Profit lies in taking the longer view
Uncertainties over a possible Brexit will result in market fluctuations but investors should avoid ‘playing’ the vote.
CHANCELLOR George Osborne’s Budget on Wednesday March 16 may have run into some difficulties over allegations of “unfairness” to the disabled and the lowest paid, but it certainly had plenty of “upside” for savers. In particular, very few commentators, if any, expected the Chancellor to increase the ISA allowance from the current level of £15,240, up to an eye-watering £20,000 for individual savers (from April 6, 2017).
That change alone has massive implications for all but the wealthiest, since it allows a couple to put a combined £40,000 a year into an ISA, where the gains will grow free of tax year after year. Very few households in Scotland have sufficient surplus to leave much over after funding ISAs of this magnitude.
As Stephen Martin, Head of the Glasgow Office at wealth managers Brewin Dolphin, notes, when you are saving on this scale, you really do need to take expert advice on how to build a portfolio that will give you an appropriate risk reward return for your particular circumstances. He points out that despite all the volatility that is currently impacting equity markets around the world, equities are still going to be a very strong place to be for investors who want to build both income and capital growth in the longer term.
“There is much volatility around to cause uncertainty to markets at the moment, not least of which is the UK’s Brexit referendum on June 23. We can expect markets to have a bumpy ride until we get some clarity there. But what we remind investors is that they are investing for the long term, and as such they can look past shortlived peaks and troughs in the market and should not be unduly concerned by them,” he says.
One of the most straightforward and powerful ideas for equity investments is to concentrate on companies with a solid record of paying dividends. The idea has, on occasion, been derided as outmoded, but Martin argues that it is still one of the best performing concepts for long term investors. “There has been a lot of coverage about whether or not to go for dividends. In 2015 there were just 18 companies in the FTSE 350 that cut their dividends and 332 that paid them as usual. So that overwhelming preponderance of companies maintaining or increasing their dividends shows that this idea still works well,” he comments.
So far in 2016 just three companies have announced their intention to cut dividends. Hard-pressed food retailers, energy and mining companies have also cut. However, Martin points out that any competent fund manager could see much of this coming and if they were making sensible decisions they would already have taken this into account.
“The culture of an equity investor buying into growing dividends is not over by any stretch. However, you need to be with fund managers who have the research capabilities to spot the companies that are going to take a hit in their core business in the year ahead,” he notes. This point leads naturally to the often contentious point about whether or not active management really does add value to a portfolio. The argument of the detractors is that since it carried additional fees it has to outperform “passive” investments such as tracker funds significantly, and the statistics seem to show that most active managers fail to do this.
Martin points out that tracker funds, particularly those tracking the FTSE, have a huge bias towards financials, resource companies and food retailers, all sectors which have their problems at present. It is relatively easy for a good active manager to steer clients away from such problem sectors and thus diversify income risk in comparison to passive trackers. Far and away the most important part of portfolio construction, he points out, lies in the various weightings the wealth manager gives to the various asset classes, in order to diversify the portfolio and improve the risk return ratio for clients. “We have clients with very different risk profiles, but always the underlying theme is diversification,” he comments.
Apart from equities, commercial property has performed very well in the last two to three years, he notes. “Some advisors now question whether the commercial property market is a bit over-egged right now. However, we maintain a reasonable weighting there.
“Commercial property in the south-east of England is relatively lively so we are fairly relaxed about having some exposure there. A reasonable weighting for the average portfolio would be somewhere between five and 10 per cent,” he notes.
“My advice to investors as we head towards the Brexit vote is to remember that they are in it for the long term and to leave attempts to ‘play’ the vote, from an investment perspective, to the short-termists. Stick to the known. This is not a time for adventuring. Investors need to hold their nerve and are best advised not to take risks that they do not need to take,” he comments.
Absolute return strategies, which look to deliver modest positive returns irrespective of how the market is performing make sense as part of a risk mitigation strategy. “They won’t make you a fortune but they tend to deliver medium single digit total returns and have a place as part of a defensive strategy,” he notes.
Alan Steel, founder and chairman at the independent financial advisory firm Alan Steel Asset Management, points out that it is vital that savers who are fortunate enough to have large equity portfolios ensure that they either take their full ISA allocations each year, or fund those allocations to the maximum by transferring funds out of their equity portfolios.
“Money grows free of CGT and income tax in an ISA. We see people who have £1 million in an equity portfolio and under £20,000 in IS As. That is completely the wrong way round for a tax free income. But I would say investors should avoid UK passive tracker funds at all costs. They have been an absolute disaster.
“Some 50 per cent of the FTSE index is down to the biggest 20 companies, and if they are having a hard time, the whole index does badly – and your tracker with it,” he adds.
This is not a time for adventuring. Investors need to hold their nerve and are advised not to take risks they do not need to take