Having just sold my family home in London and bought a new home in Somerset, I have a lump sum of £50,000 that I would like to invest for the long term. We also have £180,000 earmarked for renovations, which will be spent over the next two years. My partner and I earn a combined salary of £140,000. We have two small children. I would also like to learn how to invest myself. Can you recommend the best way to start investing?
Jason Hollands, managing director for business development at Tilney Investment Management, the UK investment adviser, says £180,000 is a substantial cash sum for refurbishments, but two years is too short a time period to invest it in the markets. The challenge is to get the best return, tax efficiently, at a time when interest rates are at all-time lows.
One option would have been to purchase your new property with an offset mortgage where any cash held earns no interest but offsets (potentially entirely) any mortgage interest payments, with the flexibility to draw upon cash reserves as and when they are needed. As your purchase has already completed, an important thing to consider is spreading this sum across a minimum of two banks. In the event a bank goes bust, only balances of £85,000 per institution are protected under the Financial Services Compensation Scheme.
You have earmarked £50,000 for long-term investing and you have expressed an interest in learning how to invest yourself. This is an important consideration as some people want a lot of help, and will happily pay for financial advice, whereas others enjoy the experience of managing their own investments. If you are going to build your own portfolio, it is important to understand this requires a bit of time commitment.
You have to decide the right mix of assets — such as shares and bonds — in markets around the world that best suit your objectives and risk tolerance, then research and select the appropriate investments to achieve this.
You should review your investments periodically; you may need to rebalance your portfolio if it has become too exposed to a particular market or asset class, or ditch funds that have not delivered on your expectations.
An alternative for those who find this prospect daunting, but don’t necessarily want to take full financial advice, is to invest in a ready-made portfolio or multi-manager fund. These funds will typically invest in 20 to 30 underlying funds across a range of asset classes and markets, with the mix designed to suit different risk and goal profiles such as cautious or adventurous with the portfolios periodically rebalanced for you.
Whatever route you decide to go down, it is important to keep an eye on fees, and invest tax efficiently. In the UK, pensions offer the greatest tax perks, as contributions currently receive tax relief at the investors’ marginal rate. This means a 40 per cent taxpayer can make a gross pension contribution of £10,000 for a net cost of just £6,000.
There is no certainty that government will keep such generous reliefs in place forever, so depending on how much annual allowance you have left, investing some of your £50,000 via a pension could be well worth considering.
The main caveat with pensions is that you cannot access them until you are at least 55, and will pay some tax when you do.
Isas do not have upfront tax relief, but they do win hands down for flexibility. You can make withdrawals any point, with no income tax to pay, and returns within your Isa are also free from tax.
The annual Isa allowance for an adult is a massive £20,000 each tax year. You could fund that now, and invest another £20,000 from 6 April next year. Another option to consider is whether to invest some of this money for your two children in Junior Isas (Jisas) which have an annual limit of £9,000.
If you are keen to choose your investments, you should first decide how long you anticipate being invested and the level of risk you’re prepared to take. There is a relationship between risk and reward but the longer your time horizon, the more prepared you should be to take greater risk by investing more heavily in equities, as they will have more time to recover from short term bouts of volatility.
I would suggest that anyone with a time horizon of more than 10 years should have over half of their portfolio invested in equities. Another important principle is to diversify. This can be achieved by investing through funds, investment trusts and ETFs (exchange traded funds) that invest in a wide selection of shares or bonds, and achieve a broad coverage across different markets around the world.
Try and select at least 10 funds when building a portfolio from scratch, so that you are not over exposed to any one product or management group. This should typically include UK, US, European, Japanese, Asia ex-Japanese and emerging market equities funds, as well as funds with a global remit, but also modest allocations to corporate bonds, absolute return funds and gold to help reduce risk. I would suggest limiting exposure to any single fund to no more than 15 per cent of the overall portfolio.
Jeannie Boyle, director & chartered financial planner at EQ Investors, says if there is one thing markets teach us repeatedly, it’s that investing needs to be part of a long-term strategy.
Any money that is needed for a specific purpose like renovations should stay in cash. Currently, income bonds from National Savings & Investments offer a rate of 1.16 per cent with the benefit of instant access on sums up to £1m, fully backed by HM Treasury. The interest is paid out monthly rather than rolling up which can be a drawback with this account, but this rate is better than any of the one-year fixed term accounts available.
Another option to consider is Premium Bonds — the prize rate is currently 1.4 per cent with any winnings tax-free, and UK adults can hold up to £50,000 each.
Before investing any money, I suggest having a safety net that provides you with money to survive for six months without any income. This means you are protected from having to draw from your investments to cover financial emergencies. Events of the past few months have shown how important it is to have this buffer in place.
Investing money into markets means taking some risk in order to generate higher returns. Over long periods of time (10 years-plus) money invested should provide you with a better return than simply holding cash. The downside is that you must be prepared for periods when markets fall suddenly.
An important part of investing is working out how much risk you are prepared to take in the hope of getting higher returns. Shares (equities) are not only the part of the portfolio that tend to generate high levels of growth, but are also most at risk from sudden drops in value. Bonds are loans to companies or to governments. These are typically the more defensive part of the portfolio. The value will still rise and fall, but not usually to the same extent as equities.
Online services can offer a combination of advice and ready-made portfolios that suit a variety of needs. These are managed on your behalf, so you do not need to make the decisions about where to invest and at what time. These accounts can be set up using your annual £20,000 Isa allowance to keep your investments free of tax.
One of the most challenging aspects of running an investment portfolio is trying to keep emotion out of the decisions you make. Many investors hold on to certain stocks for too long or try to time markets, but this is very difficult to do.
Working with an adviser will help you understand how to create a portfolio that works with your aims and how much risk you are able to tolerate — you may feel this is a worthwhile investment.
The opinions in this column are intended for general information purposes only and should not be used as a substitute for professional advice. The Financial Times Ltd and the authors are not responsible for any direct or indirect result arising from any reliance placed on replies, including any loss, and exclude liability to the full extent.
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