next few issues, this column will give you some practical understanding of how shares could work for you.

What is a share?

A share represents part ownership of a company. You may benefit by receiving some of the profits in the form of dividends and by seeing the value of your shares increase with any growth in the value of the company.

Trading versus investing

“Investing” means taking a medium- to long-term view of generally five-plus years, to take advantage of long-term capital growth, which is generally a reflection of the growth in the value of the company issuing the shares. For instance, shares in Brambles Industries grew from $13.65 to $39.80 between 1989 and 1999 (adjusted for share issues etc, source ASX Market Data).

In the short term, share prices can be volatile because the sharemarket is an auction where rules of supply and demand apply. A surplus of buyers tends to drive a share price up and a surplus of sellers tends to drive a share price down. A “trader” takes a short-term view, which might only be a few hours or minutes to make gains from the volatility of the market.

Investing is generally a lower-risk approach as time smoothes out the volatility. The knowledge you need is readily available and often your investments can be relatively low maintenance, whereas trading is usually higher-risk and requires more commitment.

What are the pros and cons of share investment?

According to the Towers Perrin Investment Return Study (March 2000), shares outperformed all other asset classes after tax in the 10 years to December 1999. While the past is no guarantee of the future, this suggests that shares can have a role to play in most investment portfolios. Remember to allow for inflation. CPI this last quarter was 1.1%. If annual inflation goes to 4% this year and you pay income tax at 30%, you will need income of 5.6% p.a. from your money to preserve its capital value after tax.

There is no guarantee you will get all your capital back when you sell shares but, historically, the overall trend of the market is upwards: the All Ordinaries index grew around 500% between January 1980 and January 2000. However, individual shares may over- or under-perform the market average. This is why many investors choose to diversify their portfolio by investing in a number of different companies and industries. The general idea is if one has a poor year, the loss will be offset by more positive results in another. For example, telecommunication stocks performed much better than banks in the 12 months to March 2000. In the 12 months to March 2001, banks outperformed telecommunications.

You can begin with as little as $500, but $2,000 is usually recommended to reduce the impact of brokerage fees. If you are starting small, you may wish to spread your risk by buying shares in an investment company or units in a managed fund, which invests its money in shares of many different companies, so your single investment is widely spread.

You need to keep good tax records while you hold the shares, plus five years, so you can calculate your capital gains tax when you sell. You also need to include the dividends you receive in your annual income tax return. However, this is where a benefit of shares fits in. Companies, which are resident in Australia and pay tax to the government, are able to pass on “franking credits” for tax already paid to you as part owner of the company. This means the effective taxation rate on fully franked dividends, for someone at the 42% marginal tax rate, is 9%. If you pay 30% tax or less you can actually get money back or a rebate to offset other income tax.

Next month: Finding the best broker for you.

This article contains general information only. It is not intended as and must not be relied upon as investment advice. You should consult a licensed professional advisor prior to making any investment decision.
The information contained in this article is provided in good faith and derived from sources believed to be accurate as at the date of publication. However, no warranty of accuracy or reliability as to such information is given. Australian Stock Exchange Limited and its associated and related companies will not be liable for any loss or damage arising in any way from or in connection with anything provided in or omitted from this article or from any action taken or inaction in reliance on the article.
This article does not contain an invitation or offer to invest in securities or other financial products and nothing in this article is to be taken as ASX endorsing promoting or expressing any opinion on any securities or other financial products. ©Australian Stock Exchange Limited ABN 98 008 624 691. All rights reserved.

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