When it comes to investing your pension or other savings into the stock market you will need to decide between funds vs shares.
The world of investments isn’t scary when you start to understand it and it doesn’t need to be high risk.
At the end of the day, this type of investing means owning parts of the great businesses of the world. The companies that you buy from every day. Businesses that are at the forefront of innovation and solving societies problems.
It’s vital that money you plan to hold for the long term is invested. Otherwise the effects of inflation are going to eat away at it, you will be poorer in the long run and ultimately lose choices.
So, let’s look at funds vs shares and see which is the best way for you to participate in the world’s greatest money-making machine.
Fund vs shares – The main differences
When you choose between funds vs shares you will ultimately end up owning the same thing, shares in publicly listed companies. Companies that are listed on one of the various stock markets around the world.
You may already be familiar with some of these stock markets like the London Stock Exchange and the New York Stock Exchange.
Some funds will even give you access to private companies.
The main difference between an investment fund and shares is that if you invest into a fund you won’t own the shares directly. Instead, you will own units in the fund. The money you invest in the fund is pooled together with lots of other investors and is then used to buy shares in lots of different businesses.
The collection of shares the fund buys will be called its portfolio.
The price of the units you hold in the fund will reflect the value of the underlying portfolio. For example, if your fund held just two shares in two different companies and both these share prices went up by 5% you would have made a 5% return overall.
If one share price went up 5% and one share price went down 5% you have made a 0% return.
Funds are run by fund managers and the bigger the fund, the bigger the team supporting them.
The market is now full of hundreds of thousands of investment funds and there are a few different types of funds including:
- Open ended investment companies (OEIC)
- Unit Trusts
- Investment Trusts
- Exchange Traded Funds (ETF)
In America they also use the term mutual funds.
Although there are some differences between the above list of funds (that’s a blog for another day) the basic principles are the same.
Each fund must clearly state its objective. Some will only focus on buying shares in certain parts of the world. Others will only buy shares in certain sectors of the economy. There are also very generic funds that invest globally in everything.
There are two main types of investment fund management styles. First, we have active management which means the fund manager is trying to ‘beat the market’. Meaning he or she believes that they can select companies to invest in a particular country or sector that will outperform the others.
Secondly, we have passive or index tracking management which doesn’t try to beat the market but instead buys all the companies listed in that particular country or sector and effectively delivers the average.
The large majority of funds are regulated meaning they have to comply with certain rules set out by the financial regulator. Some of these rules include:
- Approval of the fund manager.
- Restrictions on how much can be invested into one company.
- Appropriate fund documentation.
- Advertising restrictions.
The idea of these rules is to protect investors.
There are however some funds that are unregulated which means less restrictions but come with potential risks for investors.
If you don’t go down the investment fund route, then you can of course buy shares directly in a listed business via a stockbroker account.
You can decide which shares to buy and as long as you have enough money in your account to buy the share at the price it is including charges, you can be a proud owner of a piece of that business.
Funds vs shares – the pros and cons
Investment funds – the pros
- You may benefit from an expert fund manager and team who may understand the market you want to invest in better than you.
- Requires less time and effort research and monitoring your portfolio. The fund manager will be deciding which shares to buy and sell.
- Good for people who don’t understand much about investing as the fund manager takes care of everything for you.
- A fund will hold shares in many businesses which means more diversification. This ensures it is unlikely you can lose all your money as this would mean every business in the fund would have to go bust for that to happen.
- Can achieve diversification at a lower price as an investment into a fund may ultimately mean you have indirect exposure to thousands of different companies. To buy these all yourself would be very costly.
- Usually easy to get your money back if needed as most funds are open ended meaning they just cancel units and give your money back rather than waiting for a buyer.
- No Capital Gains Tax if a fund manager decides to sell shares that have made gains inside the fund. You only potentially pay Capital Gains Tax when you sell your units in the fund if not in an ISA or pension.
- Funds can be regulated offering consumer protection.
Investment funds – the cons
- Ongoing management charges. This is usually taken as a percentage of your investment into the fund and will of course reduce overall returns.
- Too much diversification can reduce returns as the performance of your winners can be dragged down by your losers.
- Regulation restricts how much a fund can hold in one company which could mean having to sell a winner if the share price has done really well and become too big a part of the fund.
- Buy holding more companies in the same country or sector you are exposed to overall market risk meaning the unit price in the fund could go down if the majority of the market is down.
- There are lots of different funds to choose from so it can be difficult to decide which fund manager is best.
- Fund managers come and go so the fund you originally invested in can look very different over time.
Shares – the pros
- Allows direct exposure to a business you may understand.
- The potential to receive the full up or downside of the share performance.
- You can concentrate your portfolio into just a few different companies if you wish.
- Allows you to focus only on companies you understand.
- For those that have a passion for it, it can be fun researching different businesses.
- There are lots of different research websites out there nowadays, a lot of which are free. It’s easy to get access to the same information as fund managers as long as you have the time and skill.
- Low ongoing management costs for the actual broker account including some that charge fixed fees.
Shares – the cons
- There is the potential to lose all your money in one business if that business goes bust.
- It’s harder to diversify your portfolio as it will take a huge amount of time to research lots of companies and charges will be significant.
- Research and picking shares to invest in can take a lot of time and requires skills in business and finance.
- There are usually higher charges to buy and sell individual shares.
- It can be difficult to sometimes sell shares in very small companies if there are no willing buyers in the market at the time you want to sell.
- You may pay Capital Gains Tax on gains you make on shares you sell if the shares are held outside a pension or ISA.
When it comes to funds vs shares there is no right or wrong way to invest. It mainly comes down to whether you have the time, inclination or skill to pick and manage your own shares.
If not, then funds are definitely going to be better for you.
I would also urge any investing beginners to use funds first as this will be a safer option whilst you find your feet and understand how everything works.
A good overall solution could be to do a bit of both. Hold the bulk of your retirement funds in global equity funds and then have a smaller proportion in a portfolio of shares that you manage. At least this way if you do make the wrong decisions on your shares, you still have the bulk of your retirement fund doing well.
The key thing is that you do actually invest.
If you would like to stress test your retirement plans or even to get a plan in place then please get in touch for a free no obligation 15-minute call. We would be happy to review your position, explain where you stand and what you need to do to get the outcome you desire. We have created hundreds of happy and protected retirements over the years. This could be you too.
Risk warning:
Stock market linked investments and any income from them, can fall as well as rise and is not guaranteed. Any figures quoted are for illustrative purposes and should not be taken as a forecast or guarantee. Past performance should not be seen as an indication of future returns and clients may get back less than they have invested.
