Category: academic approach to investing

Tips to Maximise Your Retirement Savings

Use these best practices to build a secure retirement plan.

Saving Early.
By beginning your retirement saving at an early age, you allow more time for your money to grow. As gains each year build on the prior year’s, it’s important to understand the power of compounding and take advantage of the opportunity to help your money grow.

Set realistic goals.
Review your current situation and establish retirement expenses based on your needs.

Focus on Asset Allocation.
Build a portfolio with proper allocation of stocks and bonds, as it will have a huge impact on long-term goals.

For the best long-term growth, choose stocks.
Over long periods, stocks have the best chance of attracting high returns.

Don’t overweight a portfolio in bonds.
Even in retirement, do not move heavy into bonds. Many retirees tend to make this move for the income, however, in the long-term, inflation can eliminate the purchasing power of bond’s interest payments.

If in doubt, see a properly qualified independent financial adviser who can help you put together a plan to achieve your financial goals and implement the necessary arrangements to put it into effect.

Beware of the hidden risks of low-risk investing

Most investors recognize and understand the risks involved when investing. However, during times of extreme market decline, even the toughest investors’ risk tolerance is tested. Such dramatic downturns can force many to limit their risk exposure. But, regardless of market highs and lows, investors really need to maintain perspective and proper risk to pursue their long-term financial goals.

“Low risk” investments help protect one from a decline in the overall stock market, but might leave one exposed to other risks not seen on the surface.

Risk #1: Inflation cutting your real return
After subtracting taxes and inflation, the return one receives from a low-risk investment may not be enough to remain ahead of inflation.

Risk #2: Limiting your portfolio’s growth potential
Beware, some portfolios with low-risk investments may be riskier than one realizes due to the limited growth potential of these investments.

Risk #3: Your income can drop when interest rates drop
If interest rates have dropped by the time a low-risk investment becomes due, one might have to reinvest at a lower rate of return, resulting in a lower yield each month.

A properly constructed portfolio with the correct balance between risk and return will mitigate the risks of market volatility. When deciding on how to invest, it is important for investors to take into account their personal attitude to risk and capacity for loss but also to understand the performance characteristics of different blends of equities and bonds and in particular, how their own portfolio might behave. This will ensure that when markets perform in a particular way, investors will appreciate that this is within the range of possible outcomes for their portfolio.

This is where an independent financial adviser can help by guiding investors to the correct choice of portfolio, which has the best chance of helping them achieve their goals. They can also help educate investors so that they better understand what to expect and encourage them to adopt a disciplined approach.

The Seven-Day News Diet

The financial media recently has been consumed by the issue of ultra-fast computer-driven trading and what it might mean for ordinary investors. But arguably what does the most harm to people are their own responses to high frequency news.

The growth of 24/7 business news channels and, more recently, financial blogs, Twitter feeds and a myriad of social media outlets has left many people feeling overwhelmed by the volume of information coming at them.

The frequent consequence of the constant chatter across mainstream and social media is that investors feel distracted and unanchored. They drift on tides of opinions and factoids and forecasts that seem to offer no single direction.

The upshot is they end up second guessing themselves and backing away from the resolutions they made in less distracted times under professional guidance.

Remonstrations by advisors can steer them back on track for a little while, but soon enough, like binge eaters raiding the fridge, they’re quietly turning on CNBC and opening up Twitter to sneak a peek at what’s happening on the markets.

Quitting an ingrained habit is never easy, particularly when asked to go cold turkey. But there are ways of gradually weaning oneself off media noise. And one idea is a “seven-day news diet” that eliminates the distractions a little at a time:

Day: 1 Switch off CNBC. Business news is like the weather report. It changes every day and there’s not much you can do about it. If you really want drama, colour and movement, stick to Downton Abbey.
Day: 2 Avoid Groundhog Day and reprogram the clock radio. Waking up every day to market headlines can be more grating than Sonny and Cher.
Day: 3 Read the newspaper backwards. Start with the sports and weather at the back and skip the finance pages. Small talk will be easier, at least.
Day: 4 Set up some email filters. Do you really need “breaking live news updates” constantly spamming your inbox?
Day: 5 Try “anti-social” media. Facebook is great, but it’s like a fire hose. If you want to be social, pick up the phone and ask someone to lunch.
Day: 6 Feeling the pangs of withdrawal? Go to the library and look up some old newspapers. They can give you a sense of perspective.
Day: 7 You’re nearly there. Use this window to decide on a long-term financial media diet. You might decide to check the markets once a week, instead of once a minute. The important point is to have a plan.
Those who swear off the financial media, if only for a little while, often find they feel more focused and less distracted. The ephemeral gives way to the consequential and they come away from the hiatus with a greater sense of control.

Any changes they make to their investments are then based on their own life circumstances and risk appetites, not on the blitzkrieg of noise coming at them minute to minute via media outlets.

Ultimately, going on a news diet can be about challenging our patterns of consumption and thinking more intently and less reactively about our decisions.

We can still take an interest in the world, of course, but at our own pace and according to our own requirements, not based on the speed of the information coming at us from dozens of gadgets.

In the words of the American political scientist and economist Herbert Simon “a wealth of information creates a poverty of attention”. So it follows that if you economise on your information diet, you can maximise your attention.

What price for Brazil to win?

Every four years, in the build-up to the World Cup, lots of people attempt to predict the results of the competition.

Economists at Goldman Sachs, one of the world’s biggest investment banks, suggest that Brazil is the overwhelming favourite with Argentina trailing a distant second. England has a 1.4 per cent chance of winning, according to the bank.

Stephen Hawking has used a scientific method to calculate that England’s best chances lie in a 4-3-3 formation, playing in temperate conditions, with a European referee, kicking off at 3pm. Even so, he also backs Brazil to win.

And who can forget Paul, the captive German octopus, who correctly predicted the results of all of Germany’s matches in the 2010 World Cup?

People go to great lengths to make credible predictions but it is rarely worth the effort because seldom are they accurate. A more meaningful alternative to making individual predictions is to use the aggregate of all the analysis expressed in book-makers odds. Brazil are currently 11/4 favourites.

We use this idea as the root of our investment philosophy. We do not believe it is possible to reliably predict future events and think it is a waste of money to attempt to do so. We assume that all the relevant information has been taken account of by other people and we trust the aggregate of all analysis.

That aggregate is expressed as the price of a security and is the most reliable expression of the company’s prospects and expected returns.

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Read between the (head) lines

Too often, money gets a bad press. Just in the past few weeks headlines have reported that “Yes, the stock market is rigged”[1] and “City watchdog to probe 30m financial products”[2]. At the same time, investigators are still looking into the alleged manipulation of foreign exchange rates and the rate that underpins most savings and mortgages.

It is hardly surprising that people are put off saving and investing when there are so many scandals. But it’s not all bad news: in fact, there are some very good news stories about money that will never make the headlines.
One of them is that many investors have doubled their investments in the past five years. They didn’t go to great lengths to pick the right funds, or devise a complex investment strategy. They could have spent more time digging a new flower border than poring over stock prices. All they did to achieve this great return was to hold a diverse and low-cost portfolio of global shares and stick with it.

These people have benefited from one of the most powerful wealth-generating machines in the world; the stock market. They ignored the Eurozone crisis and they ignored the lumpiness of the global economic recovery. Instead, they just sat back and watched the steady climb of their investments, while taking care not to give up any returns to bad timing or paying too much in fees and costs.

It might not sound exciting, and there are very few reporters in the world that would be interested in writing about it, but right now, all around us, are people easing their way to their financial goals.

1 http://www.msnbc.com/msnbc/yes-the-stock-market-rigged
2 http://www.bbc.co.uk/news/business-26780863

Hidden Fund Costs could damage your investment performance

Most investors are aware that their funds levy annual charges against their funds. These comprise the Annual Management Charge which ranges from 0.1% to around 1.8% or more for UK mutual funds. In addition the funds are required to publish certain additional fund charges such as custody and legal costs. These two items make up the Total Expense Ratio (TER).

Many investors are unaware of the fact that, in addition to the TER, funds incur costs in two other ways. One of these, the Portfolio Turnover Rate (PTR), is caused by the costs which fund managers incur when the buy and sell stocks. The more they do this, the greater the PTR. In the UK the estimated cost of a sale and purchase is around 1.8%, when Stamp Duty is taken into account. The average UK fund turns over its portfolio by around 100% a year, thus adding around 1.8% onto investors’ costs. Many funds have PTRs of twice or more this level.

A further area in which investors can incur costs is the price at which funds are able to deal in their shares. Generally shares are offered for sale or purchase by market makers in batches of say, £250,000 or £1Million. On dealers’ screens the best priced batches are generally shown at the top of the list with prices getting worse further down the list. A fund needing to offload £10Million of a particular stock could therefore find its self selling via a number of market makers and not all at the best price available on the market. This can be a substantial hidden drag on fund performance, especially for very large funds or those which trade actively.

So what can be done about this? Bearing in mind that the method of access to the market (fund selction) is very much a secondary decision, well behind Asset Allocation, the optimum way to keep fund costs down is to invest in passive or tracker funds. These can be expected to provide returns in line with the performance of the market at low cost. In addition certain passive funds engage in dealing strategies designed to optimise the price at which deals are carried out.

Regulators tell Solicitors to only refer to Independent Financial Advisers

New guidance has been issued by the Solicitors’ Regulation Authority (SRA) stating that Solicitors must not refer clients to tied or multi-tied advisers; i.e. advisers who are not truly independent.

The SRA has stated that it is aware that some law firms have been approached by multi-tied and tied advisers seeking to enter into restrictive arrangements to provide financial services to the law firms’ clients. It reiterated that firms must always act in the best interests of their clients. This means that they must refer clients to independent financial advisers for investment advice.’

According to Sifa (the body representing independent financial advisers who specialising in working with law firms), there is confusion among solicitors about the status of financial advisers and this has resulted in widespread breached of the Solicitors’ Code of Conduct. Sifa said it had received numerous calls from IFAs reporting instances of solicitors referring clients to St James’ Place.

This was a subject alluded to in an earlier Blog entitled Confusion on Sources of Financial Advice I have also commented here in more detail about the differences between Independent and Tied Advice.

So, if you are a Solicitor or indeed anyone seeking financial planning advice make sure that you ask the adviser whether they are genuinely independent. Solicitors can be sanctioned for failing to do so and individuals are likely to suffer from a restricted choice and, in all probability, high charges

Top 10 Tips for investing in a recession

The Telegraph on 17th July published a list of tips for investing in a recession, which included a contribution by me!

For top investment tips click here

In summary, my view is to be systematic and disciplined … and keep costs down.

Acts of Commission make you feel worse than Acts of Omission

Take a look at this 5 min video about Dollar Cost Averaging by Professor Kenneth French.

Dollar (UK investors should read Pound) Cost Averaging, in this case refers to lump sums available for  investment which, instead of  immediately being fully invested in the markets, are allocated over a series of months. The objective is to avoid being caught out by sudden market falls shortly after making the investment. In the UK we call this ‘Phased Investment’.

Interestingly, Prof French  reinforces the academically accepted view that Dollar Cost Averaging does not optimise returns, given the level of risk that an investor wishes to take. When considered purely from a finance perspective, if the right thing to do, in order to deliver a set of goals, is to invest in an equity portfolio, then it should be implemented in full, immediately. Market timing has been shown to contribute very little to returns and as a consequence there is no good reason to delay.

But, is this always right? Well ,Prof French observed that, from a behavioural finance point of view, it may be a good thing. People apparently feel worse about the negative outcomes from acts of comission (things they did) than they do about acts of ommission (things they didn’t do). Hence an investor feels a lot worse about the fact that his portfolio plummeted shortly after investing the money that he does about the returns which he failed to make because he didn’t invest the money.

On balance, Prof French concludes that, even with his finance professor’s hat on, the damage to prospective returns caused by Dollar Cost Averaging is very little, so it makes little difference whether investors use it or not. However, he observed that it may give them an experience that they feel better about.

Ultimately as investment professionals and, especially as financial planners, we do need to step outside of the theoretical world of optimised portfolios and look at things more closely from our client’s point of view. If doing things that are theoretically sub-optimal but not actually damaging makes our clients feel better about what they are doing then there is no good reason not to facilitate this. After all we are not on some kind of Evangelical mission to convert the pagan unwashed. Oh, and it is their money…. not ours.

Interesting huh!