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A 2018 beginner’s guide to investing in the FTSE 100

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Are you thinking of starting to invest in 2018? If I can offer one stunning fact, it’s that £100 invested in the UK stock market in 1945 would be worth £180,000 today — even after inflation

Many folks start off making big mistakes and are put off for life. And there are some key things to take care of before you make your first share purchase, which I’ll come to later.

But first, if you think investing is all about making a quick killing, like the latest Bitcoin craze, think again. You’re far more likely to lose than win if you chase short-term multi-baggers, and that’s really what’s behind popular fears of the stock market.

For my money, picking a small handful of top quality FTSE 100 companies is the way to get started. They’re mostly companies that have stood the test of time and have been raking in cash for their shareholders for years.

Bigger is better

Look at Royal Dutch Shell, the biggest of all. Over five years, covering the worst oil price crisis we’ve had in decades, Shell shares have actually risen by 16% and have paid an annual dividend averaging around 6%. If you’d reinvested your dividends each year, you’d be sitting on a five-year return of more than 50%. Shell is a cash cow, and I don’t see how you can lose with it.

Investors often ponder the ‘growth versus dividends’ question. But I think it’s bogus, especially when you’re starting out, and it really doesn’t matter how you get your rewards. To grow your capital, you can just buy more shares with any dividends you get. In fact, many companies will let you take new shares directly instead of cash — it’s known as scrip.

You can take a bit more risk later on and invest in the occasional up-and-coming new growth candidate. But I recommend you get a few years of experience first, and even then only risk a small portion of your pot.

Diversification helps to reduce risk too, and it’s definitely a good idea to spread your money across different sectors. But I temper that with a caution to not diversify too far, or you’ll end up buying shares purely for the sake of it rather than because you think they’re great companies — don’t di-worse-ify.

How many shares?

The second biggest FTSE 100 company, HSBC Holdings, has provided similar returns to Shell over five years. Now, that’s been during the Brexit-led banking dip, so you’d have diversified into two crises — you need more than that.

You’ll find statistical analyses out there which suggest holding 15-20 stocks as a minimum. But I reckon that’s baloney, for the simple reason that it’s just too many for a new investor to fully understand — and you should never buy shares in a company that you don’t understand.

I reckon five or six FTSE 100 stocks in your first few years, chosen from different sectors, is probably enough — and I’ve rarely held more than that myself. For example, take the two above and add British American Tobacco (five-year return of nearly 70%) and Unilever (more than 80%). That’s the four biggest companies in the FTSE 100 and, I think, a great start.

So save your pennies each month until you have enough for a share purchase (and thanks to cheap online brokers, £500-£1,000 is fine), and probe our top companies while you wait.

The essential steps

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Alan Oscroft has no position in any stocks mentioned. The Motley Fool UK owns shares of and has recommended Unilever. The Motley Fool UK has recommended HSBC Holdings and Royal Dutch Shell. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.