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How should I invest £500 today?

Maybe you clicked on this article because you received some money for Christmas. Or maybe you’ve worked and saved hard to accumulate the sum.

Either way, the fact that you’re asking how to invest it is a good sign. The process of investing is a way to multiply money, so you’ve already realised that you need to make your money work hard for you – you really are off to a good start!

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Buffett lights the way

And you’ve come to the right place here at the Motley Fool. Investing is what we’re all about. We all do it and we’re passionate about it, so do stick around.

One of my investing heroes is Warren Buffett, the US-based investor who’s worth billions. He invested his way to become one of the richest people in the world. But he made his first investment on the stock market when he was 11, with exactly $114.75, which he had been saving up since the age of six. To be precise, he bought three shares in a company called Cities Service.

It was the start of a long and fruitful journey for him and maybe you are at the start of a similar one. However, today with £500 to invest, I wouldn’t aim to buy the shares of any individual company because it’s not quite enough money for that, in my view. One problem is that the transaction costs will likely eat up too much of your money and put you behind before you even start.

I’m talking about things such as the broker’s fee when you buy the shares, the spread between the buying and selling prices quoted (the bid-ask spread) and Stamp Duty Reserve Tax (SDRT) at 0.5%. But on top of that, you’ll end up with all your eggs in one basket. Investing in just one company brings with it single-company risk. If something goes wrong with the business underlying your shares, your entire investment is at risk.

Instant diversification

Most investors get around that problem by diversifying into the shares of several companies at the same time, although with £500 you haven’t got enough fire-power to do that. But there’s an elegant solution – funds.

Share funds hold many investments, and when you put money in the fund, your risk is spread over all those underlying businesses, so you achieve automatic diversification. And there are two ways to go with share funds. You can either choose one that’s managed by a professional fund manager, or a team of fund managers, who buy, sell and monitor the investments, or you can go for a passive, low-cost tracker fund.

Tracker funds are good because the ongoing fees are so low. They are run on a mechanical basis and simply aim to replicate the performance of an index or a sub-set of shares, such as the S&P 500 index, the FTSE 250 index, or perhaps the FTSE 100 index. You can also side-step the risk of picking an expensive-but-badly-managed fund if you go for a tracker. So that’s where I’d put £500 today.

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Kevin Godbold has no position in any share mentioned. The Motley Fool UK has no position in any of the shares mentioned. 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.