YOUR MONEY; Don't lose your balance

In the second of a series for novice investors, Anthony Bailey shows how to mix safety with risk taking

NICK LEESON'S huge trading losses that broke Barings Bank - or indeed the latest losses at Daiwa Bank of Japan - have served to reinforce the suspicions of many that the money markets are little more than glorified casinos and no place for the ordinary saver. Sticking to the building society is the safest bet.

But taking some risks should mean bigger returns. And by building up a diversified portfolio of investments, you spread the risk. The idea is that even if you do a Leeson with some of your investments, the performance of the rest will act as a counterbalance.

Bank and building society deposits may not be classed as a "risk" investment, but there is a risk involved - apart from the fact that the institution holding your money may collapse. The risk is that the real value of your money - including interest - will fail to keep up with inflation.

Putting money into a balanced portfolio of investments should protect its real value against inflation as well as achieving a return over and above inflation.

Inevitably, the first part of any portfolio will be in so-called "cash" investments. That means money on deposit or in a cash unit trust or National Savings. A key element of a cash investment is that the nominal value of your money will not fall. Put in pounds 1,000, and you expect to get pounds 1,000 back, plus interest.

But other types of investment should increase returns and meet your other requirements. Some investors want the maximum income immediately. Others can afford to draw a lower income now to achieve higher income and capital growth later. Others are happy to lock their money away and draw no income, in which case they can put the emphasis on capital growth.

There are two main categories of investment that can be used to achieve these various aims - fixed-interest securities (bonds) and shares (equities).

Fixed-interest investments. These are generally considered to be a lower risk than shares, good for producing relatively high incomes but not for capital growth.

Fixed-interest securities or bonds are a form of IOU, with you as the lender. During the life of the bond, the holder is paid a regular income, usually twice a year. At the end of the bond's life - which could be 5, 10 or 15 years - the issue price, called par (for example pounds 100) is generally repaid.

Gilts. The gilts market accounts for a large part of the fixed-interest securities activity in the UK. Gilts are IOUs issued by the government to fund its borrowing requirement. The UK government is unlikely to default on these loans. But during the life of a gilt, its price can rise or fall above and below its final value, influenced by several factors including changes in interest rates and expectations for inflation. So unless you hold a gilt to maturity, you cannot be sure of what you will get back.

Corporate bonds. Foreign governments also issue bonds and so do private companies. This year has seen the promotion to private investors of the corporate bond - IOUs issued by companies. Unlike gilts, these can now be held in a tax-free personal equity plan (PEP). Their yield (the income) is often higher than that of gilts, reflecting the greater risk of investing in a private company.

Shares. Further up the risk scale come shares. But they differ hugely. Some will pay quite high dividends. Others pay virtually none, and the return comes in the form of the rising value of the shares as a company grows.

Most private investors will opt first for relative safety - shares in large, established, "blue-chip" UK companies. They carry a lower risk than other shares, but the reward is also likely to be lower. Beyond these there is a huge range of risk.

Investing abroad. This provides further opportunities to diversify and spread risk in case UK markets do badly. The pound may also fall and increase the sterling value of investments held in a foreign currency.

The pooled investment. In practice, many investors find that with both bonds and shares, they have insufficient funds to spread the risk, or lack the expertise. That is where unit and investment trusts can help.

These collective investments provide a ready-made portfolio, pooling small sums of money from individual investors to spread risk across a range of holdings. But the risk is spread only within the limits of a fund's investment remit. This could be to invest in corporate bonds, the shares of leading companies, or potentially high-growth smaller company shares.

But investing in just one unit trust does not really represent a diversified portfolio. So how do you achieve a sensible balance?

Next week, we ask professional investment managers how they allocate investors' money around various markets and types of investments.

Start your day with The Independent, sign up for daily news emails
ebooks
ebooksA celebration of British elections
  • Get to the point
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

Recruitment Genius: Claims Administrator

£16000 - £18500 per annum: Recruitment Genius: This is an excellent opportunit...

Recruitment Genius: Senior SEO Executive

£24000 - £28000 per annum: Recruitment Genius: A Senior SEO Executive is requi...

Recruitment Genius: Online Customer Service Administrator

£16000 - £18000 per annum: Recruitment Genius: An Online customer Service Admi...

Recruitment Genius: Digital Marketing Executive

£18000 - £22000 per annum: Recruitment Genius: This global, industry leading, ...

Day In a Page

'It was first time I had ever tasted chocolate. I kept a piece, and when Amsterdam was liberated, I gave it to the first Allied soldier I saw'

Bread from heaven

Dutch survivors thank RAF for World War II drop that saved millions
Britain will be 'run for the wealthy and powerful' if Tories retain power - Labour

How 'the Axe' helped Labour

UK will be 'run for the wealthy and powerful' if Tories retain power
Rare and exclusive video shows the horrific price paid by activists for challenging the rule of jihadist extremists in Syria

The price to be paid for challenging the rule of extremists

A revolution now 'consuming its own children'
Welcome to the world of Megagames

Welcome to the world of Megagames

300 players take part in Watch the Skies! board game in London
'Nymphomaniac' actress reveals what it was really like to star in one of the most explicit films ever

Charlotte Gainsbourg on 'Nymphomaniac'

Starring in one of the most explicit films ever
Robert Fisk in Abu Dhabi: The Emirates' out-of-sight migrant workers helping to build the dream projects of its rulers

Robert Fisk in Abu Dhabi

The Emirates' out-of-sight migrant workers helping to build the dream projects of its rulers
Vince Cable interview: Charging fees for employment tribunals was 'a very bad move'

Vince Cable exclusive interview

Charging fees for employment tribunals was 'a very bad move'
Iwan Rheon interview: Game of Thrones star returns to his Welsh roots to record debut album

Iwan Rheon is returning to his Welsh roots

Rheon is best known for his role as the Bastard of Bolton. It's gruelling playing a sadistic torturer, he tells Craig McLean, but it hasn't stopped him recording an album of Welsh psychedelia
Russell Brand's interview with Ed Miliband has got everyone talking about The Trews

Everyone is talking about The Trews

Russell Brand's 'true news' videos attract millions of viewers. But today's 'Milibrand' interview introduced his resolutely amateurish style to a whole new crowd
Morne Hardenberg interview: Cameraman for BBC's upcoming show Shark on filming the ocean's most dangerous predator

It's time for my close-up

Meet the man who films great whites for a living
Increasing numbers of homeless people in America keep their mobile phones on the streets

Homeless people keep mobile phones

A homeless person with a smartphone is a common sight in the US. And that's creating a network where the 'hobo' community can share information - and fight stigma - like never before
'Queer saint' Peter Watson left his mark on British culture by bankrolling artworld giants

'Queer saint' who bankrolled artworld giants

British culture owes a huge debt to Peter Watson, says Michael Prodger
Pushkin Prizes: Unusual exchange programme aims to bring countries together through culture

Pushkin Prizes brings countries together

Ten Scottish schoolchildren and their Russian peers attended a creative writing workshop in the Highlands this week
14 best kids' hoodies

14 best kids' hoodies

Don't get caught out by that wind on the beach. Zip them up in a lightweight top to see them through summer to autumn
Robert Fisk in Abu Dhabi: The acceptable face of the Emirates

The acceptable face of the Emirates

Has Abu Dhabi found a way to blend petrodollars with principles, asks Robert Fisk