Deciding your investment strategy
In our earlier article titled “How to buy your first shares“ we described a 10 step buying process.
The first step was about deciding on your investment strategy and this is what we cover now.
The first thing to remember is that we are investing.
As we have also described in earlier posts, investing is about making a profit.
Whilst we are concerned here with investing in shares, and with companies shares in particular, we therefore need to consider how we can make a profit from buying and selling companies shares.
Essentially, there a two fundamental ways we can do this.
Firstly, we can sell shares at a higher price than we bought them for, known as making a capital gain.
Secondly, we can buy and hold shares that pay a dividend, thus generating a regular income from our shares.
It is possible, of course, to achieve profits from both methods with a share investment but not always.
That’s because some companies don’t pay a dividend.
So given the two fundamental methods, what will be our strategy i.e. how will we make a profit. Some example strategies might be:
- Investing in shares that pay a large dividend on a regular basis, also known as creating a High Yield Portfolio (HYP);
- Investing in shares of companies that are growing fast, known as high growth shares;
- Investing in shares that have had a bad time recently but are beginning to improve again, also known as value investing;
- Investing in shares of companies that are exploring to discover oil, gold or other natural resources;
- Investing in shares that are producing commodities such as oil, gold, etc. when commodity prices are rising;
- Investing in large ‘blue chip’ companies that are relatively safe and expanding (this is what pension funds tend to do);
- Investing in shares of cyclical companies during an economic up-cycle;
- Investing in shares of ‘defensive’ companies during an economic down-cycle;
- Investing in shares that have been rising recently which you expect to keep rising for a while, known as momentum investing;
- Investing in shares that are undervalued by the market, also known as contrarian investing;
Of course, there are many more ways of generating profits – you may have already thought of some more yourself?
However, the ones listed above are some of the most popular ones and are the ones that I have used myself most often.
The most important thing now is to decide which strategy you will use for your next investment.
But how are you going to do this?
Well, the thing to do is to choose a strategy which you understand and are therefore comfortable with applying.
Your chosen strategy also needs to fit the economic circumstances and conditions of the stock market at the time when you are investing.
Hence investing in defensives is a good strategy when economic recession is expected like it is in the UK and European markets at the moment.
You also need to consider your appetite for risk.
Investing in oil explorers is much more risky than investing in large blue chip defensives, for example, just because of the nature of the respective businesses involved.
Whatever you decide, the main thing is that you feel comfortable and calm about what you are going to do – well, as calm as you can be that is.
That’s not just because you want to be able to sleep at night!
It’s also because you will be expecting to hold your shares for a while, long enough for the company to pay dividends or for the share price to rise appreciably.