In recent weeks, Personal Finance has explained how you would go about investing in and choosing different types of unit trust investments. This week, as part of our series on how to manage your money, we discuss how you would go about investing in shares.
If you buy shares in a company, you invest directly in that company, unlike buying unit trusts, which is an indirect way of investing in shares. You can buy shares in unlisted companies or in companies that are listed on a stock exchange.
Shares are considered a good investment because they can provide inflation-beating returns over the long term.
Investing in shares gives you an opportunity to share in the profits that companies make. A share is a slice of a company that gives you a small claim on that business's earnings and assets. As a shareholder, you are usually one of many part-owners of the company, and you may have voting rights at the company's annual general meeting (AGM), depending on the type of share you buy (See "Types of shares").
By law, a listed company must hold an AGM at which shareholders have the right to vote on issues such as the appointment of the board of directors, the state of the company's accounts, remuneration for directors and even the company's future.
Shares can be traded between willing buyers and sellers at prices higher or lower than those at which they were issued.
If shares are listed on a stock exchange, this trade takes place in a regulated environment. Before a share can list, a company must meet certain minimum requirements regarding share capital, the number of shareholders and pre-tax profit.
The price of a share will rise or fall depending on what investors think about the future profits of the company. If they think a company is going to make great profits, demand for the share will increase, so its price will go up.
You make a capital gain on shares if you sell them for a higher price than what you paid for them. You make a capital loss if you choose to sell when the share price is lower than when you bought the shares. If you make a capital gain of more than R17 500, you have to pay capital gains tax of 10 percent.
Bulls and bears
If share prices are generally following an upward trend, it is known as a bull market. If share prices are generally falling, the trend is known as a bear market.
Companies issue shares to raise finance for their operations. Issuing shares can be more advantageous than a loan from a bank, because a loan has to be repaid and attracts interest.
As a shareholder, you are entitled to a portion of the profits made by the company. Some of this profit can be paid to you in the form of a dividend. The balance is retained by the company in order to grow its business.
Previously, dividends were tax-free because companies paid secondary tax. Recent changes mean that you have to pay 10 percent tax on dividends, but since companies are no longer paying secondary tax, they are likely to absorb this new tax.
Investing in shares that pay high dividends can create a steady source of income for you.
Alternatively, you can invest in shares that are likely to give you good capital growth because their prices are expected to appreciate strongly. Or you can opt for shares that are likely to deliver a combination of dividends and capital growth.
You can also, in private deals, buy shares of unlisted companies, but you have far more security with listed shares.
Companies listed on the JSE must meet certain ongoing regulatory requirements. For example, they must provide their shareholders with regular reports on their financial status.
The JSE can impose a fine of up to R5 million on companies that do not comply with its requirements. It can also suspend or terminate a listing if it believes this is in the best interests of shareholders.
In addition, the JSE regulates stockbrokers, who buy and sell shares, and offers you protection against brokers who do not act in your best interests.
These requirements, together with the fact that listed companies need to be transparent, mean an investment in a listed share is much safer than one in an unlisted share.
WHAT RISKS ARE INVOLVED IN BUYING SHARES?
The rules that govern the stock market regulate the environment in which you trade, but there is no guarantee that you will make money on your shares.
The price of a share depends on the demand for and supply of that share. If a company is doing well, many investors will want to buy its shares, demand will increase and the price will increase. But if investors are worried about a share's future, they may sell their shares, resulting in an oversupply of that share, which results in the price falling.
Investors may be worried about a share because:
- The company is doing badly financially;
- The market sector in which the company operates is doing badly or is expected to do so; or
- All share prices on the market are falling due to changes in the economy (locally or globally) or because of political events.
In South Africa, the share market is also influenced by the value of the rand and related currency issues. This is because many companies listed on the JSE have offshore earnings, deriving a significant proportion of their profits from exports and/or offshore operations. If the rand strengthens against the relevant currencies, these companies' profits may drop.
Although there is no guarantee that you will make money on shares, the longer you remain invested, the higher the likelihood that you will earn inflation-beating returns.
You should also only invest money you will not need to access at short notice, because you don't want to be forced to sell when the price of the share is down.
HOW DO I BUY AND SELL SHARES ON THE JSE?
You can buy shares in listed companies only through a registered stockbroker who is a member of the JSE. This affords you some protection, because registered stockbrokers are required to conform to rules and regulations set by the exchange.
Stockbrokers are able to advise you about which shares to buy and when to sell them. If you want your broker to do this for you, you will be regarded as a full-service client. If you want the broker simply to carry out your buy-and-sell instructions, you will pay a discounted fee and will be using the broker on what is known as an execution-only basis.
To find a stockbroker, visit the JSE's website, www.jse.co.za, and follow the "Locate a broker" link for a list of brokers.
You can also use an online broker, which enables you to do transactions over the internet.
You will have to open a trading account with the broker.
Many brokers do not have minimum investment amounts. However, the less you invest, the higher your relative costs will be.
Your stockbroker will buy or sell shares on your instructions, at the best possible price at the time or at the price you request (if there is a seller at that price), using the computerised TradElect system.
In the past, when you bought shares, you were issued with a paper certificate. Today the JSE uses an electronic settlement system called Strate to record share ownership. Under the new system, you do not get a share certificate; instead your name or the name of your broker is entered on a central electronic register, known as the Central Securities Depository and kept at the JSE.
Sub-registers, which are electronically linked to the central register, are kept by Central Securities Depository Participants (CSDPs). CSDPs, which include banks, have to be licensed by the Financial Services Board.
Your broker will have an account with a CSDP. Stockbrokers may hold your shares in a nominee account in their name at the CSDP, but they must keep a separate register that shows how many shares you hold. Your broker should send you statements regularly that reflect the value of your shareholding.
When you buy or sell shares, your broker will send you a broker's note to confirm the transaction. You must have money in your trading account to cover the costs of the shares you are buying and you must pay for them within five working days.
You can sell your shares at any time, but if you have a minimum price in mind, you may have to wait until the stockbroker finds a buyer who is willing to pay that price. At times it may not be possible to sell at the price you want.
Once the sale has gone through, you should be paid within three working days.
TYPES OF SHARES
Shares take different forms: there are ordinary shares, low-voting or "N" ordinary shares, and preference shares.
Holders of preference shares, or "prefs", have preferential access to a portion of the company's profits through dividends.
Holders of N shares receive dividends but have a limited right to vote at company meetings. An N share has anything from 1/10th to 1/500th of the voting weight of an ordinary share.
Shares are also called equities, because, except for those who hold N shares, shareholders have equal voting rights and share in profits and risks in proportion to the size of their stake in the company.
INVESTMENT COSTS
The share prices of listed companies range from a few cents to a few hundred rands, and may change many times during the stock market's trading hours.
To buy shares on your behalf, a stockbroker will open an account in your name. If you are using a full service, you will pay an ongoing annual management fee - usually one percent of your total investment for the year.
For both a full or a discounted service, you will pay commission per transaction to the stockbroker, which is known as brokerage. Brokerage costs may be lower if you are a full-service client.
You will also pay VAT on the brokerage fee.
Broking firms have different fees and brokerage rates, so before deciding on a firm you should compare its rates and fees with those of other firms.
You pay tax when you buy shares - uncertified securities tax (UST), at 0.25 percent of the value of the transaction. This tax, which does not apply when you sell shares, is included in your brokers note. You also pay capital gains tax (CGT), when selling, of up to 10 percent on profits of more than R17 500.
On each transaction you will pay an administration fee (Strate charge) of 0.005 percent of the transaction value, plus VAT. The minimum charge is R10.92 and the maximum is R54.59.
There is also an investor protection levy fee, which is fixed at R0.02 a transaction.