How best to invest in the stock market? There are many different ways to put your money to work in the markets: shares, ETFs, and other types of funds like unit trusts and investment trusts.
If you’re struggling to choose between these different investment types, here’s a quick comparison to help you decide which is best for you:
Shares
If you want to invest in a particular company, whether Tesla or Tesco, then buying their shares is the obvious route.
Most shares are traded on a stock market with prices that constantly change throughout the business day.
You’re backing a specific business and returns can be high. As well as potential increases in the value of the shares, many companies also pay their investors a dividend, generally twice or more a year.
But, make no mistake, investing in a company’s shares is risky. Share prices of individual firms can be very volatile. Sharp falls in short periods of time are always a possibility and, at worst, you can lose all your investment if the company goes bust.
ETFs
Rather than picking individual companies to invest in, with an ETF you’re generally investing in a whole market.
Most ETFs aim to closely track the performance of a specific stockmarket index such as the S&P 500, which comprises the 500 biggest companies in the US.
Typically they do this by spreading your money across the shares of all the companies in the index according to their percentage weight within that index. With the S&P 500, for example, this gives you access to the likes of Apple, Amazon and Tesla in a single investment.
As well as share indexes, there are ETFs that seek to track the price of gold and other commodities or bonds. There are also ETFs that focus on specific investment themes such as cybersecurity and climate change.
ETFs are bought and sold on the stock market like shares, hence their full name of exchange-traded funds. But as funds that hold a spread of different investments, they’re less risky than buying individual shares.
Compared with other types of investment funds, ETFs can also be very low cost — with annual charges of as little as 0.05%, or just 50p per £1,000 of investment.
And, unlike with purchases of shares in the UK where you have to pay 0.5% stamp duty (as well as any dealing commission), there’s no stamp duty to pay on ETFs.
However, because most ETFs are designed simply to track a market index, you don’t have the potential to outperform the index and, when the market falls, so will the value of your investment.
Unit trusts and investment trusts
Unit trusts (and their close cousins ‘OEICs’) and investment trusts are also types of investment funds. Like ETFs, they hold a spread of different shares or other investments.
But unlike ETFs, in most cases these funds are trying to beat the performance of their chosen market.
They do this by buying investments they think will do well, and avoiding those they think will do badly.
Some of these ‘actively managed’ funds outperform, but most don’t — particularly over time. They also tend to have higher charges than ETFs.
Unit trusts/OEICs are simpler than investment trusts. The former can only be bought once a day through their fund manager, there’s no stamp duty to pay and generally no dealing commission.
Investment trusts, on the other hand, are bought and sold in the stock market like shares or ETFs. They can increase their investment exposure using borrowed money (called ‘gearing’).
Shares of an investment trust can also diverge from the value of their underlying portfolio of investments, and may trade at a ‘discount to net asset value (NAV)’, or at a ‘premium’.
Both gearing and changes in an investment trust’s discount/premium can enhance or detract from the performance of the underlying investments.
And like other shares in the UK, purchases of most investment trusts are subject to 0.5% stamp duty.
At InvestEngine, our focus is on ETFs. Their low costs and diversification, along with wide choice and ease of buying and selling, make them an excellent option for investors’ portfolios. Find out more about why we love ETFs.