Essentially, people buy shares because they expect the share price to go up and/or because the shares will earn them income in the form of dividends.
The rise in the share price, or the increase in the value of a stock over time, is known as capital growth. You might buy shares in a company at $2.50, say, and a year or two later they're worth $3.10.
If you sell the shares at this point you 'realise' your gains by pocketing the difference between what you paid for the shares and what you sold them for. Until you sell, any capital gain is 'on paper'.
Of course, the flip side is that if things haven't gone well for the business, its sector or the market overall the shares might well be worth less than $2.50. That's a capital loss.
Some people – retirees, for example – are more interested in the income a stock will provide.
Dividends are payments made by companies to shareholders out of their profits. Not all companies pay dividends – some will have a stated policy of ploughing most of their profits back into the business, to help it grow.
Companies that do pay dividends might have a policy of paying out, say, 60 per cent of profits to investors.
Dividends are usually paid twice a year – an 'interim' dividend halfway through the year and a 'final' dividend at the end of the year (together, they form the total or annual dividend).
There may even be a one-off 'special' dividend for some reason – perhaps the sale of a business division has left the company flush. A company might announce a share 'buyback', where it distributes excess funds to investors by buying back some of their shares at a set price.
Any dividends you receive must be included in your annual tax return, as does any capital gain or loss you incur upon selling shares. Don't forget to claim any franking credits on your dividends, too.
Seven share investment rules:
- The trend is your friend.
- A mate with a hot tip is not your friend.
- Don't buy or sell in one hit, use cost averaging.
- It's time in, not timing, that counts.
- Past performance means you've probably missed the boat.
- Cut your losses, let your profits run.
- Long-term investing beats short-term trading.