A stocks and shares ISA – also known as an investment ISA – is a tax-efficient wrapper for your investments that allows you to buy and sell shares and other assets without paying tax on most forms of growth.
You can invest up to £20,000 in ISAs each tax year. This limit is known as your ISA allowance. You can invest your entire allowance in a single type of ISA, such as a stocks and shares ISA, or split it between several different kinds of ISAs.
You can also invest in stocks and shares via two other types of ISAs:
A junior ISA, for those under the age of 18
A lifetime ISA, which is designed for 18 to 39-year-olds to help them save towards retirement or buy their first home
What are investment risks?
Investments can fall as well as rise in value, so there is always the risk that you will lose some – or all – of your money.
This uncertainty is one reason some people prefer to keep their money in cash-based savings accounts, even though the rates of return available are generally lower and investments almost always outperform cash over the longer term.
However, unlike savings accounts, which advertise the rate of interest you will earn on your money, there is no way to guarantee the returns you will receive when you invest in stocks and shares.
For example, even if a particular investment trust has returned 8% growth a year for the last five years, this does not mean it will continue to grow at the same rate, or at all, for the next five years.
The level of risk involved in investing in a stocks and shares ISA depends largely on what you choose to invest in.
Assets you can hold within a stocks and shares ISA include:
Individual shares in a company listed on the stock market
Investment funds that invest in a range of companies
Government bonds – or fixed-rate loans to governments
Corporate bonds – loans to companies, also paid at a fixed interest rate
Most consider the riskiest option in this list to be investing in individual shares, which could fall dramatically in value if the company in question puts out a negative trading statement, for example.
In times of political stability, government bonds are probably the least risky, which is why they tend to pay lower interest rates than corporate bonds, where you could lose money if the company borrowing the money defaults on the loan.
Investment funds, meanwhile, can be high or low risk depending on where they are invested and what they are designed to achieve.
How can I reduce investment risks?
Investing always carries some level of risk. Even a government bond may fail to pay out to investors if there is a political coup, for example.
However, there are ways to reduce the risks involved, namely by investing in plenty of different things and staying invested for the long term.
Diversify your portfolio
Putting your money into lots of different types of investments (such as shares, bonds and property) can help reduce investment risks because you won’t lose everything if one asset class underperforms.
In fact, as different asset classes tend to have inversely correlated returns – meaning that when one type of investment does badly, another often does well – diversifying in this way can allow you to balance any negative returns in one area with positive returns elsewhere.
The same is true of spreading your investments across different companies, sectors and stock markets around the world.
Diversification is why investing in an investment fund that holds shares in many different companies is generally considered less risky than investing in a single company’s shares.
Invest over the long term
Financial markets can be volatile, and the value of your investments is likely to fluctuate as a result.
However, in the same way as investing in different things reduces the chances of losing too much money, investing for a long time helps even out the ups and downs, making it more likely you'll end up making a healthy profit.
Therefore, experts recommend that you only invest money that you don’t need to touch for at least five years.
Taking a longer-term approach also gives you more time to benefit from the effect of compounding returns, which occur when you reinvest dividends and capital growth.
Most stocks and shares ISA providers are essentially middlemen. They provide a platform through which you can invest, but not the funds and other assets you choose to invest in.
So, even if they go bust, you will continue to own the underlying assets.
However, if an ISA provider going bust leaves you out of pocket, you may be able to claim compensation under the Financial Services Compensation Scheme (FSCS). You can only do this if the provider is a member of the scheme, so it’s worth checking this before signing on the dotted line.
Most stocks and shares ISA providers charge trading fees whenever you buy or sell assets held within your ISA.
For instance, you often have to pay this fee – which can be up to £25 per trade – when you withdraw money.
Some providers also charge you an exit or transfer-out fee of up to around £50 if you switch your ISA to a rival company.
Finally, remember that withdrawing funds from an ISA may impact the amount you can invest that tax year.
If, for example, you pay in £20,000 then withdraw £5,000, you won’t be able to top your ISA up again until the beginning of the next tax year as you would have already used up your entire ISA allowance of £20,000.
