Price Is What You Pay – Value Is What You Get

With pension charges back in the news again last week following the governments decision to delay the cap on charges for auto enrolment schemes, perhaps now is a good time to consider value, rather than price. In the famous words of Warren Buffet “price is what you pay, value is what you get”.

Please don’t get me wrong; I am not excusing, nor defending, overly high or punitive pension scheme charges. In fact, I am one of the strongest proponents of better value pension savings vehicles. It does seem however, that in our never-ending quest to make all financial products cheaper, that we have forgotten all about value for money. Surely this should be the deciding factor.

Lets illustrate this with a simple example and assume for a second that both options are similar in terms of risk profile and financial strength. Fund A charges 1.5% per annum and generates a return of 8%, fund B charges 1% but only delivers a return of 4%. All other things being equal, I will choose fund A thank you very much.

Now clearly the above example is quite extreme, but the principle is sound. It should be the value for money of a particular scheme that we are questioning, not the fee itself.  Part of any good fund analysis should take into account the level of charges made by the fund manager, and the additional performance that the manager has generated (or, heaven forbid, subtracted) from the fund. Only then can we get a true idea of the value for money that the proposed investment represents.

While the government is right to look into the cost of pension plans for workers under the auto enrolment regime, surely it should be value for money, and not cost alone that is the primary focus of any review.

How To Become A Financial Expert

On Friday the Times ran a 4 page pull out which was entitled “how to become a financial expert”. Now this in itself doesn’t sound like a bad idea, after all, who wouldn’t want to be more informed about their money. What I would question, however, is just how much of an “expert” you are expected to become.

To put things into context, I am the proud holder of no less than 12 financial planning qualifications, which have a combined suggested study time of well over 1500 hours. I am also in the process of studying for two more! Combine this with many years of experience, countless hours of technical research and a rigorous continuing professional development programme and I don’t think I am blowing my trumpet too much if I refer to myself as someone who knows a thing or two about finance.

To expect others to possess this level of knowledge and experience is clearly un-realistic. For example, when researching an ISA recommendation (which is quite simple in the grand scheme of things) for a client, I was presented with no less than 240 options and variables. To arrive at a suitable recommendation took several hours of analysis. I would suggest that for someone who does not do this each and every day, the time required would be considerably more and the outcome probably not the very best solution available.

When I need advice on an employment contract, I seek assistance from a corporate lawyer. If I need to check if my proposed house purchase is a good investment, I ask a chartered surveyor to produce a report. I seek help from these professionals because I am well aware that I lack the knowledge, skills, qualifications and experience to do the work myself.

I think it is unlikely that next weekend the papers will run a pull out called “how to become your own legal expert” or “how to do your own structural survey”, so why should financial planning be any different. In the same way that I felt I had received extremely good value for money when a Chartered Surveyor told me that a house I was planning to purchase had subsidence, my clients feel that I have added significant value to their financial situation and are happy to pay for that service.

While I agree that we should all be a bit better informed when it comes to our finances, surely this would be best achieved by working in conjunction with an experienced professional, rather than going it alone!

Is Your Fund A Closet Tracker?

A report released yesterday brought to light the fact that many supposedly “active” funds are actually “closet trackers”. Perhaps I should first shed some light on the difference between the two.

An “active” fund is one where the fund manager is able to pick and choose the investments that make up the fund, normally constrained by some form of mandate, such as maintaining at least 50% of the fund in bonds, but this is not always the case. In an active fund the investor is hoping that the stock picking skills of the fund manager will lead to the fund outperforming its peers and the stock market index or benchmark which it is aligned to (the FTSE 100 would be an example).

In return for this stock picking skill and expertise, the fund manager will make a charge, usually a bit higher than the charge levied on so called “passive” or “tracker” funds.

In a passive fund the manager is simply trying to replicate the performance of an index or benchmark such as the FTSE 100. Because there is no active stock selection the charges on these funds tend to be lower.

What this new report highlights is that many supposedly active funds are actually very close to being a tracker, with little stock selection from the fund manager at all. The problem that this poses is that the investor will generally be paying a higher charge, but receiving the same performance as if they had invested in a tracker fund. In fact, the performance will usually be slightly worse, due to those very same higher charges.

Clients may want to review their investments to see what they are actually paying for. While we believe that there is a place for both active and passive funds in a clients portfolio, when recommending an active solution, we would always want to see that the fund manager is adding demonstrable value to justify the higher fee.

As part of our analysis of fund we will consider the amount of the fund actually being managed on an active basis. This will let us know if the fund manager is really generating additional performance, or whether the fund is actually a closet tracker with an unjustifiably high fee.

We Could All Learn A Thing Or Two From Dave

As someone who takes a keen interest in all things financial, I always make a point of watching the programmes on channel 4 which follow the attempts of Dave Fishwick to make the financial world a more straightforward and friendly place. I find Dave highly amusing and uplifting with his seemingly never ending high sprits and a level of determination that would have Churchill quaking in his boots.

Those who saw his previous two shows would have seen how he took on the big high street banks and came up with his own local bank based on old fashioned values. The simplicity of the service he offers has to be seen to be believed. You can deposit money at 5% and borrow for slightly more, and that’s about it. No huge contracts, no industry jargon, just a simple, efficient service. The whole operation runs from a small shop front with a few hard working people crammed behind a single desk. There are no trading floors, no high-rise towers, just a man with a good set of ideals trying to help people in his community.

What really strikes me about the service that Dave offers is that it is highly personal. He gets to know his customers and makes decisions about lending based on relationships rather than computers and credit reference files. He also helps the businesses he lends money to develop, providing his expertise and time, all as part of the service.

I think a lot of businesses in the financial world could learn a thing or two from Dave, I know I certainly have, which is why we try to make things as straightforward as possible for our clients. I can’t promise a single interest rate or just one piece of paper, but what I will promise is a concise, efficient service without all of the complexity and jargon that normally surrounds the financial world.

Could Inflation Be Back In 2014?

For the first time in four years, inflation has now fallen to the governments 2% target. This was welcome news for the many people who have experienced low (if any) pay rises, coupled with the well publicised rising cost of living. Sadly, the current low rate of inflation has the potential to come to an end before it has even really started.

With the base rate currently set at an historic low and the price of property now rising again faster than people can keep up with, it only seems a matter of time before inflationary pressure returns to the market. Halifax today reported that average property prices rose 7.5% in the 12 months ending in December and that trend looks set to continue. Businesses are reporting record profits just days into the new years reporting season and already there is talk in the media of 3% average pay rises this year.

What this all adds up to is consumers feeling more confident, after all, their property value is now back on the stairway to heaven, they will finally be getting that pay-rise they have been waiting 5 years for and even the good old BBC seems to think the economy is ok. What could possibly go wrong? Well, more confident consumers will likely spend more which in turn will have the impact of increasing prices once again, just as they started to get back under control.

My fear is that perhaps we are a little too confident. Our economic recovery is still in it’s infancy and that base rate will have to increase one day. The risk is that inflation will spike “too soon” triggering a rise in interest rates that will bring the country back to earth with a bump when it realises that it does actually cost money to borrow money.

As always, a well-diversified portfolio of asset-backed investments stands the best chance of beating the rate of inflation over the long term. Clients may wish to consider a review of their investments now, before inflation starts to pick up again.

Please get in touch to book your discovery meeting, provided at our expense.

“Switchable” Annuities Are Nothing New

The suggestion by pensions minister Steve Webb on Sunday that providers should offer so called “switchable” annuities has raised some eyebrows amongst those in the advice profession. You see the concept of a switchable annuity is nothing new; in fact, it has been around for quite some time.

Fixed term annuities involve the purchase of a short-term annuity (up to 5 years) with a part of your pension fund. Using this type of annuity can have a number of advantages for clients:

  • It allows you to fix your annuity rate at least every 5 years, rather than locking in for life, one of Mr Webb’s main bugbears.
  • Should health deteriorate in later life you could then take advantage of an enhanced annuity rate.
  • It leaves your options open to take advantage of a different form of retirement income in the future.

As with all attractive financial planning options however, there are some risks. The main one being if annuity rates continue their long-term downward trend. In the same way as fixing into a mortgage deal can be a risk if interest rates fall lower the same is true for a fixed term annuity. You could find that the rate has fallen when you come to “renew” your retirement income.

As I have argued for some time now, surely the best way to ensure a comfortable retirement is to diversify your retirement income in the same way that you would diversify an investment portfolio. For many clients taking an income from a variety of different sources could be a suitable hedge against “annuity rate risk”. For example, you may wish to take some income in the form of a lifetime annuity, some from a fixed term annuity and some in the form of a drawdown pension.

Clearly the correct mix of retirement income will depend on your personal circumstances and objectives and given the long term nature of annuity purchase, I would recommend that you take advice from a Chartered Financial Planner before making any important decisions.

Buckingham Gate’s 2014 Financial Planning Thoughts

With the new year now underway, I thought it time to share our early thoughts on some of the key financial planning issues clients are likely to face in 2014.

 1. Re-balance investments

Given the fantastic market performance of 2013 both in the UK and abroad it is likely that many portfolios will now be out of balance when compared to the intended asset allocation. If left unchecked this can cause a large increase in the risk and volatility within a portfolio and could lead to larger than expected losses in future years. As such now would be a prudent time to review your financial planning goals for the years ahead and rebalance investment portfolios accordingly.

2. Plan ahead for pension legislation changes on 6th April

The 6th April 2014 sees the introduction of a reduced lifetime and annual allowance for pensions. The annual allowance is a limit on the amount of tax advantaged pension contributions an individual can make in a single “pension input period”. The lifetime allowance limits the total amount of pension savings you can accumulate in your lifetime. Any excess over these allowances can lead to large tax charges, which in some cases can be as high as 55%. This is a high priority area, which should be looked at well in advance of the deadline of 6th April. Clients who are members of a final salary or public sector pension scheme could be particularly vulnerable in this area.

3. Make considered use of tax allowances – Now!

Many people make use of their various tax allowances right at the last minute, especially ISA payments. In some cases this means that there is not sufficient time to complete the significant research required to make a suitable recommendation for investment and we are unable to assist. Furthermore, by leaving the use of these allowances to the very end of the tax year you are effectively losing out on a whole years worth of tax advantaged fund growth. Now is the time to start planning for the end of the tax year on 5th April and it would also be a great time to start planning for the 2014/15 tax year as well.

Some diligent individuals who have made full use of their ISA allowance since it’s introduction now have in excess of £1m sheltered away in a tax efficient home with no income or capital gains tax liability. For most this would make a most welcome addition to any retirement planning or investment goals.

4. If you are an employer – Start preparing for auto enrolment

While the new auto enrolment rules have already taken effect for the largest of employers, 2014 is the year where this new legislation will really start to impact on owner-managed business. Each employer will have an auto-enrolment staging date, this is the date on which a particular business will be required to comply with the new legislation. At an absolute minimum we would recommend that employers start preparing 6 months before their staging date preferably a year or more. If you would like an initial assessment of your auto-enrolment staging date and liabilities as an employer, please do get in touch.

5. Make the most of the low interest rate environment – While you still can!

While the low bank of England base rate is likely to persist for some months yet, the markets are starting to price in a rise in the benchmark interest rate within the next 18 months or so. This will begin to have an impact on the rate at which lenders can secure funds and In turn, this will start to filter down to mortgage rates. Clearly each individual will have different circumstances but in general those clients who have variable rate mortgages or borrowing may want to consider locking into the historically low rates currently available.  While no-one can say for sure exactly when a rate rise will occur, we can say with some certainty that the base rate will have to increase at some point from its current low.

6. Make a thorough financial plan

We all have different financial goals and objectives, however many of us are unsure as to exactly how or when those objectives will be achieved. Whether you aspire to retire early or fund a new business venture, by creating a comprehensive cash-flow model we are able to predict how close your existing provisions are to meeting your personal needs. As well as looking at the “ideal” scenario a cash flow plan will also enable you to consider your financial position in a number of “what if” scenarios such as the illness of a family member. This exercise is often eye opening and can show how well prepared (or not) you are for the financial challenges which life could throw at you.

By making time to sit down with a Chartered Financial Planner, you will be able to start 2014 with a suitable plan in place to ensure that you meet those all important financial objectives.

Buckingham Gate Review of 2013

With the new year only days away I thought it timely to share our review of 2013. While some people would group 2013 in with the volatile years that went before it, the underlying theme of 2013 was recovery.

While the UK has officially been out of recession for some time now, 2013 would for most have felt like the year the recovery really bedded in. The forecasts for the UK economy look promising going into next year and lets hope that worst of the current “downturn” is truly behind us.

As far as the markets are concerned 2013 was a fantastic year. The FTSE 100 opened on 2nd January at 6027 and is sitting as I write (30th December) at 6,740 for a gain of c11.9%. The US market faired even better with an opening figure of 13,412 and a close on 26th December of 16,479, which is a gain of c22.8%. For some reason the media painted a rather more gloomy picture of western economies but the numbers never lie with both the UK and US enjoying a good year for market growth.

The start of 2013 also saw the introduction of the FSA’s “Retail Distribution Review”. This was the biggest legislative change in the financial planning profession for some time with the ban on product based commission coinciding with the need for a higher level 4 standard of qualifications in order to provide professional investment advice. At Buckingham Gate this caused us less concern then most due to our fixed fee charging structure and commitment to an even higher level 6 qualification and Chartered Financial Planner status.

Also in January, the government announced the move to a single tier state pension, which will be around £144 per week in todays terms. While some people will be worse off under the new rules I feel that this is a good move for state pension provision in the UK. The flat rate pension removes all of the ambiguity and uncertainty from the previous system of a basic state pension along with many over complicated top up plans. What this means is that people can clearly see what level of provision the state will provide and, as such, make suitable private plans on top of this.

Also in the pensions arena was the introduction of auto-enrolment for the largest UK employers. This new legislation means that most people not currently contributing to a workplace pension will be automatically enrolled into a plan with contributions taken directly from salary. 2014 will see this legislation apply to smaller employers and Buckingham Gate has an exiting proposition lined up to provide professional advice and assistance to those employers. Look out for more details in early 2014!

Property prices also resumed their seemingly never-ending upward climb in 2013. Already there is talk of a further housing bubble and this will be watched closely by policy makers in the new year. With house price growth already predicted to average around 8% in 2014 they could have their work cut out.

We have a number of financial planning issues already on the radar for 2014 and will provide our thoughts on some of these in the first of our new year planning posts early in January.

In the mean time the whole team at Buckingham Gate would like to wish our clients a happy and prosperous new year!

Are annuities really that bad – or is lack of advice the real problem?

Please accept my apologies but I use my blog today to discuss the topic of pensions. Once again we have a sensationalist headline about pensioners being “ripped off” by annuity providers and insurance companies.

The coverage is in response to a report by the Financial Services Consumer Panel, which is heavily critical of the annuity market. While I agree that the market for pension income is currently in need of reform, there are some simple solutions to many of the criticisms leveled by the report.

First of all, I would like to point out that an annuity is not the only possible source of income in retirement. There are many options to consider all of which have their benefits and drawbacks.

Unlike many financial decisions, the choice of how to generate an income in retirement generally can’t be reversed or changed once it is made. The choice of how you take an income from your accumulated retirement funds, and which provider you choose to provide that income, is vitally important. A wrong move here could cost you up to 45% of your income for the rest of your life.

The first mistake that many retirees make is simply to accept the annuity they are offered by their insurance company or pension provider. There is a good chance that the deal offered to you by your existing provider will not be the best, and in some cases can be significantly worse that those offered by other providers.

Secondly, many new retirees fail to consider what their needs will be in retirement. Do they need an income to be paid to their spouse on their death? Will an inflation-linked income be cost effective? What if long-term care is required during retirement? The answers to these (and many more) important questions should be considered before making any decisions. All too often these issues are not given the attention they deserve.

Finally many people simply assume that an annuity is the correct solution for them when in actual fact a different retirement income solution may be more appropriate.

A professional, independent financial planner can help you to decide on the best way to generate an income in retirement as well as making sure that your family will be provided for should you pass away. In addition, by completing a thorough cash flow forecast, your financial planner will be able to show you the likely impact of your retirement decisions, before you make them, so that you can avoid any costly mistakes.

Retirement income is a highly complex area where there are no second chances. If there is one time in your life when you consider taking professional advice, surely this should be it.

Don’t attack the wrapper – It wouldn’t hurt a fly!

In the hours after the chancellor’s autumn statement last Thursday, a number of media outlets ran a section where questions from the audience were answered by various personal finance commentators.

A re-occurring theme within these discussions were statements from the public such as:

“Pensions have rip-off charges” and, “I lost money in a pension”.

I would like to use my journal post today to dispel some myths about pensions and other tax wrappers.

A pension is simply a tax wrapper within which an investor can place a range of different investments. These are the same types of investments that are available either to purchase directly or within a different type of tax wrapper such as an ISA or investment bond. By purchasing investments through a pension those investments are afforded a range of tax advantages as follows:

• Income tax relief on contributions paid in
• Tax efficient fund growth
• 25% of the fund as a tax free lump sum on retirement

So to take the first of the comments above – Pensions do not normally have a direct charge for the wrapper itself. It would normally be the fund or other investments that are placed inside the pension wrapper which levy the charges so often referred to in the media. Some pension wrappers do carry a small annual charge on either a fixed or percentage basis but this is usually quite insignificant when compared to the charges for managing the funds.

It is worth pointing out that some investment funds do carry high (or even very high!) charges. Some funds, however, are very reasonably priced and offer real value for money to an investor.

Also of note is that the fact that a pension is not responsible for an investor losing money. Once again, it is the responsibility of the investments placed within the pension if a loss has been made.

Some investment funds do under-perform on a regular basis and are certainly not worth the annual management charge that they levy and could be considered poor value for money. Other funds perform very well and deliver real returns to investors without taking an undue level of risk.

The above is also true for other tax wrappers such as an ISA or an investment bond. It is not the wrapper that is responsible for charges or losses, but the investments we place within those wrappers.

A professional financial planner can assist you in choosing cost effective funds, keeping risk under control and generating a return so that you can achieve your objectives. They will also review those investment choices to ensure that they remain appropriate for your on-going needs while always taking account of costs and tax efficiency.

While the people who complained on the television the other night were rightly aggrieved, the wrong suspect had been blamed, for it was the investment, and not the tax wrapper, that was responsible for the losses and charges they were unhappy about.