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Guide to Essential Money Tools
Investing Tools
Equities and bonds
All investors should appreciate the differences between the two primary asset classes of investment – equities and bonds.
Equities
Buying equities (shares) means you are buying part ownership of a company, but at a level which doesn’t involve you in the management or operation of its business. Investors earn a return from their investment in two ways. To begin with, any superfluous profits the company generates are divided amongst its shareholders – this payment is called a dividend. And secondly, if you have invested in a company whose performance is strong, the value of the shares you are holding may increase – thus giving you capital appreciation.
The downside (there always is one) is that being a part owner means accepting losses should the company’s performance falter and its share price drop. In times of continued poor performance, a company’s board of directors may elect not to pay any dividend to its shareholders.
Over the long term shares have always proved to be the best-performing asset class, but their short-term volatility requires shareholders to have nerves of steel.
Bonds
Bonds are essentially IOUs. They are loan arrangements which are made between the borrowers (issuers) and the investors (bondholders).
Issuers can be governments or companies. Investors will appreciate that there are some governments who are deemed ‘safe as houses’ (such as the UK government whose bonds are called gilts) and others which are undoubtedly high risk.
Bonds work by the issuer agreeing to make payments of interest (called coupon payments) to the bondholder for the bond’s life (a period set at the outset) and repaying the original sum of money when the bond matures.
Along with the bond’s term, other agreements include the rate of interest to be paid to the lender and the frequency of interest payments.
Bondholders like the fact that they know at the outset what income they will earn from their investment and when the money will be received.
However, bond investors wishing to trade should be aware that the price of a bond can vary until its maturity, according to prevailing interest rates. By and large, investors can expect the price of a bond to fall when prevailing interest rates rise, and rise when rates fall.