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It’s no secret that the year-on-year inflation in many countries is rising at a worrisome pace. This is perhaps why recently more and more investors abandon traditional investments, like bank deposits and real estate, in favour of company shares.
If you’ve grown tired of watching inflation eating up your savings account and want to invest in shares, but don’t know how, you’ve come to the right place! Before we walk you through the entire process, however, you’ll need to ask yourself one simple, yet crucial question.
What do you hope to achieve?
Buying and selling shares is not as easy as it may initially seem, which is why you should define your financial goals well in advance. Do you wish to retire before turning 40? Maybe you fancy living in a well-to-do neighbourhood and want a car to match the part? Or perhaps you just need enough funds to back up your children’s expensive education abroad?
Whatever your cause is, be honest with yourself—if you look at this venture as a way to make a quick buck, then you should probably turn around now and pursue some other calling. Being an investor means to be patient, disciplined and willing to take many risks. If you are fine with these requirements, let’s move on to the thing you’re reading this article for—company shares!
What are shares?
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Shares are a type of security that can be bought and sold on the so-called stock markets. Stock markets let you invest in a wide range of financial assets, ranging from currencies, precious metals, and indices to commodities and, of course, shares of popular companies like Nike, Coca-Cola, Apple, and Netflix. There exist two main types of shares on the markets—equities and CFDs (Contracts for Difference) on shares.
1. Equities vs. share CFDs
Equities
Traditional shares, also known as “equities” are securities which grant the buyer the right to own parts (shares) of a publicly traded company. Simply put, each share represents a tiny “fragment” of a company, which its board of directors will sell on the regulated market in order to reach a wider investor audience and fund its business goals.
The price of equities depends on several factors: how successful the company is, how strong is the investor interest, and how favourable are the market conditions. With equities, the name of the shareholder (investor) is written down in a special register. The shareholder will then physically own the purchased assets which will give that person certain benefits. These include:
– Dividends: a bonus sum received at the end of a pre-announced period (usually monthly, quarterly, or yearly)
– Liquidation share: should the company file for bankruptcy and any funds remain after all debts have been paid, the shareholder is entitled to receive a portion of that money as compensation
– Right to vote: physical ownership grants the investor the right to voice their approval or disapproval of major changes within the organisation or in its policies
2. CFDs on shares
Today, you don’t necessarily have to physically own company shares. An alternative to equities are the so-called Contracts for Difference. Essentially, CFDs are financial products with which you can benefit from the price movements of shares, indices, futures and other assets without actually owning them.
Example: Intel shares are priced at $30 each and you believe that they are currently underpriced, so you purchase CFDs on 150 Intel shares. Should the price increase by $1 to $31, you will gain $150. Should the price drop below $29.50, you will lose $75.
А key distinction that separates CFDs on shares from traditional shares is that you are not physically owning any of the assets.
Advantages of investing in CFDs on shares
I. Leverage
Leverage allows you to buy CFDs on shares at their real market value, but at just a fraction of the cost. However, while setting leverage too high could potentially lead to better profits, it may also result in substantial losses. Let’s observe how leverage this works in practice.
– You have $1000 and wish to purchase Under Armour shares for $42.60 a piece. This means that the total value of your investment would be $4260.
– The required leverage for the transaction is 5%, which means that you will need to have at least $213 in your account balance to buy the CFDs ($4260 x 5%). Once the transaction is completed, you will be left with $787 in your account which you could then use to purchase other CFD instruments if needed.
– If the price of a share CFD increases by $1.40 to $44 and you close your position, the income from your investment will be $140. This way, the leveraged (blocked) sum will now be $220, while the available funds will be $920.
– If the price of a share CFD declines by $1.60 to $41, you will lose $160. In this case, the blocked funds will amount to $205, while the available funds will be $635.
II. Dividends
Last, but not least, just like traditional shares, with CFDs you can still benefit from dividends. These are regular payments (usually on a quarterly basis) that shareholders receive as a “Thank you” for holding onto the company’s shares for a certain period of time.
How to choose a reliable investment intermediary
Now that you know the advantages of investing in CFDs on shares, the next logical step is to figure out how to add them to your investment portfolio. Typically, CFDs are purchased from investment intermediaries—licensed companies offering a wide range of market services.
The purchase itself happens through online trading platforms, which we will discuss a bit later. So far, so good, we hear you say, but with CFD markets becoming increasingly saturated, how can you be sure that you’ve landed on the right broker?
When you choose an investment broker, you should immediately check:
– Whether they own a license
– What are their CFD trading conditions
– What their platform has on offer
Step #1: The license
Every legitimate investment broker should own a license by the official financial regulatory authority of a given country. For example, in Bulgaria every company should be licensed by the Financial Supervision Commission, which grants the broker the ability to carry out its activities within the country and abroad. DeltaStock owns such a license with a Licence No: RG-03-0146.
Step #2: The trading conditions
Once you’ve verified that the broker is licensed, you now need to carefully study their list of fees and commissions. For example, when buying or selling CFDs on shares, most intermediaries will charge a percentage of your invested money as commission.
For instance, if you decide to buy 5 CFDs on Amazon shares for a total of $500 and a commission of 0.5%, the fee on top of this transaction would be $2.5. In addition, you may also incur a yearly “account maintenance” tax.
Last, but not least, research what steps the investment intermediary has taken to ensure the safe protection of your funds. For example, every licensed investment intermediary should keep its funds in separate accounts from those of their clients. In the case of Bulgarian companies, they should also be guaranteed by the Investor Compensation Fund.
Step #3: The trading platform
Is the interface simple to use? What technical indicators does the platform offer (Moving Average, Bollinger Bands, RSI, MACD)? What type of markets will you have access to and in how many companies will you be able to invest at once? How about useful tools like an economic calendar or newsfeed in real time?
These are just some of the questions which you will need to answer as you test the platform with the help of a free demo account. In case you need further advice on how to choose the right investment intermediary, you can find all necessary information in this article.
4 principles to follow when choosing CFDs on shares
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Now that you’ve found a reputable company, the next step is to choose which shares you want to invest in. Don’t have the slightest clue where to start? Below are the 4 tried and tested principles that you can use to build a solid investment portfolio in no time!
1. Don’t invest in markets you don’t fully understand!
Common sense, right? Unfortunately, many modern-era investors choose companies that operate outside of their familiar industry fields and often end up losing money because of that.
Don’t be like these investors—if you are into IT tech and have zero knowledge of the pharmaceutical industry, don’t succumb to the temptation of investing in a highly successful pharmaceutical company just because others are doing the same thing.
Aiming for companies that inspire you and whose mission, goals, and potential you’ve studied through and through will help you better decide when to hold onto your CFD shares or when to close out your positions to prevent further losses.
Conversely, investing in companies you don’t fully understand will mean that you will likely have your guard down if and when the markets turn against you.
2. Focus on companies with a solid reputation
A good way to provide a safety net for your investment (especially in the beginning) would be to create a diversified portfolio with established companies within their respective sector. As for which companies to choose, ask yourself this—which companies, in your opinion, would still operate on the market in 10, 50, 100 years from now?
3. Get to meet the people behind the steering wheel
Just as the ship crew’s survival depends on the skills of their captain, so is a company every bit as good (or bad) as their leaders. Behind-the-scenes drama or disrespectful attitude towards clients and employees have been known to bankrupt quite a few businesses.
This is why you should always check all possible sources to confirm (or disprove) the competency and integrity of an organisation’s executives before investing your hard-earned money.
4. Don’t count on past successes
Just because a company has been successful yesterday doesn’t automatically make it a good investment today. While you sift through the quarterly earnings reports, try to assess if the current success of a company is based on a sound strategy and not just on favourable market conditions.
How to build an effective financial strategy
Set a budget (and stick to it)
You don’t have to be a billionaire to invest in the markets. A good way to start is to deposit €50-€100 each month (or every quarter) into your account. By investing in stages, you will grow much more accustomed to the constant price movements on the markets and will learn to accept losses as a natural part of success.
Choose your investment approach
After you’ve determined how much and in which companies you are going to invest, the next step is to choose whether you want to follow an active or a passive investment strategy.
An active strategy is aimed at getting short-term results and includes the frequent buying and selling of share CFDs at the most affordable price. This strategy requires deep research, knowledge and, most of all, time as you will need to be constantly monitoring price movements.
With a passive strategy, you leave your positions for the most part “untouched” for a specific period of time. This approach is more suitable for people with a wider investment horizon, but who often don’t have the free time to keep constant tabs on the markets.
Build a risk profile
Markets never stay still and there are often times where the rise and fall of an asset’s price can make the chart look like the drawing of a 6-year-old. If you as much as shudder at the thought of experiencing even the slightest price dip, think about investing in traditionally safer sectors like energy or in manufacturers of goods for mass consumption.
Risk management strategies
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Don’t be fooled by the advice of self-proclaimed “experts”—there is no such thing as a safe investment! A company that rides the wave of success today may face bankruptcy tomorrow, a fatal delay in the trading algorithms can close your position at a worse than requested price, and so on and so forth.
What can actually help you protect your funds is your own knowledge of fundamental economic principles and the companies you invest in. Still, there are a couple of techniques you could employ to protect your funds when things don’t go according to plan.
– Use stop and limit orders. These are “commands” that instruct the trading platform to automatically close an open position at a requested price. For more information on how different order types work, make sure to check our extensive article on the topic.
– Make gradual Investments. Market behaviour is often times unpredictable, which is why a popular strategy is to invest small amounts of money at regular intervals.
– Diversify your portfolio! Investing in a single company or industry sector is not only impractical, but also incredibly risky. Spreading funds between different companies will allow you to extend your market presence. This will also mitigate your losses if the financial condition of any of the businesses in your portfolio suddenly worsens.
– Don’t use overly high leverage. Although this could potentially net you bigger profits, leverage that extends far beyond your comfort zone can significantly amplify your losses as well.
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