How the sharemarket works and the effect on your super

During the pandemic, many more people became interested in trading shares. But what is the sharemarket, and how does it affect your super balance?

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Whether it's the pandemic or just the thought of potentially making money, the number of people trading shares has been rising. The Australian Securities and Investments Commission (ASIC) said around 700,000 new share trading accounts traded for the first time in 2020, signalling increased interest in this asset class. But a sound understanding of what's involved will help you understand whether this is for you.

What is the sharemarket?

A sharemarket – or stock exchange – is a place where you buy and sell shares in publicly listed companies, usually through an online broker. And not just shares, you can also buy products such as exchange-traded funds, mFunds and bonds. There are a number of sharemarkets around the world, and you'll often hear the main ones spoken about on the evening news, but in Australia, our main one is called the Australian Securities Exchange – or the ASX.

Why buy shares?

Investors buy shares as a way of making their money work harder for them. With interest rates at record lows, it's very difficult to get decent returns if you leave your money in the bank. However, shareholders can receive capital gains when their shares rise and income through dividends when companies distribute their profits.

There are thousands of companies on the sharemarket in which you can buy shares. And owning shares gives you part-ownership of whichever company or companies you've bought shares in. Once you become a shareholder in a company and have the right to vote and attend annual general meetings.

There can also be tax advantages from owning shares. If a company has already paid tax on their profits, any dividends you receive may come with what is known as a "franking credit". These franking credits can be used to offset any tax you are liable for from other income you've earned. And if you hold your shares for more than 12 months, when you sell, you may qualify for an up to 50 per cent discount, so you pay tax on only half the net capital gain. Alternatively, if you've sold the shares for less than what you paid for them, you've incurred a capital loss and you can use this loss to offset against any tax you may pay from future capital gains.

How risky are shares?

The sharemarket can be very volatile and you may see the value of your shares rise and fall over time. Generally speaking, investments that have greater investment upside also have greater potential risk. Shares are a classic example of a high risk, high return investment - the sharemarket can be very volatile and you may see the value of your shares rise and fall sometimes quite significantly. On the positive side, the share market in general has shown impressive performance over the long term and there are many examples of individual shares that have provided truly spectacular returns to investors.

Another risk factor when investing in shares is "timing risk". Some investors try and time when they buy and sell shares to their advantage. However, this doesn't always work out and you could end up purchasing shares at too high a price or selling them too low. People who try and time the market can miss out on opportunities because they're not invested in the market at critical times when shares do take off.

Fortunately, there are ways to reduce the risk of investing in shares. Investments with high potential return can be volatile in the short term but tend to be more consistent over longer time periods. For example, if you invest in the Australian share market for a period of 12 months, there is a reasonable chance of a negative return. If you invest for ten years, the chance of a negative return is lower. Further, a well-diversified share portfolio (spreading your investment across multiple companies) means that poor performance in one area is less likely to diminish your overall portfolio.

Bull and bear markets

Sharemarkets traditionally go through various cycles including bull and bear markets. A bull market occurs when confidence in the market is strong and prices rise over time. During a bear market, shares typically fall more than they rise – driven by negative investor sentiment and a poor economic outlook. The global financial crisis is a good example of a bear market.

Shares that are considered higher risk tend to do well during a bull market as they're pulled up by positive sentiment. However, they perform poorly during a bear market as investors tend to turn to more defensive stocks or investments such as fixed income. Having a diversified portfolio of shares can help reduce this volatility.

So, should I invest in shares?

This is a decision for you to make – perhaps with the help of your adviser. Investing in shares is much riskier than keeping your money in a bank account, but it may give your money a better chance of achieving greater returns over the long term. Think about why you want to invest, and if the time period you want to be invested for is suitable for investing in shares. You can learn more about shares and the sharemarket by utilising the free resources available from ASIC and the ASX.

And remember, the investment options held within your super fund will generally invest in shares, and you have the option of choosing to invest part of your super directly into shares, so if shares are right for you, topping up your super is another way you can gain exposure to the sharemarket.

As there are differences between investing in shares via your super compared with investing personally (for example, with different tax rates and voting rights), we recommend you read the applicable Product Disclosure Statement before deciding to hold shares through your account or speak with your financial adviser.

What's the fuss about cryptocurrency?

There would be very few people who haven't heard about cryptocurrencies but also very few who fully understand what they are. Investing in cryptocurrency is different to investing in the sharemarkets and therefore has different risks and rewards.

A cryptocurrency is a type of digital currency, with bitcoin probably the best known. There are around 1500 available online. Cryptocurrencies can be traded like any other currency but are considered very high risk. There has been a lot of trading activity in this asset class over the past year and prices have risen as a result. However, views are divided on the possibility of being able to make a lot of money – or losing the lot.

 

Important information: This communication has been prepared by IOOF Investment Management Limited (IIML) ABN 53 006 695 021, AFSL 230524 as Trustee of the IOOF Portfolio Service Superannuation Fund ABN 70 815 369 818. IIML is part of the IOOF group of companies, consisting of IOOF Holdings Limited ABN 49 100 103 722 and its related bodies corporate (IOOF Group).

The information included in this communication is general in nature. It has been prepared without taking account of an investor’s objectives, financial situation or needs and because of that an investor should, before acting on the communication, consider the appropriateness of it having regard to their personal objectives, financial situation and needs.

Any opinions expressed in this communication constitute our judgment at the time of issue and are subject to change. We believe that the information contained in this communication is correct and that any estimates, opinions, conclusions or recommendations are reasonably held or made at the time of compilation. However, no warranty is made as to their accuracy or reliability (which may change without notice) or other information contained in this communication and neither IIML nor any member of the IOOF Group accept any liability for any loss, arising from its use. In some cases, the information has been provided to us by, or obtained from, third parties. While it is believed the information is accurate and reliable, the accuracy of that information is not guaranteed in any way.

Past performance is not a reliable indicator of future performance. The value of an investment may rise or fall with the changes in the market. Any performance returns in this communication are reported before deducting management fees and taxes unless otherwise stated.

Any projection or forward-looking statement (Projection) in this communication is provided for information purposes only. Whilst reasonably formed, no representation is made as to the accuracy of any such Projection or that it will be met. Actual events may vary materially.