Planning an investment portfolio
Investing your ISA allowance in this year's best-performing fund won't necessarily make you rich. Indeed, this strategy could leave you with a very poorly performing investment portfolio that doesn't suit your investment objectives or your appetite for risk.
Investment Management Association figures show how fund fashions change. While the best-selling sector in 1999 to 2001 was UK All Companies, by 2005 it had fallen from favour and become the worst-selling sector.
Since ISAs were launched, other top sellers have included UK Corporate Bonds in 2002 and 2003, when the stockmarket wasn't performing very well and UK Equity Income in 2004 and 2005.
Then there was the technology blip back in 2000. At its peak almost £100 million flowed into the high-tech sector, but by 2002 this figure had fallen to less then £750,000. More recently, the specialist sector has been a top seller, with property funds a big hit with investors as a result of the extension of the ISA rules to allow tax-efficient investments in these funds. However, investors did lose out in 2007 when the market faltered.
So, you need to ignore the trends and take a broader view of your investments. This will give you a portfolio that suits your investment objectives and lets you sleep at night.
Broadly speaking, there are three different types of investor - cautious, balanced and adventurous. Which type you are will be determined by a number of factors. Your own appetite for risk is key and a good way to gauge this is to ask yourself how much of your investment you could lose without fretting about it.
If seeing the value of your investment reduce by 50% doesn't worry you, then you can probably stomach a high-risk investment strategy. But if this prospect brings you out in a cold sweat, then go for a more cautious approach.
Your time-frame should also help to determine your risk profile. If you're investing for a short-term goal, such as paying off your interest-free mortgage in five years, then you won't want to risk a stockmarket fall, so you should go for a cautious strategy. If you're in your thirties and putting some money away for your old age, you can probably afford to ride out the ups and down of the stockmarket.
Likewise, think about whether you can afford to leave the money invested - if you were forced to sell you might have to accept a lower price than you wanted for your investment. And you should also consider whether you want to generate an income from your investment. If you do, you may want to pick income-producing funds in the UK Equity Income or fixed interest sectors.
Once you've decided what sort of portfolio you should have, assess your current investment position. Write down all your current investments, including any cash ISAs and savings accounts, as well as your stockmarket investments. Also note the type of asset it is - cash (which covers savings accounts and cash ISAs); fixed-interest (corporate bonds and gilts); property (which could be a fund or even a buy-to-let property); or UK, US, European, Far East or emerging markets equities.
Once you've categorised your current portfolio, decide what, if anything, you need to switch. You may be able to rebalance your portfolio with your next ISA investment - if your current portfolio is overweight in property, for example, you could realign it by putting next year's ISA allowance into equities or fixed-interest.
Additionally, the new ISA rules - which came into play April 2008 - mean you're able to switch investments in cash ISAs into stocks and shares too. This could be useful if you need to rebalance your portfolio, or if you've shied away from the stockmarket in the past but would like to get some exposure to it now.
This is also an ideal time to check the performance of the funds you already hold in your portfolio relative to their sector.
You shouldn't necessarily pick the top performers, as these can often be volatile and zip from the top to the bottom of the performance tables. Instead, look for funds that are consistently above average over a number of different time periods.
How to switch
Having assessed your portfolio and the performance of the funds you hold, you may need to switch some of your investments to create a more suitable portfolio. You'll incur charges when you transfer, but if you have some poor performers or some funds that don't fit your risk profile it's probably worth paying these.
How much you pay will depend on how you switch your funds. The most expensive way is by going direct from one fund manager to another - you'll pay the full initial charge on the new fund, which could be up to 6%.
A cheaper option is to switch within the fund management group as they will often waive some of the initial charge on the new fund. If your existing manager doesn't have a strong performing fund to switch to, then you can save money by using a discount broker or an IFA. They can often pass on discounts on the initial charge, either by rebating commission, or as a result of the deals they have with fund management groups, by bringing the charge down to 2.5% or less.
Fund supermarkets are a better option. Again, you'll enjoy low charges, with discounts of up to 5.5% on initial. And, as all your ISAs will be in one place, you'll also be able to manage your portfolio more efficiently.
A fund supermarket also allows you to spread your ISA allowance across different funds and fund management groups, increasing your portfolio's diversification.
As well as greater flexibility and lower charges, fund supermarkets also have plenty of information and tools to help you manage your ISA investment. These include portfolio management tools that allow you to tweak your holdings and information about all the funds available.
Moving your current ISAs to a fund supermarket is straightforward. You'll be able to re-register some of them with the supermarket for free. This simply transfers the fund's administration from the existing manager to the supermarket. Not all fund managers allow this, however, so you may have to transfer some funds. The supermarket will manage this process for you, but it will involve selling your existing ISA and then reinvesting it within the supermarket, which will incur an initial charge.
Whether you intend to switch your funds to a supermarket or to a different fund manager, make sure you follow the rules or you could inadvertently lose your ISA's tax-free status. Contact the new manager for a transfer form, which will include details of the ISA you want to transfer. Once the fund manager has this it will arrange the transfer. This process shouldn't take long and your new ISA should be up and running in around 10 working days. Be aware, however, that although you can split previous years' allowances between ISA providers, you must transfer this year's allowance in its entirety.
And remember to review your portfolio at least once a year - more frequently if your circumstances change (for example, if you receive a large inheritance or decide to take early retirement). This will ensure your money is working as hard as possible for you.
Invidivual Savings Accounts were introduced on 6 April 1999 to replace personal equity plans (PEPs) and tax-exempt special savings accounts (TESSAs) with one plan that covered both stockmarket and savings products, the returns from which are tax-exempt. The ISA is not in itself an investment product. Rather, it’s a tax-free “wrapper” in which you place investments and savings up to a specified annual allowance where the returns (capital growth, dividends, interest) are tax-exempt (you don’t have to declare ISAs and their contents on your tax return). However, any dividends are taxed within the investment, and that can’t be reclaimed.
There are limits to how much you can invest in any tax year. For 2011/12, the limit is £10,680. Of that, the maximum you can invest in cash is £5,340 and the balance of £5,340 can be invested in shares (individual company shares or investment funds). If you don’t take the cash ISA allowance, you can invest up to £10,680 into a stocks and shares ISA.
A financial adviser who is not tied to any financial services company (such as a bank or insurance company) and is authorised by the Financial Services Authority (FSA). They can advise on financial products to suit your circumstances. All IFAs have to give consumers the choice of paying by fees or commission and have to explain which would best suit the customer in that particular instance. Also, if commission is paid either by the client or the financial service provider recommended by the IFA, the IFA must disclose what that commission is.
An individual employed by an institution to manage an investment fund (unit trust, investment trust, pension fund or hedge fund) to meet pre-determined objectives (usually to generate capital growth or maximise income) in prescribed geographic areas or investment sectors (such as UK smaller companies, technology or commodities). The manager also carries the responsibility for general fund supervision, as well as monitoring the daily trading activity and also developing investment strategies to manage the risk profile of the fund.
Generic, loosely-defined term for markets in a newly industrialised or Third World country that is in the process of moving from a closed economy to an open market economy while building accountability within the system. The World Bank recognises 28 countries as emerging markets, including Argentina, Brazil, China, Czech Republic, Egypt, India, Israel, Morocco, Russia and Venezuela. Because these countries carry additional political, economic and currency risks, investors in emerging markets should accept volatile returns. There is potential to make large profit at the risk of large losses.
An interchangeable term for shares (UK) or stocks (US). Holders of equity shares in a company are entitled to the earnings and assets of a company after all the prior charges and demands on the company’s capital (chiefly its debts and liabilities) have been settled. To have equity in any asset is to own a piece of it, so holders of shares in a company effectively own a piece proportionate to the number of shares they hold. (See also Shares).
The catch-all term applied to investors who buy properties with the sole intention of letting them to tenants rather than living in them themselves, with the proceeds from the let usually used for the repayment of the mortgage. Buy-to-let investors have to take out specialised mortgages that carry higher interest rates and require a much bigger deposit than a standard mortgage. Other expenditure can include legal fees, income tax (on the rental profits you make), capital gains tax (if you sell the property) and “void” periods when the property is unlet.
The familiar name given to securities issued by the British government and issued to raise money to bridge the gap between what the government spends and what it earns in tax revenue. Back in 1997, the entire stock of outstanding gilts was £275bn; by October 2010 it had surpassed £1,000bn. Gilts are issued throughout the year by the Debt Management Office and are essentially investment bonds backed by HM Treasury & Customs and considered a very safe investment because the British government has never defaulted on its debts and this security is reflected in the UK’s AAA-rating for its debt. Gilts work in a similar way to bonds and are another variant on fixed-income securities.