Equity derivatives provide an opportunity to seek enhanced income returns from share investments, while managing risk and providing portfolio hedging
Before you research a single stock, let's run over some of the basics of share market investing
The share market was created as a place where companies could raise capital to expand and develop new businesses where traditional forms of debt and equity had been exhausted. It allows investors to seek a return on their capital by becoming a source of funding.
The first stock exchange opened in Amsterdam in 1611. In Australia the first exchange was opened in Melbourne in 1861, but it was not until 1987 that state exchanges merged to form the Australian Securities Exchange (ASX). Modern indices that allow investors to quickly gauge the market, like the All Ordinaries Index and the S&P/ASX200 did not start appearing until 1980 onwards.
Today, the market capitalisation of ASX listed companies is about $2.3 trillion, with over 2300 listed companies. Of the top 200 companies by size that make up the ASX200, 28.4% are in the financial services sector, over 24% in the resource sector, nearly 9% in health care, 7% in industrials and 6-7% in consumer discretionary and real estate. Other sectors include telecommunications, energy, utilities, and information technology.
What is a share?
Generally, each unit of ownership in a company represents 1 ordinary share. When you buy a share, you are becoming a part owner of the company. Being a shareholder gives you the right to attend annual general meetings, vote on proposals put to the meeting and receive a pro-rate portion of any dividends declared.
There are other types of securities like preference shares, put and call options, warrants and swaps, but mostly they are used in more advanced equity strategies that utilise leverage to amplify profits (or losses), or have specific terms preferred by a type of investor, like an institutional investor.
Research before you invest
An important aspect of a successful listed company is its board of directors, who determine a company’s strategy and vision. In Australia the chief executive officer is normally a board member and the chairman of the board is non-executive, meaning the latter does not participate in the day-to-day running of the business, which is managed by the CEO and their executives.
For any company you consider, it’s important to understand the industry it is in, how it is performing against its competitors and any risks or challenges facing that industry, including macro and political considerations that may not just impact the broader industry but also an individual company.
From tickers to takeovers
Each company has its own unique ticker or three letter abbreviation. Typically, the abbreviation will relate to the company name. For example, the ticker for Wesfarmers is WES, while the ticker for Rio Tinto is RIO. If you are on a share trading platform or any place that provides share prices, the ticker can be used to look up individual companies.
All listed companies may be the subject of takeover. In the case of a takeover offer, the board of directors will review the offer and make a recommendation to the shareholders about whether to accept or reject the bid. It is up to the individual shareholders to decide whether they should accept the offer. Companies can also merge, buy and sell businesses and these transactions may change the direction of the company. In a worst-case scenario, a company may fail and need a rescue package from another business or its creditors, including shareholders.
A company may also go into liquidation. In the event of a company failure, shareholders face the real possibility of losing all or a significant part of their investment.
Show me the money
When companies are successful and make profits, they return some of that profit to shareholders via the payment of dividends. Typically, dividends are paid twice a year. Dividends vary depending on how the company is performing. During tough times dividends may be cut or even suspended, and new companies may not pay any dividend in initial years as they use available cash-flow to grow the business. For instance, resources companies may pay high dividends during a resources boom, like we experienced between 2003-2011, but pay out substantially less when commodities prices fall for a prolonged period.
Boards may also decide not to pay a dividend to preserve cash for tactical reasons, like a significant acquisition, or to pay down debt or for other corporate reasons.
Of course, a big reason people buy shares is to benefit from the appreciation of the company’s share price. While sometimes investors may seek to capitalise on an event to make a short term gain, they generally seek medium to long term gains from their investments.
It pays to keep a watch on your investments
Each year a company will put out an annual report. Again, it’s an important document as it details the company’s strategy to grow, details all its debt obligations so you can determine its solvency, and gives a general update on the past year’s activities.
While some listed companies have successful corporate histories over the course of many decades, it should be remembered that companies do fail, particularly if the industry they operate in changes radically. For example, technological disruption and innovation has rapidly transformed industries and even created whole new industries, like social media platforms, over the past two decades.
The share market is a mainstream destination for Australians seeking to get a better return on their capital, so there are a lot of websites, newspapers, magazines, and other resources for investors to stay informed. There is also a wide selection of competitively priced share trading platforms, making the purchase and monitoring of domestic and offshore shares a reasonably simple task.
Staying informed and knowing how the broader economic picture will influence your investments are important aspects a of being a successful investor. Buy and forget strategies may not get you the best result, but neither will watching your portfolio change multiple times a day. Determine your strategy, enact it and be a patient investor to achieve long term goals and wealth– happy trading.
The information contained in this article is gathered from multiple sources believed to be reliable as of the end of September 2023 and is intended to be of a general nature only. It has been prepared without taking into account any person’s objectives, financial situation or needs. Before acting on this information, we recommend that you consider whether it is appropriate for your circumstances and that you seek independent legal, financial and taxation advice before acting on any of this information. ©2023 NAB Private Wealth is a division of National Australia Bank Limited ABN 12 004 044 937 AFSL and Australian Credit Licence 230686.
The information contained in this article is intended to be of a general nature only. It has been prepared without taking into account any person’s objectives, financial situation or needs. NAB does not guarantee the accuracy or reliability of any information in this article which is stated or provided by a third party. Before acting on this information, NAB recommends that you consider whether it is appropriate for your circumstances. NAB recommends that you seek independent legal, property, financial and taxation advice before acting on any information in this article. You may be exposed to investment risk, including loss of income and principal invested.
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