Aim for risky rewards with smaller companies' shares

Understanding the stock market

The Alternative Investment Market - known as AIM - has a double purpose. First, it is the London Stock Exchange's public market for small, young and growing companies, enabling them to raise capital and see their shares more widely traded.

Second, the market is intended to appeal to investors who are looking for the high growth rates that can sometimes come from small companies.

"AIM stocks can offer the possibility of above average earnings as they have a greater capacity for very high growth rates than larger companies," says Tony Hobman, head of Private Investor Services at ProShare.

But the chance of extra growth comes at a price. Before you rush out to buy shares quoted on AIM, Mr Hobman adds, be cautious. AIM companies may hold out the hope of higher returns, but they can be risker than their stock market counterparts.

AIM was launched in June 1995. Although some cynics consider that AIM gives investors a ticket to a roller-coaster which is likely to end in disaster, such criticism is overdone. Since its launch, only two companies have gone bust though a few others may not escape this fate.

There have been incredible successes. For example, Surrey Free Inns was launched in AIM in July 1995 at 85p. When it transferred to a full listing as SFI in September 1996, its investors had seen a 450 per cent gain.

However, AIM is a "wealth warning" market, which is not for the fainthearted. If AIM attracts you, here are a few golden rules to follow:

n Obtain a copy of the prospectus - your stockbroker may be able to help. If this is not possible, get a copy of the latest annual report and accounts.

n Research the background of the directors and main shareholders. These are detailed in the prospectus, while the names of directors also appear in the annual report and accounts.

n Ascertain the company's free market (capitalisation) from your broker. This is the number of shares available to the ordinary public. If the market is narrow, the sale of just a few shares could result in a significant fall in the share price.

n Self-praise is no praise. Be very wary of companies which promote their success by public relations specialists.

n An advisory stockbroker can be very useful as they are likely to have details of the company's announcements and will pick-up gossip before you.

n Above all, follow your instincts. If you have bad vibes about a company, steer clear.

- John Andrew