If you want to make your money grow, then you have probably considered investing in stocks. But investing can be confusing. You may be worried that you’ll lose money if you hold stocks instead of getting richer.
In this guide, I explain some key things you need to know about stocks. I look at what stocks are, why prices fluctuate, what happens if there is a crash, how you can make money and the different ways to hold stocks.
What are stocks?
Stocks and shares are similar. They are essentially a way of owning a very small part of a business. Companies sell stocks or shares in their businesses to raise cash to fund growth.
The term ‘stocks’ is usually used to refer to shares in big companies that are publicly listed on a stock exchange, for example, the FTSE 100 in London. Shares include publicly listed stocks but also include shares in smaller or family-owned companies that are not listed on the stock exchange.
Can I lose money if I hold stocks?
Sometimes, the value of stocks goes down. This is because the price of shares is decided by the stock market. Share prices will usually go up if traders think that a company is good value and will increase profits in the future. But share prices may drop if it looks like the company is doing badly, or may even go out of business.
Share prices can sometimes drop significantly due to market conditions rather than the company itself. For example, if traders think that there will be less demand for oil in the next few years, then the share price of oil companies may go down.
What happens if there is a stock market crash?
A stock market crash happens when nearly all the shares being sold on the market suddenly go down in value. This is often caused by a global or national crisis. For example, there was a big drop in most share prices in March 2020 as Covid-19 lockdown restrictions began.
Stock market crashes are often dramatic because they happen suddenly and severely. It’s important not to panic though. Over time, stock prices often bounce back. If investors sell their shares just after a stock market crash, they often lose money.
In 2020, the FTSE 100 index dropped from 7,404 points in February to 5,190 points in March – a drop of nearly 30%. However, now, in August 2021, the FTSE 100 is back up to 7,135 points, nearly back to its pre-pandemic level.
How can holding stocks make you money?
Stocks or shares can make you money in two ways.
1. Through dividend income
Dividend income is paid to shareholders that hold stocks when companies make a profit, usually once a year. Dividends are not guaranteed and company bosses might decide not to to pay dividends if the business isn’t doing well or if the money is needed for something else.
2. Through capital growth
Capital growth happens when you hold onto your stocks until they go up in value (the share price rises). You can then make money if you decide to sell your shares rather than continuing to hold them.
Why stocks are often a good long-term investment
Many experts recommend that you hold stocks as part of your long-term or retirement savings. This is because, despite big fluctuations, stock prices have tended to rise significantly over time. Historically, investments in stocks have usually beaten inflation and grown more than cash investments over the same period.
According to Barclays, £10,000 invested in January 2001 in cash would have grown to £17,746 by December 2020, a 77.5% increase over 19 years, barely beating inflation. The same amount invested in UK shares would have grown to £23,172 a 132.7% increase.
Of course, there is an element of risk to investing in stocks and past performance is not a guarantee of future success.
What are the different ways to hold stocks?
Stocks can be bought individually or as part of a fund that invests in many different shares. Some people like the flexibility of buying individual shares. Others prefer to invest in a fund because the risk is spread across many different companies.
You can also use a pension or ISA to buy shares or funds. You will still own the same investments as buying a share or fund directly, but you may gain some tax advantages. For example, dividend income within an ISA will not be taxed.
That said, please note that tax treatment depends on your individual circumstances and may be subject to change in future.
There is always some level of risk to investing. And if you’re still worried that you will lose money if you hold stocks, then you might want to take some financial advice before you take the plunge.
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