Investing in funds and investment trusts is the route often recommended to small investors by the experts.
Picking individual shares means you need to do plenty of research and spread your risk carefully, whereas buying a fund allows investors to pool their money with others to access a range of investments and avoid putting all their eggs in one basket.
Some tap into professional's expertise while others simply track a certain index, some follow popular markets while others allow access to obscure and adventurous corners of the world.
What are funds?
When investors talk about funds they are typically referring to either unit trusts, or open-ended investment companies, Oeics.
This jargon may make them sound complicated but they are essentially just funds where investors' money is pooled to invest in shares, bonds or other funds.
The idea is that as the fund invests in lots of different companies' shares or bonds, the risk of you losing all your money is less than it would be if you were in a single company's shares.
Similarly, most funds will have a fund manager. This will be someone, typically with substantial investing expertise and experience, who will aim to beat the market and provide the best return for investors (although, often they do not manage to do so.)
When times are good a fund manager aims to do make higher gains than their peers, when times are bad a good manager will come into their own by continuing to make money, or just not losing as much as their peers.
Investors have to make a minimum investment, usually £500 to £1,000 to access a fund, and their investment will either go up or down in value depending on how the assets it has bought have performed.
Funds typically have two versions: and accumulation class (acc) which rolls all dividend income back into the fund to boost growth, or an income class (inc) which pays out dividends to those who wish to have them as income.
Investment funds, the typical term for Oeics and unit trusts, carry two sets of charges - an initial charge, which can take a chunk of your money when you put it in, and annual management charges, which go towards the cost of paying the fund manager and running the fund.
Initial charges can be up to 5 per cent but are easily avoidable through a good broker or platform. You do not want to be paying these.
Annual management charges vary, but were traditionally about 1.5 per cent with half of that going to financial advisers and platforms that sold the fund.
Financial regulations stopped these payments for new investments and new clean funds have been brought in, which typically charge 0.75 per cent to 1 per cent and pay no commission back to advisers or platforms
The arrival of clean funds has delivered a somewhat baffling array of types of the same funds. Each tends to have a letter than follows and there is little consistency as to what they mean. If you are looking for the new clean fund then you want what is called the unbundled version, the higher annual management fee types are called inclusive.
Annual management charges are taken from your investment every year and act as a drag on its performance.
Investment trusts, explained in more detail below, have typically had lower charges and did not pay any commission to advisers or platforms.
The annual management charge is not the true cost of investing, however, a closer estimate is the total expense ratio or its replacement measure ongoing charges.
The best way to invest is through an Isa wrapper which shields your investments and their growth from the taxman.
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