Investments

Perhaps the single most important factor that determines the success of a chosen investment strategy is how risk and reward are balanced. Naturally, investors are always keen to maximise returns where possible, but it is important to bear in mind the level of risk that is being taken in trying to achieve an investment goal.

One of the key building blocks of any successful portfolio strategy, and an effective way of reducing portfolio risk, is to add different types of investments and blend them together, so that a diversified portfolio is created. Holding a diversified portfolio can help reduce risk, as different asset types tend to behave differently. This can help smooth returns in periods when markets are volatile, and avoid being over-exposed to one particular investment.

Diversification can be achieved in a number of ways, and a good starting point is to consider the allocation given to each different type of asset in the portfolio. Whilst many people will hold shares in their portfolio, adding government bonds, property, alternative investments and cash to the mix will help diversify returns, as each of these asset classes reacts differently to changes in the economic landscape.

Look further afield for returns

Whilst investing in different asset classes can lay the foundations, further diversification can be achieved by broadening your horizons to consider global investments. We see far too many portfolios managed by other fund managers, or by individuals who self-select investments, that are heavily weighted towards UK shares. Whilst the FTSE100 index of leading shares can, perhaps, be viewed as a global index (as company profits are often derived globally) many mid-sized and smaller UK companies have a domestic focus, and therefore the fortunes of the UK economy will have a direct bearing on performance. Holding a UK focused portfolio, for example, may well have led to consistent underperformance when compared to global markets between 2016 and 2021. Only holding UK assets can also mean that is it difficult to gain exposure to specific sectors, such as Technology.

This concentrated risk can be mitigated by investing in other areas of the World. Allocating funds to other areas, such as the US, Europe, Far East and Emerging Markets can seek out investment opportunities in different geographic regions. This can reduce risk, as it is often the case that the economic prospects of developed and emerging nations can look very different at a particular point in time.

Stock specific risk

Holding individual shares also introduces additional risk, as specific factors affecting the company or companies in which you hold shares could have a significant impact on investment returns. This can effectively be reduced by investing in a collective investment fund, such as a Unit Trust. These investments hold a range of positions, so instead of investing in one, or a handful of companies, you gain exposure to a much wider range of companies across different sectors of the economy. This won’t prevent the portfolio rising and falling in value, but does limit the potential negative impact of poor performance of an individual stock on the overall performance of the portfolio.

Concentrating investments in one particular sector of the economy can also introduce risk, as difficulties faced by one company can often spread across similar companies. Take general retailers for example. If high street spending falls, due to economic contraction, then this is likely to affect most major retail stocks. In this scenario, holding a portfolio of retail shares is not going to provide adequate diversification, as the price of all shares in the sector may be adversely affected at the same time.

Review and rebalance

Whilst portfolio diversification is a proven investment theory, it does not remove the need to consider the investment strategy adopted regularly, to ensure that the investments held continue to meet your needs and objectives, and remain appropriate given the prevailing economic and market conditions. This was more true than ever last year, when the mix of high inflation and rapid interest rate hikes caused risk assets to move in a similar direction at the same time. This underlines the importance of tailoring the portfolio approach to fit the prevailing and expected conditions.

Keeping a portfolio under regular review is just as crucial as the initial construction phase and this is where an ongoing review service offered by an independent financial planner can add value, by making changes where appropriate to position the portfolio for the expected conditions. At FAS, our ongoing advice service offers a comprehensive and robust financial review at regular intervals, and part of this review looks to ensure that adequate diversification is maintained. Part of this review may lead to a rebalancing exercise, where portfolio allocations are adjusted so that the desired asset allocation is restored.

If you hold an investment portfolio that has not been regularly reviewed or wish to invest capital using an actively managed and conviction-based investment approach, then speak to one of our experienced advisers. We can provide an independent assessment of existing investment portfolios and offer tailored investment solutions on an advisory and discretionary basis.

If you would like to discuss the above in more detail, please speak to one of our Financial Planners here.

Tax treatment varies according to individual circumstances and is subject to change. The value of your investment and any income from it can go down as well as up and you may not get back the full amount you invested, even taking into account the tax benefits. Past performance is not a reliable indicator of future performance. Investing in shares should be regarded as a long-term investment and should fit in with your overall attitude to risk and financial circumstances. Investors do not pay any personal tax on income or gains, but ISAs may pay unrecoverable tax on income from stocks and shares received by the ISA managers. Stocks and Shares ISAs invest in corporate bonds, stocks and shares and other assets that fluctuate in value. The Financial Conduct Authority does not regulate tax advice.

Technology features in almost every aspect of our daily lives, and prime examples of areas where technology has rapidly advanced over recent years includes cloud computing, e-commerce and electric vehicles. Advances in technology can bring exciting prospects for growth, and this is one of the key reasons why holding exposure to technology companies is an attractive proposition for growth-minded investors.

Increasing influence

It is impossible to ignore the influence of technology stocks on the prospects for global markets. Tech companies make up 22% of the MSCI World Index, which is an index of the largest companies across 23 developed World markets. Apple and Microsoft are the two largest quoted companies in the World, as measured by market capitalisation, with a combined market valuation of $4.8 trillion USD. Also within the top 10 companies measured by market capitalisation are Alphabet (the parent company of Google), Nvidia, Tesla and Meta (formerly Facebook).

Too big to ignore?

Major global tech giants such as Apple, Microsoft and Amazon are now a feature of our everyday lives. Anyone holding an investment portfolio, or pension fund invested in Equities, is likely to hold these global giants, and any global index tracking fund will have significant exposure. Given the sheer size of the likes of Apple and Microsoft, the prospects for global stock markets are, therefore, closely linked to the performance of a handful of tech companies. One could, therefore, argue that these stocks are simply too big to ignore.

Growth expectations

Investing in technology stocks can provide exciting prospects for growth, as they can often disrupt markets with innovation that changes the landscape. This is very different from more traditional industries, where growth can often be linked to wider performance of the economy.

Tech stocks have the potential for faster growth, as they tend to have higher margins on the products or services they offer. Valuations of tech companies can therefore be expensive compared to other sectors of the economy, as investors expect to see strong growth in the future. As a result, the valuations placed on high growth tech stocks often leave little room for disappointment.

There are examples of highly rated tech start-ups quoted on exchanges that are yet to make a profit, with the lofty valuation based on the hope of explosive future earnings growth, which may or may not occur. This is why some areas of the tech sector can carry much greater levels of investment risk than others. Technology stocks can also suffer from being in vogue briefly and then find progress much harder to maintain. A recent example of this is Peloton, the fitness equipment manufacturer, whose shares trade at a fraction of the price seen during 2020.

The prospects for technology

The Covid-19 pandemic led to a rapid take-up of tech, and the strong performance seen by leading tech names drove the wider market to recovery from the low point reached during the first pandemic lockdown.

2022 was, however, a period when markets’ focus shifted away from technology, and value stocks and companies whose fortunes benefit from interest rate hikes outperformed. One of the reasons for this is that tech companies often rely on borrowing to fuel their growth and as interest rates rise, it is more expensive for these companies to service their debt. As markets expect interest rates to peak later this year, and possibly fall during 2024, attention has shifted again to the tech sector, which has seen strong gains so far this year.

The need for diversification

Diversification is a key component of any successful investment strategy. Whilst it is easy to be attracted to the growth potential that technology offers, it is vital to remember that high growth investments tend to be volatile – in other words, they can amplify the ups and downs of investment markets over time.

Whilst many tech companies are priced based on explosive growth in the future, a good proportion of tech companies have gone through their rapid expansion phase, and now offer something for the value investor. This is why holding a spread of companies in a collective investment, such as a Unit Trust, can help reduce risk.

It is also important to balance exposure to technology with other sectors of the economy, such as financial stocks, energy, utilities and industrials. By allocating your portfolio across different sectors, you can look to reduce the risk of one sector underperforming, and therefore harming the portfolio value, as not all sectors move in the same direction or speed at the same time. Adding balance by investing in other asset classes, such as Bonds, Property and Cash can also further reduce risk, as their returns don’t tend to be linked to stock market returns.

It’s always best to speak to an independent financial adviser before taking any action to change an investment strategy. Our experienced advisers can evaluate an existing investment portfolio and provide expert advice on the best way to get exposure to the tech sector.

If you would like to discuss the above in more detail, please speak to one of our Financial Planners here.

The value of investments and the income they produce can fall as well as rise. You may get back less than you invested. Past performance is not a reliable indicator of future performance. Investing in stocks and shares should be regarded as a long term investment and should fit in with your overall attitude to risk and your financial circumstance.

Pressure on two banks in the US and Europe has increased market volatility over the last week, and led to global equity markets giving back gains made so far this year. Whilst it is disappointing to see the solid start to 2023 interrupted, we don’t believe the issues behind the bank failures are likely to lead to contagion and a repeat of 2008/9, when the banking sector as a whole faced a liquidity crisis.

A social media fuelled bank run

Silicon Valley Bank (SVB), which was the 16^th largest bank in the US, became the highest profile bank failure since 2008, when regulators stepped in to take over the bank and guarantee depositors on 13^th March. SVB, despite being little known outside of the tech sector, was popular with tech start-ups, and as deposits increased with the bank, SVB started buying longer dated Treasury Bonds with their capital. Following the rapid rise in US interest rates over the last 12 months, Treasury Bond yields have also risen, which has caused the price of Treasury Bonds to fall, in particular longer dated issues, which are more reactive to changes in interest rates.

Depositors became spooked, with some reports suggesting that the rapid spread of information across social media drove concerns over the bank’s stability. SVB were forced to sell the Treasury Bonds they held at a loss to the price paid, and concerns grew, with $40bn being withdrawn by savers over two days.

Unlike the Great Financial Crisis of 2008/9, where cracks could be seen appearing for some time, regulators had little warning that SVB was in need of a bailout. However, learning from the mistakes made almost 15 years ago, regulators acted quickly to reassure depositors that their funds were safe, and the Bank of England and Treasury acted with speed to rescue the UK arm of SVB, brokering a sale of assets to HSBC.

Two other smaller US banks have also ran into difficulties over recent days. Signature, who were based in New York, saw a similar run from depositors, and First Republic, who are based in San Francisco, received a $30bn cash injection from major banks including JP Morgan and Bank of America.

It remains a possibility that other small and mid-sized US banks could follow down the path of SVB, Signature and First Republic, although we feel reassured that regulators have acted swiftly to resolve the potential for contagion.

The impact of central bank policy

The demise of SVB has in part been led by the aggressive interest rate increases we have seen since the start of 2022. Central banks have been laser-focused on tackling inflation over the last year, and by hiking the central bank rate from 0.25% to 4.75% in the space of twelve months, the US Federal Reserve has raised interest rates more quickly than at any point in history. In some respects the Federal Reserve were correct to focus on the inflationary pressures, as high inflation over the long term can cause serious economic damage. However, the actions taken by central banks, including the Bank of England and European Central Bank amongst others, have wider consequences in terms of financial stability.

The European Central Bank raised interest rates by 0.50% last week and we expect other central banks to nudge rates a little higher, although we do not believe significant further increases are warranted. Indeed, with inflation falling sharply – the Office for Budget Responsibility has suggested UK Consumer Price Inflation would return back to 2.9% by the end of this year – central banks run the risk of going too far, and could begin cutting rates as we move into 2024.

Credit Suisse

Away from the US, the continued woes at Swiss bank Credit Suisse has added to the negative market sentiment. Credit Suisse’s shares has been under pressure since 2021, after being hit by a number of scandals and compliance failures, although the downward stock price movement accelerated following the news of SVB. The Swiss central bank agreed to lend Credit Suisse $53bn last week to shore up their operations, following the news that the bank’s largest backer, the Saudi National Bank, wasn’t prepared to add further support.

It is important to acknowledge that Credit Suisse have been under pressure for some time, and whilst the very recent market malaise hasn’t helped Credit Suisse’s cause, there is little to link the Swiss bank’s issues to those faced by SVB and others in the US. That being said, unlike the three smaller US banks that have run into difficulties, Credit Suisse is of much greater importance to global financial stability. As a result, regulators worked to arrange a deal for the bank to be sold to another Swiss bank, UBS, which appears to have been successful in calming market fears.

Reasons to be positive

Away from the specific issues facing the banking sector, it is important to recognise that the global economy is in reasonable shape. Despite the unexpected jump in UK Consumer Price Inflation reported for February, we expect inflation rates in most Western economies to fall rapidly, and this should lead to Central Banks pausing the rate hiking cycle, and potentially performing an about face as we move into 2024. In the Budget last week, Chancellor Jeremy Hunt suggested the UK economy should avoid a technical recession this year, confounding previous negative predictions. Corporate earnings remain resilient, with US companies on average reporting better than expected results in the Q4 2022 earnings season. Finally, stress in global Bond markets has eased, as investors believe central banks will change direction in due course.

Despite the fact we have seen the useful gains made during January and February given back over the last week, we do not see the specific issues in the banking sector leading to wider contagion across global banking stocks. The underlying economic outlook is proving to be stronger than anticipated, and whilst markets are likely to be volatile in the short term, our positive view over the medium term remains intact.

Speak to one of our experienced financial planners here if you have concerns about how your portfolio is positioned in light of the news in the banking sector.

The value of investments and the income they produce can fall as well as rise. You may get back less than you invested. Past performance is not a reliable indicator of future performance. Investing in stocks and shares should be regarded as a long term investment and should fit in with your overall attitude to risk and your financial circumstance.

When selecting funds to add to an investment portfolio, many are attracted by actively managed investment funds, rather than passive funds, that aim to track an index. One of the most obvious reasons is that a passive investment, which replicates some or all of the components of an index, is unlikely to ever outperform the benchmark index.

Passive investments do, however, carry some advantages over actively managed funds. Passive funds provide broad exposure to an index, and generally carry low fees. That is why we hold an allocation to passive investments within our own discretionary managed portfolios, to provide an element of broad market exposure.

Our investment approach also looks to add actively managed funds, where a manager or management team select positions within their universe of stocks or bonds. The aim of active management is, of course, to select the best performing positions within the portfolio, and avoid the weaker performers, thus outperforming the representative benchmark. Active management does, however, come with a cost in terms of higher management fees, and it is therefore important that investors get good value for money.

Selecting active funds to hold in a portfolio can be a daunting process, due to the sheer number of funds available to UK investors, and this process isn’t made any easier as some active funds hold a very diversified range of positions. These “pseudo-trackers” potentially only produce returns that deviate from the index return by a small margin. This over-diversification may well lead to portfolio returns that closely follow the benchmark, which may prompt the investor to question what benefit the active manager can provide over a passive portfolio approach. This is particularly important when considering an Equities passive fund can carry an annual management charge of 0.10% per annum, compared to actively managed funds, where annual management charges of between 0.75% and 1% per annum are typical.

At the opposite end of the investment spectrum are what we describe as “high conviction” funds. These are funds with a very different investment approach and tend to hold a concentrated portfolio of investments within the fund. This can be as little as 20 stocks, but typically falls in the range of 30-60 stocks, which may well be highly concentrated when considering the universe in which the fund operates.

By constructing a concentrated portfolio, the manager will look to hold larger positions in stocks that aim to outperform, which in turn can improve the fund performance compared to the benchmark. High conviction funds tend to focus very heavily on stock selection, and as a result, portfolio turnover may well be lower than average. Furthermore, managers may well look to stick with positions through a market cycle, which can mean that funds can weather uncertain market conditions.

Selecting high conviction funds places greater emphasis on careful fund selection, as the decisions taken by the manager, or management team, have a much larger influence on returns. This is where expert fund analysis, focusing on the strategy adopted by the managers and careful review of the manager’s track record, can help identify high conviction funds with the best chance of outperforming benchmark returns.

When constructing our portfolios, the FAS Investment Committee meets regularly with leading fund houses and question the active managers directly to gain a better understanding of the investment approach adopted. Combined with advanced quantitative fund selection tools, our experienced team can filter the large number of funds available to UK investors, with the aim of selecting a number of high conviction funds to blend with broad passive market exposure. We feel that taking this disciplined approach to fund selection and portfolio construction can lead to strong and consistent returns over time.

If you would like to hear more about our investment strategy, please speak to one of our Financial Planners here.

The value of investments and the income they produce can fall as well as rise. You may get back less than you invested. Past performance is not a reliable indicator of future performance. Investing in stocks and shares should be regarded as a long term investment and should fit in with your overall attitude to risk and your financial circumstance.

The COP27 climate change conference held in Egypt concluded late last year with a number of key agreements that may impact investment decisions in the future. Perhaps the most eye-catching agreement was reached on the last day of the conference, as developed nations agreed to establish a dedicated fund to assist developing countries rebuild infrastructure caused by extreme weather events. The conference also reaffirmed the 2015 Paris Agreement, where nations committed to pursue efforts to limit global temperature increases, and also agreed to focus on low-emissions energy, through wind and solar, to carbon capture and storage.

So what does this mean for investors? Almost every company and investment fund has been influenced by the environmental agenda for some time, and the decisions reached at COP27 underline how businesses will need to consider the environmental impact of their operations in the future. Companies are already moving in a consistent direction of travel towards greater sustainability, better corporate governance and consideration of the social impact of their business.

This drive towards sustainability is being adopted by most global companies, although companies are moving in different ways and at different speeds. Common themes adopted by many companies is to reduce use of fossil fuels in the manufacturing process, moving away from single use plastic to recycled products, and switching to renewable energy sources. It is good practice as well as being good for the planet, as consumers are becoming increasingly conscious about the sustainability of the products they purchase, and companies want to be seen to be doing business with other companies that share similar views, ethos and outlook when it comes to sustainability.

Amidst the clamour to be more sustainable, it is important that investors can rely on the transparency of data, so that they can make informed investment decisions. Over 90% of the constituents of the S&P500 index now issue an annual Sustainability Report, and sets of standards have been introduced covering a diverse range of impacts, from use of natural resources, pollution and waste measures, to impact on local communities, human rights and anti-corruption.

Whilst undoubtedly a positive move, trying to provide investors with key data that allows comparison between different organisations is difficult, as one or more factors can be specific to a sector of industry. A further hindrance are the different measures used by the various global sustainability standards that companies use to prepare the reports, which can make interpretation of the results more difficult.

Given the importance that many investors, consumers and businesses now place on sustainability, regulators are becoming more concerned about “greenwashing”. This is where a company uses language and imagery that claims that its products are environmentally friendly or have a greater positive environmental impact than they actually do. Whether undertaken deliberately or innocently, a greenwashed product can tap into the growing desire that investors and consumers have to invest in a sustainable manner, and companies found guilty of greenwashing can be subject to reputational and financial damage. Take the case of Volkswagen, who admitted cheating emissions tests by adding software that recognised when engines were being tested and changed the engine performance accordingly. Not only did this cause significant reputational harm, but the company also suffered a financial penalty of $4.3bn*.

As awareness of sustainability increases, many investors appreciate that avoiding companies that harm the environment or promote what some may see as unhealthy products, such as tobacco or gambling, is difficult. This is why our Socially Responsible portfolios aim to take a common-sense approach, by focusing on those funds who aim to invest with sustainability in mind, but adopt a strategy that is not too restrictive so as to reduce the universe of available investments, which could potentially hurt investment returns over the longer term.

If you would like to move your portfolio towards a more sustainable footing, then speak to one of the advisers at FAS about our Socially Responsible portfolios, here.

*Source: – justice.gov/opa/pr/volkswagen-ag-agrees-plead-guilty-and-pay-43-billion-criminal-and-civil-penalties-six

The value of investments and the income they produce can fall as well as rise. You may get back less than you invested. Past performance is not a reliable indicator of future performance. Investing in stocks and shares should be regarded as a long term investment and should fit in with your overall attitude to risk and your financial circumstance.

The financial services industry is often known for innovation, although not all ideas gain traction in a crowded marketplace. The first robo-advice services were born out of the financial crisis in 2008, when US firms Betterment and Wealthfront launched the first automated advice services, which were touted as major disruptors to the financial services industry. However, given the struggle that robo-advice firms face to turn a profit from their activities, and significant flaws in the efficacy of a robo-advice process, some are beginning to question whether robo-advice has a long-term future.

Automated advice

The journey to obtaining robo-advice is an online experience. Depending on the robo-advice provider selected, the website will ask a series of questions relating to an individual’s appetite for investment risk, time horizon for investment and other key factors. By using a computer algorithm, an investment portfolio is then selected from a small range provided. These portfolios are usually invested in passive investments, such as Exchange Traded Funds, and some services provide rebalancing of the portfolio at regular intervals.

Given that most robo-advice services only use passive investments, that track a particular index or set of indices, there is little ability for a fund to outperform markets generally. This is where investors can miss out on potential returns offered by actively managed funds, where costs are higher, but performance can exceed the index return over time. Of course, actively managed funds can also underperform their target return, and this is where the value of advice can help select good performing funds, which are reviewed regularly.

Robo-advice services are also restricted, which means that they can only provide advice on products and funds from a severely limited range. This is in stark contrast to an independent, whole of market advice service, who can select the most appropriate solution and select funds from across the market.

Limited range of options

As the decision-making process is automated, the investor has very limited control over the assets chosen by the algorithm used by the robo-advice service. Whilst some offer options to take into account ethical or socially responsible investments, there is little the user can do beyond this to tailor what is selected for their investment portfolio.

The advice service provided by a robo-advisor is very much hands-off. There is usually limited human interaction and the services lack the personal touch that face to face financial advice can provide. This is, in our opinion, the key flaw of robo-advice. The essence of the service that a human financial adviser can provide is that the advice given is tailored to each client’s specific needs and objectives.

Questions about suitability

Ensuring that investment decisions are suitable is a key component of effective investment planning, and this is where algorithms led by rudimentary questionnaires can leave significant gaps. A human adviser can really get to know and understand a client, considering elements such as their past knowledge and experience of investment markets and emotional reaction when talking about the potential for investment volatility. A holistic advice service can also consider wider financial planning considerations, such as making tax-efficient decisions to reduce current or future tax liabilities, and areas that clients often don’t immediately consider, such as protection needs. An automated service also cannot consider decisions outside of the computer algorithm; for example, whether a client should repay their mortgage rather than consider an investment or make a pension contribution instead of using their ISA allowance.

Not as cheap as one might expect

One of the key drivers towards an automated investment process is cost, and given the lack of human interaction, one would expect the overall cost of a robo-advice service to be low. This is an attraction to some investors who place a low-cost service at the top of their wish list, although we would contend that value for money is a more sensible metric for most investors to consider. That being said, despite the lack of personal advice, robo-advice is not cheap, with platform charges levied by leading UK robo-advisers higher than those charged by direct and advisor platforms who offer access to a wide range of fund options.

Making the breakthrough

Despite the higher charges, robo-advisers are struggling to gain traction, and the high financial cost of establishing the service and infrastructure, together with marketing in a crowded space, means that many services are some distance from profitability. Not helping this struggle is the average investment size held on robo-advice platforms. One of the biggest advantages robo-advice can offer is the ability to handle small investments, and many services do not stipulate a minimum investment size. Whilst this may increase user numbers, firms will struggle to make significant progress handling smaller portfolios. Global data compiled by Statista shows that the average size of a robo-advice portfolio is under £5,000, and if this trend continues over the longer term, charges may have to increase or service levels could fall, as firms try and move towards profitability.

No substitute for traditional advice

It is clear that robo-advice has a place in the crowded financial services marketplace, although they may struggle to gain mainstream traction. They have, however, provided positive benefits to the industry and have almost certainly helped push a digital revolution in the market which has been adopted by most providers, who now provide easy-to-use online access to funds held on their platform. This has also helped drive down costs and improve service levels offered by mainstream providers.

Whilst some may be happy to use a robo-advice service, we feel this is no substitute for independent human financial advice. Leaving investment decisions to a computer algorithm has the potential to lead to an investment portfolio that doesn’t suit an individual’s requirements, and not being able to factor in wider financial planning needs or tax considerations places robo-advice at a distinct disadvantage. Speak to one of our advisers for impartial, tailored advice with human interaction.

For more information on the above, please speak to one of our experienced advisers here.

The value of investments and the income they produce can fall as well as rise. You may get back less than you invested. Past performance is not a reliable indicator of future performance. Investing in stocks and shares should be regarded as a long term investment and should fit in with your overall attitude to risk and your financial circumstance.

Investors will be pleased to see the back of 2022, a year that brought war to Europe, a cost-of-living crisis and a looming recession. The start of a new year is naturally a time to be optimistic and look forward to better times ahead. Whilst risks certainly remain, there are good reasons to suggest that asset markets will enjoy a more positive year in 2023.

Fears of recession – Central Banks hold the key

2022 was dominated by inflation, which was driven markedly higher than expectations due to the economic effects of the war in Ukraine. The US Federal Reserve, Bank of England and European Central Bank raised interest rates over the course of the year in a bid to bring inflation back under control, ignoring the potential risks of pushing economies into recession. US inflation has now fallen consistently from the peak in June, which is a trend we expect will continue throughout 2023, and inflation in the UK may well now be past the peak.

The Fed have indicated that they are content to slow the pace of future rate increases, and indeed, we feel that rates across the Western world are not far from a pivot point. In the first quarter, we expect markets will continue to hang on every word uttered by central bankers, looking for a clear signal that they have taken the action they feel necessary to bring inflation under control.

Whilst the global economy may not fall into recession this year, a mild, shallow recession in the US, UK and Eurozone is a probable outcome. As economies contract, attention will then turn to central banks, who could look to ease monetary conditions by the end of the year. This could herald a significant change in market sentiment, and be a positive sign for asset prices generally.

Mind the gap

Following a difficult year for Equities, global market valuations now look more appealing than they did at the start of 2022. Weak price action over the course of the year has led to attractive valuations, particularly in sectors such as Technology. What isn’t clear, however, is whether earnings can match market expectations, or if recessionary conditions are sufficient to dent corporate earnings as 2023 progresses. Much will depend on how resilient consumers remain in the face of rising costs, and whether unemployment rises appreciably. Across the Western World, structural changes following the pandemic continue to lead to staff shortages in many industries, and we suspect unemployment may not be the issue that would ordinarily be the case as an economy enters recession.

Bond reset

The rapid rise in inflation and pace of interest rate increases during 2022 battered Government and Corporate Bonds. As a result, valuations have become attractive, and investment grade and Government debt now offer yields that look appealing, as interest rates are close to their peak and could potentially fall by the end of the year. Whilst it is tempting to look at the yields offered by higher yielding debt, default risk could rise and it may well be preferable to focus on credit quality during 2023.

Time to look East?

With growth likely to remain subdued in the US, UK and Eurozone, investors may well be tempted to look towards Asia and Emerging Markets for growth. There are clearly opportunities here, in particular in China, where their zero-Covid policies, which are now being eased, have hampered growth. Chinese Equities underperformed significantly over the last year and whilst valuations could be attractive, investors may need to be patient as Covid cases climb following the easing of restrictions, and concerns over the ailing property market continue. Japan also looks interesting, as inflationary pressures are lower here and domestic demand looks solid.

A more stable political year ahead?

Since the turn of the decade, investment markets have been buffeted by a series of external shocks, from the Covid-19 pandemic, to the war in Ukraine, a global inflationary spike and the potential for recession. Clearly, geopolitical risk has not gone away, as the war in Ukraine seems unlikely to reach a swift conclusion, and tensions between the US and China continue. The political landscape has also been unhelpful to investors, as continued uncertainty in Westminster and on Capitol Hill have weighed on sentiment. 2023 could, however, be a year where politics has less of an impact. The US mid-term elections are out of the way, and with the revolving door of number 10 appearing to have stopped spinning  – for now at least – we expect markets can focus on economic, rather than political factors, over the coming year.

Headwinds for housing

We fully expect the UK housing market to come under pressure during 2023. After strong growth over the last two years, a combination of higher mortgage rates, the cost of living crisis and economic uncertainty could lead to substantial falls in house prices. Of particular note are the number of borrowers whose fixed rate deals come to an end during the year ahead. This could stretch affordability for those looking to move, and with first time buyers facing headwinds, market activity could be subdued throughout the year.

Time to review your portfolio

After a bruising 2022, we feel there are many reasons to take a positive view on how investment markets will perform over the coming year. Equities valuations are attractive in many areas, and barring a significant slump in global earnings, offer investors good value at current levels. Staying at the defensive end of the Equities spectrum may be sensible during the first few months, although we feel high growth stocks may come back into favour later in the year.

Bond markets should also stabilise after the disappointing year in 2022, with attractive yields on offer. Investors may well be advised to focus on credit quality, given that recessionary conditions are expected.

Property investments could come under pressure during 2023. Commercial property valuations have already fallen back during the last quarter of the year, and could continue to struggle as the economy contracts. Investors in residential property will need to batten down the hatches as prospects for the UK housing market look testing for the year ahead.

The new year is a good time to review existing investment portfolios and determine whether they are invested appropriately in light of the expected conditions. Our experienced advisers are on hand to review existing strategies and provide independent advice on how best to invest for the year ahead…

If you are interested in discussing the above further, please speak to one of our experienced advisers here.

The value of investments and the income they produce can fall as well as rise. You may get back less than you invested. Past performance is not a reliable indicator of future performance. Investing in stocks and shares should be regarded as a long term investment and should fit in with your overall attitude to risk and your financial circumstance.

Investment market participants will be keen to see the back of what has been a difficult year for investors. Whilst it may seem a long time ago, 2022 began with markets in a buoyant mood. The restrictions imposed due to Covid-19 were finally ending, and with central banks and Governments continuing the support put in place at the start of the pandemic, global Equities markets peaked around the turn of the new year.

Inflationary pressures were already starting to build at the end of last year, although it would have taken a very brave economist to predict inflation reaching double-digit levels in most Western economies by the third quarter of the year. Whilst some of the blame for the heightened inflation can be placed firmly at the door of Vladimir Putin, the shake-off of the Covid excess and a tight labour market also contributed to the rapid rise in inflation. Central banks have predictably moved to raise interest rates to try and dampen the inflationary fire, but the combination of restrictive central bank policy and concerns over the conflict in Ukraine pushed most asset classes lower over the first half of the year.

The summer saw markets rebound, amidst very tentative indications that inflation was being tamed, although the renewed optimism was dashed by hawkish words by the Federal Reserve and the ill-fated Mini-Budget announced by Kwasi Kwarteng. This forced the Bank of England into the very uncomfortable position of firing up the printing presses once again, to provide liquidity to the Gilt market and caused Sterling to plummet against major currencies.

By early November, the mood finally began to lift, as market participants cheered lower than expected inflation data in the US, and closer to home, a second Budget statement was received more positively. Whilst central banks may not be at the end of the rate hiking cycle just yet, markets are hopeful that the first quarter of 2023 will see the end of this painful period where interest rates have realigned to reflect the prevailing and expected conditions.

Nowhere to hide

One of the key takeaways from 2022 has been the negative impact of higher inflation on most asset classes, and how this has reduced the benefits of diversification. An important component of a well-diversified portfolio is to include exposure to different asset classes that tend to produce a variance in performance, with the aim of balancing weak performance from one particular class or sector, with an improved performance elsewhere.

This year has seen very different conditions emerge, and as the year progressed, the performance of different asset classes began to correlate more closely than they have done for many years. The rapid spike in inflation heralded conditions that are not friendly to fixed interest securities, such as Government and Corporate Bonds, and this has undermined the traditional role Bonds play in reducing volatility, at least for the time being. Equities, which should see less of an impact from the inflationary conditions, also retreated, as sentiment towards risk asset faded in light of the ongoing conflict and worsening economic outlook.

The result has been that 2022 has been a disappointing period for investors in most asset classes, with a high degree of correlation across the board. We do, however, see a return to more normal market behaviour over coming months as our expectation is for inflation to fall back towards mid-single figures by this time next year. We therefore believe that the benefits of diversification, which were rather hidden during this year, will make a return next year.

Taking the medicine

Stock markets are often referred to as “discounting mechanisms”, which work on the notion that the current price of a market or asset takes into consideration all available information at the time, including present and potential future events. Whilst this theory is nowhere near perfect, and short-term sentiment is often dictated by market fear and greed, it is clear that markets do take into account expected economic data within prices we see today.

As a result, the difficult market conditions experienced over the last 12 months can be viewed as being a period of readjustment in asset prices, from the positive outlook many held at the start of the year, to the reality of slower growth, and possible recessionary conditions, as a result of the conflict and the spike in energy, food and fuel prices. We feel that investors should not, therefore, be alarmed by the expected gloomy reports in the media about the state of the economy over coming months, as markets have, at least to some extent, factored this into the current market value.

Brighter prospects ahead?

As 2022 draws to a close, investors will reflect on a bruising year and will be hoping for a return to less volatile conditions over the course of the next year. We certainly feel that current valuations are attractive for many asset classes, and we will explain the reasons behind our optimism for the coming 12 months in our market outlook to be released in January.

As this is the last Wealth Matters for 2022, we would like to take this opportunity of wishing all of our readers a peaceful Christmas, and good health and happiness for 2023.

If you are interested in discussing the above further, please speak to one of our experienced advisers here.

The value of investments and the income they produce can fall as well as rise. You may get back less than you invested. Past performance is not a reliable indicator of future performance. Investing in stocks and shares should be regarded as a long term investment and should fit in with your overall attitude to risk and your financial circumstance.

Just eight weeks after the Emergency Budget announced by former Chancellor Kwasi Kwarteng, Jeremy Hunt delivered an Autumn Statement which was very different in tone to the previous statement. After analysing the measures announced, the Office for Budget Responsibility have forecast the impact of the changes will lead to a drop in living standards of almost 7% over the next two years.  The Budget statement contained a number of changes to allowances and tax rates that will impact investors from the start of the next tax year. However, with careful planning, the impact of the Autumn Statement on investors can be minimised.

Additional Rate Income Band adjustment

Perhaps the most striking measure in the Autumn Statement was the reduction in the Higher Rate Band for Income Tax. Currently income earned between £50,270 and £150,000 is taxed at 40%; however, from April 2023, the upper end of this threshold will be reduced to £125,140, and income above this level will be taxed at the Additional Rate of 45%.

Thresholds frozen for a further two years

In addition to the changes to the threshold for the top rate of Income Tax, the Chancellor has frozen the Personal Allowance, Basic and Higher rate thresholds for a further two years than had previously been announced. These thresholds will now be frozen until April 2028, and the so-called “fiscal drag” caused by the freeze will generate additional tax for the Exchequer as income increases over time.

As more individuals are subject to the Higher and Additional rates of Income Tax, this increases the opportunity for individuals to reduce their tax burden through financial planning. By making personal pension contributions, an individual can obtain tax relief at their marginal rate, and Venture Capital Trusts, which provide Income Tax relief of 30% on qualifying investments in new shares, can also reduce an individual’s tax liability.

The rules surrounding pension contributions can be complex, and Venture Capital Trusts are higher risk investments and only suitable for investors with an appropriate appetite for investment risk. For this reason, we strongly recommend investors take independent advice on the best way to proceed.  

State Pension increase confirmed

As covered in last week’s Wealth Matters, there had been speculation that the State Pension “triple lock” could have been under threat, given the elevated levels of inflation, and the impact this may have on public finances. The Chancellor announced the “triple lock” remains in place, and that State Pensions will increase by 10.1% from April 2023.

It is important to remember that the State Pension takes up the first part of an pensioner’s Personal Allowance, and the increase from April, whilst welcome, may mean that a greater proportion of personal pension, rental or investment income will be subject to basic rate Income Tax. It would be sensible for pensioners with additional income sources to review the tax efficiency of investments and ensure that allowances, such as the Marriage Allowance, are used where appropriate.

Dividend Allowance cut

The Dividend Allowance, which shelters dividends from shares and business profits from tax, will be reduced from £2,000 to £1,000 from 6^th April 2023. When the Dividend Allowance was first introduced in April 2016, it was worth £5,000 and fully covered the dividends generated by shareholdings for many investors. The reduction from April will likely mean more shareholders will be liable to tax on dividends, and an even greater number will be liable to tax from April 2024, when the Dividend Allowance will be halved again to £500.

Capital Gains Tax allowances reduced

Changes to the Capital Gains Tax (CGT) thresholds and rates have been mooted for some time. Whilst the Autumn Statement left the current CGT rates unchanged, the CGT allowance – which is the amount of gain an individual can make on the disposal of assets before CGT becomes payable – will fall from the current £12,300 to £6,000 from April 2023. As with the Dividend Allowance, the Chancellor has gone further and will halve the CGT allowance again, to just £3,000, from April 2024.

This is likely to have a significant impact on investors who are selling assets such as shares and investments, and rental or second properties. As a result, investors may wish to revisit existing portfolios and make sure that the current CGT allowance is used to its’ fullest extent. Furthermore, if an investor makes a net capital loss over a tax year, this loss can be carried forward to offset against gains made in future tax years. This is called an “allowable loss” and can be claimed up to 4 years after the end of the tax year in which the asset was disposed. Given the reduced annual allowances, it will become even more important to report allowable losses to HMRC.

Making use of the ISA allowance

As a result of the reduction of the Dividend Allowance and Capital Gains Tax annual allowance, we feel it is now more important than ever to make use of the annual Individual Savings Allowance (ISA). All income earned within an ISA is exempt from Income Tax, and sheltering Equity investments within an ISA will ensure tax efficiency is maintained, despite the reduction in the Dividend Allowance. Furthermore, all gains made within an ISA are exempt from Capital Gains Tax, and again this renders the ISA even more valuable given the reduction in the Capital Gains Tax allowance over the next two tax years.

The ISA allowance remains unchanged at £20,000 for the 2023/24 Tax Year, and using the available allowance consistently each tax year remains an important way of ensuring investments remain tax efficient.

Planning opportunities

The Autumn Statement introduced a number of measures designed to raise additional tax and as a result, investors could end up paying more tax on dividend income and capital gains from 6^th April 2023. However, with careful financial planning, individuals can reduce the impact of the changes to thresholds and allowances on their personal finances. Speak to one of our experienced advisers to discuss how careful financial planning can maximise tax efficiency of your investments in the current and future tax years.

If you are interested in discussing the above further, please speak to one of our experienced advisers here.

The value of investments and the income they produce can fall as well as rise. You may get back less than you invested. Past performance is not a reliable indicator of future performance. Investing in stocks and shares should be regarded as a long term investment and should fit in with your overall attitude to risk and your financial circumstance.

After more than a decade of negligible returns, deposit interest rates have slowly increased over the course of the year. The actions of the Bank of England, in an attempt to slow inflation, have given savers some respite after many years of ultra-low interest rates.

For those seeking to generate an income from their capital, to supplement income from other sources such as pension or property rental, cash has given very little in the way of income since 2008, and investors have turned to other forms of investment, such as equities, to generate better returns. With cash deposits now offering higher rates than at any time over the last decade, some may consider whether cash is a viable option for income generation. However, as we will explain, there are good reasons for investors to stick with assets, such as equities, to provide a consistent income.

The inflation trap

After the measures taken by Governments and Central Banks around the World to help their economies through the Covid-19 pandemic, and the significant inflationary pressure exerted by the war in Ukraine, inflation stands at over 10% in the UK and Eurozone, and 8% in the US. This headline rate somewhat understates the true impact of the cost of living on individuals and households, where essential items such as food and energy have seen much greater price increases than the official rate.

Looking at deposit rates currently available on fixed rate savings bonds, a rate of over 4% can now be obtained for locking cash away for one year. This may, at face value, seem attractive, particularly when compared to savings rates seen over the last decade. However, when the effect of headline inflation is taken into account, this represents a negative real rate of return of -6%. In other words, the spending power of a saver’s capital is still eroding, despite the higher savings rates on offer.

Indeed, the current conditions provide a deeper negative real rate of return for cash deposit than at any time since 2012. Between 2012 and 2021, the headline Consumer Prices Index did not exceed 3%, and therefore even a deposit rate of 0.1% would have only produced a negative real return of -2.9% per annum during this period.

Despite the disappointing real return, cash remains an important element of any sensible diversified investment strategy. However, for investors seeking consistent income levels, with the potential for capital growth in an attempt to offset the eroding effects of inflation, equity income investments remain a viable and attractive option.

Growing an income

Investors in equities derive returns from two sources. Firstly, an investor will hope that the value of the investment will rise over time, as growth in the profits of the company is reflected in the price of the share owned by the investor. Secondly, successful companies make distributions of a company’s earnings to its shareholders in the form of a dividend. The level of dividend paid, divided by the share price, provides the dividend yield figure, which is a useful way of comparing the income generated by equities to the income earned on cash, or any other income generating investment, such as a rental property.

It is important to note that dividends are not guaranteed, and are reliant on the fortunes of the company in which the investor owns shares. Large, stable companies tend to offer a consistent dividend, and would only seek to cut their dividend if the company saw a significant downturn in performance. For this reason, equity income strategies tend to focus on mature large cap stocks, with a track record of consistent dividend payment.

Dividend growth is a key added attraction. Many companies look to grow dividends paid out to investors year on year and there are a small number of global giants, such as Johnson and Johnson and Coca-Cola, who have consistently increased their dividend at each declaration point for many years.

Diversification is key

Within any equity income strategy, it is important to maintain a well diversified portfolio. This is where collective equity income funds can provide investors with an allocation to a large number of individual positions, to spread the risk and also achieve a regular income stream. Equity income funds are generally actively managed, although an increasing number of passive options are now available. Most equity income funds adopt the approach of balancing income generation with capital appreciation over time, and whilst investors can achieve additional growth through reinvested dividends, those seeking an income can arrange for this to be paid out.

Further diversification can be achieved by investing in global equity income funds, in conjunction with UK equity income, as this further spreads the investment across different geographies.

Focus on the longer term

2022 has been a difficult period for investors in almost every asset class, which is in stark contrast to 2021, where most asset classes posted strong returns. Over the longer term, the total return – i.e. income and capital appreciation – generated by equity income funds has a significant lead over the return achieved on cash deposit. For example, since 2016, cash returns have only beaten returns from equities once (2018) and in the other years, equities have outperformed by a wide margin.

Despite the increase in cash savings rates, we feel that equity income remains a viable option for investors seeking an income from their investments. Naturally, risk needs to be considered, and an element of cash savings is an important part of any diversified strategy. This is where expert financial planning can add value, both in respect of helping investors determine the appropriate strategy for their objectives and attitude to risk, and also devising an appropriate portfolio of funds to generate an attractive level of income.

If you are interested in discussing the above further, please speak to one of our experienced advisers here.

The value of investments and the income they produce can fall as well as rise. You may get back less than you invested. Past performance is not a reliable indicator of future performance. Investing in stocks and shares should be regarded as a long term investment and should fit in with your overall attitude to risk and your financial circumstance.