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FAS

Jul 03
0

The Importance of Market Momentum

By | Investments

Anyone who has held investments through the last five years will have encountered uncomfortable periods when market volatility has increased. The outbreak of Covid-19 at the start of the decade, the Russian invasion of Ukraine, the ill-fated Mini-Budget of 2022 that led to the downfall of Liz Truss, and more recently the global tariff shock and increased instability in the Middle East, are all recent examples of global events that have led markets to retreat in the short-term.

Given how markets have traditionally reacted to global events over recent years, some investors have been a little puzzled by the calm market conditions seen over recent weeks. The CBOE VIX index, which measures the volatility of the S&P500 index of US stocks, has barely suggested any sign of increased risk, despite the US involvement in the Israel-Iran conflict, which has the potential to lead to a regional war, and have wider implications for the global economic outlook.

Reasons behind the muted reaction

A major reason for the sanguine response to the escalation in the Middle East has been the suggestion that US involvement will be limited. We suspect market reaction would be different should the US be drawn into a wider conflict in the region. In previous periods of unrest in the Gulf, Oil prices have been driven rapidly higher, as fears grow over supply constraints, and indeed, this was also the case following the Russian invasion of Ukraine. Whilst the bombing of Iranian nuclear facilities did cause a minor spike in the price of Brent Crude, the reaction has been muted given that many feel that tensions could ultimately ease. Should oil prices remain around current levels, the potential for damage to the global economy is limited; however, actions, such as blocking the Straits of Hormuz, would undoubtedly see the price of oil soar.

Tariffs remain a threat

The instability in the Middle East is not the only current global factor that markets are seemingly taking in their stride. Away from global conflict, the tariff issue remains unresolved. Markets fell sharply immediately after the Liberation Day announcement on 2nd April and began to rebound once the US administration announced a 90-day pause a week later.

The trade deal struck with the UK recently is the first of what the US hope will be many that will be completed; however, time is running out before July 9th, when the current 90-day pause will end, and this poses the question, what happens next? Could the 90-day pause be extended, to allow additional time for deals to be struck? Will challenges questioning the legal basis of tariffs be successful? Or will Trump simply roll the dice again and reimpose the original tariff levels on trading partners? Markets will undoubtedly gain clarity in the coming weeks; however, given Trump’s unpredictability, the current market optimism runs the risk of discounting the potential for further turbulence when the 90 days expire.

Focus on fundamentals

Whilst markets grapple with geopolitical factors, other risks remain which could derail the current positive mood. We will shortly be entering the next quarterly reporting season for US equities, and markets will once again focus on the quality of US earnings, which may have been impacted by uncertainty over tariffs and weaker consumer confidence. Given the current market valuations, disappointing earnings reports could leave the valuations of some leading companies exposed.

The actions of the Federal Reserve could also pose a risk to the current positivity in global equities. Despite Trump’s regular demands that Fed chairman Jerome Powell starts to cut US base rates, the Federal Reserve have so far stayed resolute, highlighting the potential that tariffs could push inflation higher over coming months. Economists are also split as to whether any inflationary pressure would be short-lived, as companies readjust to tariff levels, or more persistent. Markets currently expect the Fed to cut rates twice this year, and any deviation from this path could lead to market disappointment.

Don’t discount market momentum

One theory that tries to explain the perceived complacency is that investment markets are simply growing increasingly numb to the seemingly endless stream of geopolitical noise and choosing to look for positive signs to support the current rally.

It is easy to build a case that suggests that current market valuations may become challenging as geopolitical factors weigh; however, market momentum remains strong, and further upside is possible in the short-term, if corporate earnings beat estimates and the Federal Reserve begin to ease the cost of borrowing. In short, markets could continue to ignore the risks and focus on positive factors that support valuations for some time to come.

As suggested in the famous quote attributed to John Maynard Keynes, “markets can remain irrational longer than you can remain solvent”. This may be an important mantra as we head through the coming weeks, if investment markets continue their upward momentum.

What action should investors take

Diversification is a key component of sound investment strategy in all market conditions. Holding a diversified portfolio can ensure that you participate in periods when markets are on an upward trajectory, but also hold other asset classes, which may be more predictable, to protect the portfolio when volatility increases and markets retreat. For example, holding a position in fixed interest securities, such as corporate and government bonds, may act as a foil to global equities exposure, and help reduce overall portfolio risk.

Given the current conditions, and potential challenges that await, investors should look to review their current portfolio, to ensure that the asset allocation not only matches their needs and objectives, but changes in market conditions. Our experienced advisers can undertake a comprehensive analysis of your existing investments and provide an unbiased opinion on whether changes should be made. Speak to one of the team to discuss your existing portfolio.

Jun 26
0

Why investors need to be aware of currency risk

By | Investments

Changing travel money for holidays abroad may be the only direct interaction many will have with currency exchange rates on a day-to-day basis; however, exchange rates between currencies have far reaching implications for investment markets, the prospects for the global economy and our financial prosperity.

How currency movements affect performance

When investing in overseas assets, currency fluctuations can significantly affect your investment returns. In addition, domestic investors are also impacted by exchange rate movements due to the global nature of supply chains and revenue streams.

One of the most direct ways exchange rates influence investments is through their effect on returns when converting foreign investments back into the investor’s home currency. Take the following example of a direct purchase of Microsoft Inc Common Stock. At the time of writing each Microsoft share would set you back $477 USD, which at the exchange rate of 1.35 US Dollars to the British Pound, would be £354. Let us assume the share price remains unchanged a year later, at $477 USD; however, over the course of the year, the US Dollar strengthens against the Pound, moving the exchange rate from 1.35 to 1.25 US Dollars to the Pound. In Sterling terms, the value of the investment has increased to £381, despite the share price remaining unchanged. Whilst the example demonstrates a positive currency movement, should the US Dollar have weakened over the course of the year, the investment would have lost money when converted back to Sterling.

Exchange rates affect investments in multinational companies listed in an investor’s home country; however, we live in a global marketplace, and multi-national firms generate revenue from multiple currencies. Continuing to use Microsoft as an example, the company earns a substantial proportion of its revenue from abroad. If the US dollar shows strength against other currencies, this can reduce the value of the overseas earnings generated by Microsoft when they are converted back into dollars, which can affect profitability. Conversely, if the US dollar weakened against other currencies, this can help boost Microsoft’s earnings, which would potentially lead to an upward rating in the value of the company.

The factors behind currency movements

Exchange rates are influenced by a range of factors, although two of the most important considerations are prevailing and expected interest rates and levels of inflation. A country with a higher interest rate than its’ peers may attract more foreign capital, increasing demand for their currency. This can make investments in those countries more attractive. Higher levels of inflation have the opposite effect, as it can erode the real value of currency and deter investment.

Government policy decisions can also have an impact on currency stability. Elevated levels of Government debt can cause currency values to fall as investors become wary of a nation’s financial stability. For example, the ill-fated Mini Budget of 2022, saw a run on the Pound, and caused a sharp drop in the value of Sterling against the Dollar, so much so that the two currencies briefly came close to parity. Likewise, the Brexit vote in 2016 had a severe impact on the strength of the Pound at the time, and in turn damaged investor confidence.

“Safe haven” currencies?

The strength or otherwise of the US Dollar plays a pivotal role in the outlook for the global economy and the price we pay for goods in the UK. Commodities such as oil, gold, and copper are priced in U.S. dollars, and therefore movement in the US currency has a direct impact on the cost of these commodities locally and further influences the cost of goods that rely on these raw materials.

The US Dollar has long been considered a pillar of strength and a “safe haven” currency, which investors tend to flock to in times of crisis. This year has seen a change of direction, partly driven by the trade tariffs announced by President Trump in April. This caused the Dollar to slide against a basket of major currencies, as investors digested the impact of trade barriers imposed by the US. Recent events in the Middle East, including the deepening conflict between Israel and Iran, would ordinarily have led to the Dollar seeing inflows. In recent trading sessions, however, the Dollar Index has barely moved, adding further weight behind the suggestion that the Dollar is beginning to lose its “safe haven” status.

To hedge or not?

Diversifying a portfolio globally is a powerful way of spreading risk across multiple geographic regions. However, this introduces the challenge of managing currency exposure. Truly global investment funds, which invest in several regions and underlying currencies, can minimise the impact of currency movements on fund performance, as different currency positions held function as a hedge against each other. In addition, some investment funds actively undertake hedging strategies to reduce the impact of currency risk. This is particularly the case for fixed income investments, where fund managers are seeking income and stability without the added volatility of currency movements. Whilst hedging can provide downside protection from adverse currency movements, it may also limit potential gains, and therefore the decision to hedge currency risk will be determined by the composition and objectives of the investment fund in question.

Another layer of complexity

When choosing an investment strategy, currency risk adds another layer to the decision-making process and is a risk that some investors choose to ignore. This can, however, lead to underperformance, and increased volatility, particularly in today’s global markets. Our experienced advisers can review existing investment portfolios and assess the level of currency risk to which you are exposed. Speak to one of the team to start a conversation.

Jun 19
0

Stay away from the edge! Tax traps for the unwary

By | Financial Planning

Amidst the confusing and complex UK tax system, quirks in the tax rules often lay traps for the unwary, which can seriously damage your wealth. Amongst these are so-called “cliff edges”, where a small increase in income leads to a disproportionately large loss in benefits or a sharp rise in tax. You can, however, avoid these traps by sensible financial planning.

60% Marginal rate of Income Tax

One of the most striking cliff edges occurs when an individual’s income exceeds £100,000 in a tax year. Most people are familiar with the progressive tax bands of basic rate, higher rate and additional rate income tax; however, less well known is that the Personal Allowance (i.e. the amount that an individual can earn before tax is payable) is tapered once income exceeds £100,000 and is completely lost once income exceeds £125,140.

With £1 of the Personal Allowance being lost for every £2 of income above £100,000, this creates a marginal tax rate of 60% on earnings between £100,000 and £125,140, as the individual not only pays 40% income tax, but an effective 20% tax on top in respect of the lost Personal Allowance.  Once National Insurance is considered, an employed individual takes home just 38p out of every pound of salary earned between £100,000 and £125,140.

The £100,000 threshold also impacts the ability for working parents to obtain Tax-Free Childcare. This Government scheme provides up to £2,000 per annum towards childcare costs, based on the level of contributions made. For example, paying £8 into the childcare account will result in a £2 top-up from the Government. To qualify you (and your partner, if you have one) both need to be in work and receive at least the national minimum wage; however, if either parent earns more than £100,000, you are ineligible for the scheme. Likewise, any parent with income above £100,000 would also lose 15 hours’ worth of free childcare that is available for 3- and 4-year-old children.

Take action to save tax

The cliff edge when income exceeds £100,000 can certainly have a disproportionate impact on the amount of tax paid and eligibility to certain benefits. The good news is that those affected can take steps to bring their net adjusted income below this threshold and save significant amounts of tax.

Any pension contribution made by an individual into a personal or workplace pension will reduce their net adjusted income, as the pension contribution effectively extends the basic rate band by the amount contributed. For example, an individual with income of £110,000 would lose £5,000 of their Personal Allowance. By making a net pension contribution of £8,000 (£10,000 gross), their adjusted net income falls to £100,000, thus restoring the Personal Allowance in full and making an effective 60% tax saving.

Those considering pension contributions should be aware that there are limits to the amount you can contribute to a pension each tax year, and higher earners may be subject to a lower annual pension allowance.

Pension contributions are not the only way to reduce your adjusted net income. Donations to charity which are eligible for Gift Aid would also have the same effect of reclaiming the lost Personal Allowance.

Inheritance Tax Taper

Tax cliff-edges do not only apply to Income Tax. Inheritance Tax rules also use tapering, which add further complexity to an already unpopular tax.

The standard nil-rate band, which is the amount an individual can leave to loved ones on death is £325,000, and assuming a married couple leave everything to each other on the first death, the nil-rate band is transferable, so that the second of the couple to die can leave £650,000 free of Inheritance Tax.

Since 2017, an extra residence nil-rate band has been available when passing on a residence to direct descendants. This is currently worth £175,000, bringing the potential total Inheritance Tax-free threshold for a married couple to £1 million; however, the residence nil-rate band is reduced by £1 for every £2, where the net estate is worth more than £2 million. By way of example, an estate valued at £2.7m would fully lose any residence nil-rate band, leading to an additional £140,000 Inheritance Tax liability.

It is important to regularly consider your Inheritance Tax position, so that action can be taken to reduce the amount of tax paid by your estate. You should, however, bear in mind that the value of the estate on date of death – and not now – will form the basis of any Inheritance Tax paid, and growth in the value of assets over time should also be considered. Furthermore, the value of defined contribution pensions that are unused will form part of your estate from April 2027 onwards.

There are a range of strategies that can be used to reduce the value of an individual’s estate for Inheritance Tax purposes. Gifting is the most obvious way of reducing the value of the estate; however, you should also carefully consider your own financial needs in later life, which may involve care costs, together with any unintended tax consequences on the recipient of the gift. This is where independent financial planning advice can help in looking at your personal circumstances, to consider the most appropriate plan of action.

The benefit of personalised advice

We have highlighted cliff edge tax thresholds that effect both Income Tax and Inheritance Tax, which can lead to disproportionately higher levels of tax, and for working parents, could also impact on assistance with childcare. Our experienced advisers at FAS can consider your personal financial situation and provide advice on effective ways both to reduce your tax burden and ensure your investments, pensions and other arrangements are professionally managed and reviewed. Speak to one of the team to start a conversation.

Jun 12
0

The pros and cons of guaranteed income in retirement

By | Retirement Planning

With the introduction of pension freedoms from 2015, those approaching retirement have a much wider range of options available to generate pension income. Although flexible pension options such as Flexi-Access Drawdown remain popular, pension annuities are an alternative that should be considered.

A lifetime pension annuity is a financial product that provides a guaranteed income for life in exchange for a lump sum from your pension pot. As the purchase of an annuity forms a contract with the insurance provider, a lifetime pension annuity will continue to pay the contractual level of income, irrespective of how long you live. The contract is, however, binding on both the insurer and the pension holder, as once a lifetime annuity has been purchased, the decision is usually irreversible.

Weighing up the factors

It is important to carefully consider the positives and drawbacks of an annuity, compared to other options to generate an income from accumulated pension funds, before deciding on any course of action.

Perhaps the biggest advantage of a pension annuity is that the guaranteed income provides certainty. Once in place, the income payments will continue for as long as you live and avoids the potential that you outlive your pension savings if drawing an income via another method, such as drawdown.

An annuity can be arranged on a single life basis, guaranteeing payments for the rest of the pension holder’s life, or set up so that benefits continue to be paid to a spouse or partner in case of death of the annuity purchaser. A further choice is to select a guarantee period, whereby payments will continue for a pre-determined length of time, irrespective of whether the annuity purchaser survives the length of the guarantee period. Each of these options will, however, reduce the amount of income paid.

A pension annuity also avoids the need to consider stock market risk, as the pension savings will have been converted into a guaranteed income. Irrespective of market or economic conditions, the contractual payments will continue. Additionally, as the pension fund has been exchanged for an annuity, no further fund or management charges will be levied.

Whilst pension annuity rates are largely determined by age and life expectancy, enhanced annuity rates may be offered to those with adverse lifestyle factors, such as smokers, or individuals with certain underlying health conditions. Based on underwriting decisions through each insurer, those qualifying for an enhanced annuity may see modest uplifts to the annuity rate offered, as their actuarial life expectancy is shorter.

Drawbacks of lifetime annuities

Whilst the above may make annuities sound appealing, there are drawbacks to consider when guaranteeing an income in retirement through a pension annuity. One of the most serious drawbacks is that once you purchase a pension annuity, the decision is usually final. If your circumstances change in the future, you can’t adjust the pension in payment or resurrect the pension pot. This lack of flexibility can be a major disadvantage as income needs often change through retirement. For example, you may look to spend more in the early years after retirement on lifestyle choices, such as travel, or home improvements. A fixed lifetime annuity does not provide that flexibility, while through drawdown, you can adjust your income to match your spending needs or take a single income payment should an unexpected need arise.

Other than any guarantees that are purchased with a lifetime annuity, the annuity payments will cease on death. In contrast, under flexible retirement income options, such as Flexi-Access Drawdown, any remaining funds can be passed to beneficiaries on the death of the pension holder. This allows the beneficiary to draw a flexible income and effectively allow the value of the pension to cascade down generations. Currently, remaining pension values on death are outside the scope of Inheritance Tax (IHT), further enhancing the attractiveness of the flexible pension options. Despite the change of rules from April 2027, when pension values will form part of an individual’s estate for IHT purposes, the ability to leave residual pension funds to loved ones on death via flexible income methods continues to be attractive and cannot be matched via a lifetime annuity.

Lifetime annuities tend to be arranged on a level basis, which means that the payment stays the same over the life of the annuity holder. Over time, inflation will erode the real value of the annuity income and reduce the purchasing power of the income received. To mitigate inflation risk, you have the option of buying an inflation linked annuity, or an annuity that increases at a set percentage rate each year. This may appear a sensible option; however, the index linked annuity payments start at a much lower income than a level annuity, and it may take many years for the increasing income to match the starting value of a level annuity.

Seek tailored advice

Deciding the best method of generating an income in retirement from pension savings, depends on a range of factors, and the individual’s overall financial position. Annuities can provide certainty and peace of mind; however, the lack of flexibility and inability to pass down residual pension funds to loved ones can help drawdown options look more appealing.

Given that decisions taken at retirement can have lifelong consequences, it is vital that independent and unbiased advice is obtained before reaching a conclusion. Our experienced advisers will take a holistic overview of your financial circumstances and give tailored advice on both flexible and guaranteed pension income options. Speak to one of the team to discuss your retirement income needs.

Jun 05
0

Alternatives to cash when savings rates fall

By | Financial Planning

Many turn to accumulated savings as a way of generating an income. Those in retirement may use savings interest to supplement state and workplace pension income. Others may use deposit interest earned to fund discretionary spending. Whatever the reason, savers may well have been pleased with the interest received on deposits over the last two years, which are a far cry from the meagre returns paid to savers during much of the last decade.

A mistake that is commonly made is the assumption that cash savings are risk-free. It is true that the balance on a savings account does not fluctuate in value, unless funds are added or withdrawn; however, the hidden risk in holding cash is the eroding impact of inflation. Last year provided something of an historic anomaly, as the Bank of England base rate regularly exceeded the prevailing rate of Consumer Price Index (CPI) inflation, meaning that savers enjoyed a brief period when deposits provided a positive real return.

This brief period of positive real returns may, however, be ending. The Bank of England cut the base interest rate to 4.25% in May, the fourth cut in less than a year, and further cuts are expected over the coming twelve months. This is despite the sharp uptick in CPI in April, which saw a jump to 3.5%, although we expect inflation numbers to ease later this year as economic growth slows once again.

The pace and timing of future action by the Bank of England Monetary Policy Committee will depend on how the UK economy fares in the face of a higher overall tax burden, the ongoing threat of tariffs and consumer confidence. The trend for base rates is, however, now firmly downward.

Diversify away from cash

Naturally, everyone should aim to keep a sensible balance on cash deposit, to meet everyday costs and unexpected contingencies; however, given the likely trajectory for UK base rates over the coming year, those with larger deposits should take the opportunity to consider alternatives that could provide a sustainable level of income, without taking excessive levels of risk.

The first alternative to consider are fixed income investments. When a government or company wishes to finance their ongoing debt obligations, they often do so by issuing a loan note. In the case of government debt, these are known as Gilts in the UK, or Treasury Bonds in the US. Company debt is often labelled as a Corporate Bond. Most loans have a similar structure, whereby the issuer pays regular interest, at set intervals, and at the maturity of the loan, repays the principal of the loan to the lender. This predictable income stream makes government and Corporate Bonds an ideal method of generating a sustainable income.

Investors should, however, be aware that bond prices fluctuate on a day-to-day basis according to underlying market conditions and can also be influenced by the perceived financial strength of the issuer. In the event of a bond issuer failing to repay the interest or principal at maturity, the bond is said to be in default, whereby losses can occur.

Bond prices are also influenced by expected levels of inflation, and interest rate expectations. This is particularly true for longer dated bonds, which tend to be more volatile than short-dated issues, where the proximity of the maturity date increases the predictability of returns. By focusing a fixed income strategy on bonds with shorter maturities, attractive levels of income can be achieved with low levels of volatility.

The second alternative to cash deposit are equities (company shares). Part of the return from holding equities are regular distributions of excess profits which are paid to shareholders in the form of dividends. Many companies have a strong track record of dividend payment and a company that enjoys a robust performance may well look to increase its’ dividend payment over time, which could potentially offset the effects of inflation.

Dividends are, however, not guaranteed, and changes in the fortunes of the company in which shares are held can not only impact the share price, but also the potential for dividend growth. Indeed, a company that begins to struggle may look to cut its’ dividend or cancel it altogether.

The importance of advice

Those who rely on a sustainable level of income should review their cash deposits and potentially seek to diversify surplus funds into alternatives, such as fixed interest securities or equities. It is, however, important to seek impartial advice before considering employing cash savings elsewhere in the pursuit of an income stream.

Firstly, the time horizon for investment needs to be evaluated. Both bonds and equities are designed to be held for the longer term (i.e. at least a period of five years) as holding risk assets over a shorter period only increases the investment risk. The second important consideration is to ensure that you are comfortable with the volatility that will be encountered when moving away from cash deposits. For those used to seeing a static balance on a savings account, adverse movements in bond or stock prices may be unsettling in the initial stages of an investment strategy.

The benefits of taking a holistic approach

The risks of diversifying away from cash deposit can be reduced by building an appropriate and well diversified portfolio, which is tailor-made to suit your requirements. At FAS, we recommend the use of collective investments, which invest in a wide range of different individual positions (thus avoiding stock specific risk) and blend a number of these collectives to achieve further diversification.

As we adopt a holistic approach to financial planning, we will also take into consideration the appropriate level of funds that should remain on deposit and ensure that these deposits remain productive. We will also look to maximise the tax-efficiency of any portfolio strategy.

If you are holding surplus cash deposits and wish to generate an attractive level of sustainable income, then speak to one of our experienced advisers.

May 29
0

Why you should review your discretionary fund manager

By | Financial Planning

New clients to FAS often agree to transfer existing investment portfolios they hold with discretionary fund managers, to our management. As a result, the advisers at FAS regularly have the opportunity to review the performance, management style and charging structure of what we would term “traditional” discretionary fund management services, from some of the biggest names in the industry.

As you might expect, our analysis produces some variances in results, depending on the fund manager employed. There is, however, sufficient commonality across a range of different discretionary fund managers to draw meaningful conclusions and reinforces the need to regularly review the investment performance and costs of any discretionary managed service.

Investment selection

When we review investment portfolios managed by other discretionary fund managers, we do so in an objective and unbiased manner. We have the mantra that if performance is consistent, and the portfolio volatility and risk match the objectives of the client, it may be best to take limited action. We do, however, notice a series of trends emerging from our ongoing analysis, which suggests that many of the largest UK discretionary managers adopt a very similar approach to each other, leading us to question whether the blend of investments held within portfolios really suits the client circumstances.

Firstly, many discretionary managers choose to directly purchase Gilts (UK Government Bonds), to form part of their fixed income exposure within a portfolio. Whilst Gilts do have an advantage in terms of their Capital Gains Tax treatment over collective investments holding a wider range of bond positions, we feel the focus on UK Government debt can miss out of the potential for superior returns from good quality corporate bond alternatives.

The second common theme we have identified is the use of investment funds domiciled outside of the UK. These funds often carry higher charges, which push up the overall cost of ownership, and potentially limit returns. There is a myriad of investment options available to UK investors that are UK domiciled, which remain significantly more popular to UK investors than those domiciled overseas. Indeed, the Investment Association produced data at the end of 2024 that showed that 83% of collective funds held by UK investors were held in funds domiciled in the UK. It could be that the common use of an overseas fund is a case of loyalty to a particular boutique fund house that the firm has used for many years; however, given the breadth of choice available within UK domiciled funds, we question the effectiveness of this apparently common trend.

Finally, we note the quantity of holdings that tend to be present within traditional discretionary managed portfolios. We often see portfolios with upwards of 25 or 30 different holdings, which we feel can cloud performance by spreading the portfolio allocation too thinly to good performing funds. Diversification is, of course, an important factor in risk mitigation; however, we would argue that this can be successfully achieved with a more compact and well organised portfolio.

Investment style and charges

We have often commented on our view of the blend of active and passive investment funds that we prefer to see within a well diversified portfolio. Passive funds dominate industry fund sales, and for good reason, as they provide wide exposure through a particular index with low costs. Our analysis shows that where passive investment styles are ideal for some markets, they are less than optimal for others.

Actively managed funds can provide additional returns over and above the target index, by adopting a more concentrated approach. Strong performance from an active manager can easily justify the additional costs associated with active management, which can be 10 or 15 times higher than an index tracking fund investing in the same sector or region. Conversely, weak active management can lead to underperformance of wider indices, with associated higher charges.

Through our analysis of traditional discretionary managed portfolio services, we note that the bias tends to be heavily weighted to active funds, with only limited exposure to passives. As a result, the blended portfolio cost may well be higher than average. Whilst cost and value should not be conflated, where performance is also modest, we have found clients with other discretionary managers are often paying more than they should, for less than stellar returns.

Absence of wider financial planning

Using a discretionary fund manager may ensure that your investments are reviewed and changed at regular intervals. The function of regular rebalancing and risk adjustment is a key component of any sensible investment approach – leaving investments in place without review for an extended period is unlikely to produce good results over the longer term.

The review carried out by a discretionary fund manager may, however, only extend to the funds themselves, and save for use of the annual Individual Savings Account (ISA) allowance, there may be little scope for wider financial planning.

This is not the fault of the discretionary manager. Their remit is to manage a portfolio of funds; however, this function only forms part of a bigger financial puzzle for most client circumstances. This is where an independent and holistic firm, such as FAS, can add significant value, by undertaking a full and comprehensive financial review, providing advice on multiple tax wrappers (such as Pensions and Investment Bonds), esoteric investments such as Venture Capital Trusts and Inheritance Tax solutions and other associated areas, for example protection policies.

The importance of critical review

Given the many examples we have noted, anyone using a discretionary fund manager should regularly undertake a critical review of the service they are receiving. Investors should question the investment performance, both on an absolute and relative basis compared to peers, and the costs and charges of the service. At FAS, we can undertake an impartial review of an existing investment strategy and undertake additional key analysis, looking at areas such as risk and volatility, which can be difficult to assess without expert advice. Speak to one of our experienced advisers to discuss your existing discretionary manager.

May 15
0

The evolving outlook for Japan

By | Investments

We previously cast the spotlight on Japanese Equities late in 2023, at a time when the region was seeing a sharp rally in values, which extended through to the start of this year. Recent performance has, however, been disappointing, as investors become wary of the impact of tariffs imposed by the US. Despite these challenges, Japan remains an interesting opportunity for investors.

New highs in 2024

Over the last two decades, Japanese equities have often been a source of disappointment for investors, promising much, but delivering sub-par returns. This is in stark contrast to the boom days of the 1980s, when Japanese equities were caught in a bubble of optimism that extended across other aspects of the Japanese economy, such as real estate. Partly due to lax regulation, asset prices continued to climb until the bubble burst in the early 1990s. It took 34 years for the Nikkei 225 index of leading shares to reclaim the level reached in 1989, when the index climbed to a record high in July 2024.

The rationale behind the strong performance in Japan during 2023 and 2024 has little to do with speculation. After grappling with deflation for many years, Japan’s inflation rate has been positive since the end of 2022, which has helped the Japanese economy to normalise. With stable levels of inflation, wages have increased, improving the outlook for domestic demand. Interest rates are now also positive, albeit at just 0.5%, after many years where the base lending rate was negative.

Japanese companies have also evolved over recent years, improving their corporate governance and engagement with shareholders. As a result, Japanese companies have become more “westernised” when delivering shareholder value, by increasing dividends and using excess capital to arrange share buybacks. Each of these measures has the potential to improve return on capital and enhance the attractiveness of Japanese equities to investors.

Volatility remains

Using valuation metrics, Japanese equities look inexpensive compared to global counterparts. For example, they stand at a sizeable discount to the valuation of US equities. It is, however, worth noting that Japanese equities are not as cheap as they were two years ago, prior to the upswing in values.

Japanese equity markets can also be volatile. Investors in Japan suffered a temporary setback in August last year when a sharp rally in the value of the Japanese Yen against the Dollar triggered the unwinding of the so-called “carry trade”. This is where investors take advantage of the low interest rates in Japan to borrow Yen and use these funds to invest in assets with higher potential returns. When the Yen rose unexpectedly, this led investors to unwind their positions, which led to a short but painful fall in the Nikkei 225 index. Whilst the index had recovered the lost ground within four weeks, it served as a timely reminder of the importance of considering the outlook for the Japanese currency in conjunction with the prospects for equity markets.

Tariff threat

Japan is seen to be one of the nations most at threat from the imposition of tariffs by the US administration. Japan is a major exporter, and the 24% tariff announced on 2nd April by President Trump was certainly not welcome. Despite the pause on tariffs announced a week later, investors remain concerned that tariffs could derail the positive outlook, and result in weaker economic growth.

The US accounts for around 20% of Japan’s exports, and any lasting trade barrier could prove troublesome, particularly for industries such as automotive, given the scale of exports of Japanese cars to the US market.

It is also important to consider the “knock-on” effects of tariffs imposed on other nations which trade with Japan. Lasting tariffs on major trading partners, such as China, could lead to a hike in the cost of parts and components used by Japanese industry.

Whilst tariffs continue to pose a threat to the outlook for Japanese exporters, and the wider economy, Japan enjoys good relations with the US and of the nations looking to strike a deal with President Trump, a good argument can be made that Japan are in a better position than many others to achieve a reasonable outcome.

Largely due to the tariff announcements, the Nikkei 225 fell by 8.2% over the first four months of 2025, compared to the index level at the start of the year, although valuations have subsequently rebounded strongly from their low point. Market valuations have, therefore, already discounted some of the concern over tariffs, and a positive outcome from trade negotiations for Japan, could aid further recovery. On the other hand, a reimposition of the punitive rate announced by President Trump on Liberation Day could potentially lead to further underperformance.

The investment outlook

Using valuation metrics, and considering the pace of change within Japanese companies, Japanese equities appear attractive; however, risks do remain, and whilst the regulatory reforms may prove helpful in the long term, the most immediate threat is posed by tariffs on global trade. For this reason, we recommend allocations to Japan are held as part of a diversified investment portfolio, which enables investment risk to be controlled. By allocating funds to different regions, where investment performance does not necessarily correlate, and to different asset classes, such as Government and Corporate Bonds and Alternative Investments, volatility and risk can be reduced.

Speak to one of our experienced financial planners to discuss the asset allocation of your portfolio.

May 08
0

Testing times for ethical investment strategies

By | Investments

Ethical investment strategies have seen significant growth over recent years, as more investors aim to align investments with their own values. According to data from Morningstar, total assets in global sustainable funds have climbed to US$3.2 trillion at the end of 2024, almost double the total assets held in similar funds at the end of 2020.

Whilst returns from socially responsible investment strategies have been strong over the longer term, recent performance has lagged unfiltered investment approaches. This underperformance is one reason for the slowing demand for socially responsible strategies.

Playing catch-up

Those who wish to invest with an ethical stance have enjoyed returns over the medium and long term which have closely matched the returns from wider markets. Over recent months, however, this has not been the case. After seeing strong growth in 2024, largely due to the allocation to technology within ethical funds, socially responsible investment strategies have lagged more inclusive investment approaches since the start of the year. The chart below shows the widening gap between the MSCI World Index (shown in blue), and the MSCI World SRI Index, which excludes companies whose products have negative social or environmental impacts (shown in red), over the last 12 months.

The disparity in performance is the first significant divergence seen between the two MSCI indices over the last five years and clearly demonstrates the additional “cost” that ethical investors are currently paying to invest in line with their values.

MSCI World vs MSCI World SRI indices, Total Return in GBP over 12 months. Source FE Analytics April 2025

The underperformance can be attributed to the sector rotation we have seen over the last three months, due to global events. The decisions taken by European nations to increase defence spending has seen the Aerospace and Defence sectors grow strongly, as investors anticipate the potential profits that could be generated from growing order books. Socially responsible strategies are likely to hold a very limited exposure to these sectors.

Energy stocks have also performed well in the first quarter of 2025, producing the strongest performance of any sector within the S&P500 index, spurred on by a shift in policy from the US administration towards oil and gas production. This contrasts with the performance of renewables related stocks over the same period.

The underperformance of Technology has also been a major detractor that has hindered ethical investment strategies. After an extended period of growth, investor confidence in the major US Tech players has cooled due to concerns over the impact of tariffs and Chinese advances in Artificial Intelligence (AI).

Finally, the new Trump administration has clearly set out plans that fail to align with the green agenda and climate goals. This has led investors to question whether the change of direction could lead to continued underperformance.

Strong headwinds

The weaker returns achieved from ethical investments over recent months is likely to be a key reason behind the significant outflows seen from ethical investment funds over the last quarter. According to Morningstar research, more money was withdrawn from ethical strategies globally than invested, and new fund launches also fell to their lowest point in three years, reflecting the weaker investor demand.

Recent performance is not, however, the only reason ethical investments are facing strong headwinds in the current market conditions. Tighter regulation of sustainable investments has seen Europe, and the UK introduce new regulatory frameworks, designed to reduce the potential for “greenwashing”, i.e. misleading marketing that makes an exaggerated or false claim about the environmental impact of an investment.

In the UK, the Sustainability Disclosure Requirements (SDR) came into force last year, which encouraged funds to apply for a sustainable label, and for funds that choose not to apply for a label, to tighten up naming conventions. Take-up of the new labels has been slow, with just 94 funds adopting one of the SDR sustainability labels by April 2025. This is due to the rigorous scrutiny of the investment approach by regulators. As a result, a much greater number of funds have chosen to change name, more closely reflecting the strategy of the fund, or have decided to drop a sustainable investment approach altogether.

Whilst the slowdown in fund launches is a concern to asset managers, there remains a wide choice of both active and passive investment funds available for those who wish to invest ethically. Sustained weaker performance and diminishing investor appetite could, however, lead some fund managers to ditch their ethical stance, or in the case of smaller funds, merge or close investment strategies.

Where next for Ethical investments?

Socially responsible investment has taken significant leaps forward over recent years in terms of popularity and the availability of both actively managed and index tracking funds. Whilst ethical investors have seen returns closely match mainstream investment strategies over the longer term, the recent underperformance will no doubt be of concern to some who prefer to invest ethically. This could potentially have wider implications for continued growth in the ethical investment space.

At FAS, we have two distinct approaches to cater for those who wish to incorporate ethical considerations into their investment approach. Through CDI, our discretionary managed portfolio service, we offer two strategies that take a common-sense approach to socially responsible investment, that are designed to meet suitable screening criteria (which limits exposure to areas such as fossil fuels, gambling, animal testing and weaponry) whilst being as inclusive as possible.

We also appreciate some investors would prefer a more focused ethical investment approach. Here, we can build bespoke advisory investment portfolios, using rigorous quantitative screening processes and active engagement with leading fund managers, to meet a client’s ethical preferences.

Speak to one of our experienced financial planners to discuss existing investments you hold, or if you wish to invest in a socially responsible manner.

May 01
1

Choosing the right investment vehicle

By | Financial Planning

One of the most important choices facing investors is where to place long-term investments. The choice of investment vehicle can influence the tax-efficiency of the strategy, the overall cost of the arrangement, and the potential for growth. For many investors, an Individual Savings Account (ISA) offers a tax advantaged route which is ideal for long-term investment, whereas Pension contributions receive tax relief, and Pension savings benefit from tax-free growth whilst invested. Beyond Pensions and ISAs, the tax implications of any investment plan need to be considered. There is, however, a further option that investors could consider, that can defer a tax liability or in some circumstances, remove it completely.

Investment Bonds in focus

Investment Bonds are products offered by life insurance companies, which combine features of both insurance and investment. For the uninitiated, Investment Bonds can appear complex structures, given the decisions that need to be taken when establishing the Bond, and the tax treatment of gains. This is where independent advice can prove invaluable in navigating the options available.

In simple terms, the first option when choosing an Investment Bond is whether to purchase a Bond from a UK based provider (so-called “Onshore” Bonds) or an International Bond provider, who may be based in Jersey or the Isle of Man. These are known as “Offshore” Bonds. As this choice will also dictate the tax treatment of the Bond, this decision requires careful consideration.

Unlike an ISA or Pension, Investment Bonds do not provide tax-free growth. They do, however, allow the investor to defer an income tax liability, whilst providing regular access to a proportion of the original investment. Investors can withdraw up to a maximum of 5% of the original investment each policy year, without triggering an immediate tax liability, although adviser charges are deemed to be withdrawals, and form part of the annual 5% allowance. As a result, the investor can potentially withdraw 100% of the original investment over a 20-year period, without any immediate tax considerations. The example below demonstrates the ability to draw regular sums from an initial investment of £200,000 into an Onshore Investment Bond.

Initial Investment £200,000
5% allowable limit per annum before incurring a tax charge £10,000 per annum
Monthly Withdrawal payment £833.33 per month

Any withdrawals made above the accumulated 5% allowance, either as a larger lump sum or full policy surrender, is deemed to be a Chargeable Event and the gain is assessed for Income Tax on the investor.  The precise level of tax payable will depend on whether the bond is held Onshore or Offshore, and the tax position of the investor. Further tax mitigation can be achieved through a mechanism where the gain is effectively “spread” over the number of years the Bond has been held.

Wider investment options

Historically, Investment Bond solutions were exclusively provided by the largest UK insurers, such as Aviva, Scottish Widows and Standard Life. This has presented challenges in terms of investment selection, as most contracts of this type offer a restrictive range of fund options from which to select. More recently, leading investment platforms have introduced modern Investment Bond contracts, which allow complete freedom of investment choice, including Discretionary Managed options. This wider range of options greatly enhances the attractiveness of an Investment Bond structure. In addition, such platform-based solutions are also competitively priced when compared to older insurance products.

Tax efficiency

The availability of more modern Investment Bond solutions is testament to their growing popularity as an investment option, much of which is due to changes in tax legislation.

The reduction of the Capital Gains Tax (CGT) annual exemption from £12,300 to £3,000 over recent years means that investors holding direct equities, or investment funds outside of an ISA or Pension, are more likely to face a CGT liability when disposing of investments. This is not a concern for investments held within an Investment Bond, as funds can be freely switched without creating a chargeable event.

The availability of the annual withdrawal allowance is another benefit, as this allows investors to establish a stream of regular payments, by way of an “income” without considering the tax implications.

Specialised uses

Investment Bonds can also be a sensible option when trustees consider how to invest trust funds, although this very much depends on the type of trust and objectives. As an Investment Bond doesn’t produce any income (unless a Chargeable Event occurs) or capital gains, this can ease the burden of administration on trustees.

Discretionary trusts are a particular example where an Investment Bond could be an option to consider. As such trusts pay Income Tax at a rate of 45%, the Bond structure defers this tax liability until a beneficiary requires funds from the trust. At this point, segments of the Bond can be “assigned” to the beneficiary, to encash at their personal rate of tax, which may well be lower than the rate that would apply if surrendered by the trustees. Whilst this could be a sensible way to structure an investment for this particular type of trust, it would not be appropriate for others, and we therefore recommend that trustees seek bespoke advice tailored to the precise terms of the trust.

The value of independent advice

The decisions behind the selection of an appropriate investment strategy can be complex and multi-layered. Aside from selecting the correct asset allocation and investment provider, the choice of product will influence the tax-efficiency of the arrangements, the costs and flexibility offered. Investment Bonds could be an ideal solution in certain circumstances; however, it is important that the right investment vehicle is chosen to meet the needs of each individual. As an independent firm, we can recommend products and solutions from across the marketplace without restriction. Speak to one of our experienced advisers to discuss the options in more detail.

Apr 24
0

Pension Freedoms – ten years on

By | Pensions

It is now a decade since George Osborne introduced legislation under the title of Pension “Freedom and Choice”. The rules, which were introduced in April 2015, gave people aged 55 and over more flexibility about when and how they draw their Defined Contribution pension savings.

Increased popularity

Flexi-Access Drawdown, which was introduced under the legislative changes ten years ago, has rapidly become the most popular method of drawing a pension income. Under a Flexi-Access Drawdown approach, the pension holder has complete freedom to draw as much or as little from their pension pot beyond the normal pension age (currently 55) without restriction.

According to data compiled by the Financial Conduct Authority (FCA) in the 2023/24 tax year, 68% of those with pension funds valued between £100,000 and £250,000, who accessed their pension, did so via Flexi-Access Drawdown. Only 19% chose to purchase an annuity, where a guaranteed income for life is bought with the pension fund value. For those with pension values above £250,000, the popularity of Flexi-Access Drawdown is even higher, with 82% of individuals accessing their pensions using this approach.

It is easy to understand why Flexi-Access Drawdown has become such a popular option for those with more substantial pension savings. Adopting a drawdown approach provides the ability to adjust the amount of income drawn to a level that precisely suits the individual and can easily be adjusted to adapt to changes in financial circumstances. For example, the level of drawdown can be increased if additional income is required or reduced if income is not needed.

Furthermore, the income stream can be established as monthly payments, or ad hoc lump sums of income can be paid in addition to, or instead, of regular payments. This means that Flexi-Access Drawdown can also be a powerful way of reducing an income tax liability, by adjusting the level of income withdrawn. This is proving particularly useful as Income Tax bands and the Personal Allowance have been frozen since 2021, and the State Pension is increased each year via the “triple lock”.

By adopting a Flexi-Access Drawdown approach, the fund remains invested, providing the opportunity to participate in growth in values over time. As a pension fund remains tax exempt when invested, it allows the accumulated savings to grow in a tax-efficient environment.

A key benefit of Flexi-Access Drawdown is that any remaining pension value held can be passed on to a nominated beneficiary when an individual dies. This contrasts with other options, such as pension annuities, where payments cease on the death of the individual, or their dependent.  It is, however, worth remembering that pension death benefit rules are set to change from 2027, when the remaining value of a defined contribution pension will be added to an individual’s estate when Inheritance Tax is calculated.

Not without risks

Whilst it is easy to identify the reasons for the increased popularity of drawdown pensions, it is important to recognise that this approach carries ongoing risks. The most obvious is the potential for the withdrawals to erode or even exhaust the value of the pension, at which point the pension would cease to provide you with an income. The success of a drawdown approach will be measured by whether the rate of withdrawals taken is sustainable, and the long-term investment performance achieved.

Selecting an unsustainable rate of withdrawal is likely to reduce the value of the pension over time, if investment returns fail to match the level of withdrawal taken. As the pension value falls, the rate of erosion often accelerates, as the rate of return required to offset withdrawals becomes increasingly unrealistic. This effect can be exacerbated by significant movements in global markets, such as those seen during the early stages of the Covid-19 pandemic or at the start of the Russian invasion of Ukraine. If such a market shock occurs in the early stages of a drawdown strategy, this could further reduce the likelihood that the portfolio can meet the required rate of return to match the rate of withdrawal.

Adopting a drawdown approach will mean that a suitable investment portfolio will need to be constructed, and managed, which will incur ongoing costs. Such costs are not present when buying an annuity, due to the absence of an investment fund. It is also crucial that any drawdown retirement strategy is reviewed regularly, to ensure that it continues to meet any changes in circumstances, and the investments remain appropriate given variances in market conditions.

The power of tailored advice

We have often commented in the past that financial decisions taken just before retirement are perhaps the most crucial, as they can have implications for the remainder of an individual’s life. The increased choice offered under the Pension Freedom rules also increased the complexity of the decision-making process, and this remains as true today as it was ten years ago. This is why it is important to seek advice which is tailored to your specific needs, objectives and financial circumstances.

Whilst Flexi-Access Drawdown is clearly the most popular option amongst many approaching retirement, it isn’t right for everyone. Annuities provide a guaranteed income and avoid the need for the ongoing risk and costs of managing pension investments. They do, however, fail to offer the flexibility that a drawdown approach provides, which many find invaluable.

Our experienced advisers can take an independent review of your retirement savings, and thoroughly explore the options with you, so that you can be confident you have made the right decision. Speak to one of the team to start a conversation.