How to avoid the pitfalls of eleventh hour ISA investing25 February 2014
With the end of the tax year looming, investors have just weeks left to utilise their ISA allowance before the 5 April deadline. While it is human nature to leave important decisions until the 11th hour, a hurried ‘ad hoc’ investment decision can carry considerable risk to your wealth, warns leading wealth manager and online platform Bestinvest.
According to Bestinvest, these risks are exacerbated at this time of year when it is easy to be swayed by the tips and views of ‘experts’, short-term market sentiment and a wall of fund company marketing. Worse still is the temptation to invest in whatever sectors have had a strong run of late without evaluating the future outlook, as this may mean investing at the top of a market when valuations are stretched.
Jason Hollands, Managing Director at Bestinvest, sets out five top tips on how to build and manage a successful ISA:
1. Step back and think about your overall strategy before investing a penny of new money
When you are up against a deadline it is easy to get sucked into an investment selection process before first stepping back and doing the necessary strategic thinking. Before investing a penny of new money into the market, investors should first reappraise their goals, appetite for risk and likely time horizon. The longer the time horizon you have, the greater exposure you should be prepared to have towards more volatile investments such as shares. However, while there is a relationship between risk and reward, more risk does not guaranteed higher returns.
2. Asset allocation is key to achieving your goals at the right level of risk
Asset allocation is the technical term for how an investor decides to spread their portfolio across different categories of investment and markets. Successive academic studies, including those by Brinson, Hood and Beebower (1986) and Ibbotson and Kaplan (2000) have concluded that well over 80% of the variances in portfolio returns come from asset allocation decisions rather than stock selection, so it is worth investing some time thinking about this before getting into the process of selecting individual funds. Diversification should help reduce overall volatility in your portfolio, as well as exposing you to a wider set of opportunities. The mix between general categories such as equities, bonds and property is the starting point but then you need to delve into achieving a good mix across geographies and the spread between small, large and medium sized company shares, industries and investment styles and the right mix between government, corporate and high yield bonds for any fixed income exposure. A diversified asset allocation might also include exposure to alternative or niche asset classes such as commodities, commercial property, private equity, infrastructure and absolute returns funds. It therefore makes sense to blend a variety of investment approaches within a portfolio and to understand the impact this might have on overall portfolio volatility.Yet many investors skip over asset allocation, which is a particular peril facing users of so-called DIY platforms, many of which provide no tools or guidance to help investors select an asset allocation model.
3. Review your existing investments and use your ISA to rebalance your portfolio...
If you already own investments, these should be your starting point. You must look at where your bets are currently placed and how volatile your portfolio is. This insight should inform any decisions on where new investments should be made. Even if all the experts are tipping a particular market, it may not make sense for you to invest a new ISA there if you are already very heavily exposed to it. It could also be the case that your portfolio was well balanced a year ago but has since drifted over time, as markets and asset classes perform at different paces. This can mean a more cautious portfolio could progressively become higher risk or vice versa and may no longer best suit your goals. In the context of “ISA season” appraising your portfolio will help you understand the areas where it is weak or already too heavily weighted and therefore where any new ISA investments should potentially be focused to help rebalance it. This process will in effect encourage you to top up the areas that have had a weaker run of late, for example emerging markets, rather than add more to those that have soared such as the US. That is a sensible strategy as history suggests that buying markets when they are weak rather than at peaks leads to better long-term returns. However, most investors do the opposite.
4. … Are you building a portfolio or a museum of funds?
As the old saying goes, ‘if it ain’t broke, don’t fix it’. It can be tempting to continually add new funds and investment trusts to your portfolio each year, getting tempted by whatever is flavour of the month or the latest new launch to arrive through your letter box. But this may not be the best move. If you are not careful, your portfolio can turn into a museum of yesterday’s best ideas rather than a well-constructed portfolio that works together as part of a coherent investment strategy. A sprawling portfolio is more work to monitor, so a good discipline may be to cap the number of funds you hold. In our managed portfolios we typically hold 20 investments, so that might also be a sensible threshold for an investor who makes their own decisions. If you are tempted to invest in a new fund, then reassess whether it should replace one of the existing funds. This provides an almost Darwinian ‘survival of the fittest’ discipline of forcing you to challenge yourself on the case for continuing to back each fund, as they will need to prove they deserve a coveted place in your portfolio.
5. Execute carefully to reduce market risk
ISA allowances are a precious way of sheltering your wealth from the tax man and are available each year on a “use it or lose it” basis. Even if you don’t have new cash to invest, consider recycling any non-ISA investments in funds or shares you hold into ISA, by selling sufficient amounts to utilise your annual capital gains tax allowance and then reinvesting within an ISA.
However, while there is urgency to successfully securing your ISA allowance, there is no need to feel pressurised to rush into the markets if you are unsure about where to invest. It can be uncomfortable when you invest a lump sum only to find a week later the investment has fallen in value, even if this shouldn’t really matter if you are investing for the long-term. You can reduce this risk by securing your ISA investment with a lump sum in cash and then drip-feeding money into the funds you have identified for investment in a series of tranches over a period of time. This will help even out the effects of any volatility in the price you pay.
Jason Hollands concluded: “It is important to plan your investment ISA selection carefully so that it supports your overall goals and complements any existing investments you have and once invested it is vital to monitor and periodically rebalance your portfolio. If you don’t have the time or inclination to do this yourself, a managed portfolio service or multi-asset fund may be right option for you.
“For those prepared to be more actively involved in looking after their investments Bestinvest has developed a Free Investment Report Service & Tool (FIRST) to enable investors to analyse their existing investments before deciding where to allocate new monies. The report will provide information on how much risk (based on volatility) you are currently exposed to, how well balanced the asset mix is compared to our models and which holdings we rate highly or believe are poor. The tool is available at www.bestinvest.co.uk/first
“For those who are starting with a relatively clean sheet of paper we have designed a selection of off-the-shelf “ready-made portfolios” that will suit an ISA contributions of £5,000 or more. There are seven such portfolios, each designed to suit a different appetite for risk and preference for income or growth. These typically have half a dozen funds in each portfolio. The portfolios can be selected using a slider tool here: www.bestinvest.co.uk/ready-made ”
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The value of your investments and the income from them can go down as well as up, and you can get back less than you originally invested. Past performance or any yields quoted should not be considered reliable indicators of future returns.
Before investing in funds please check the specific risk factors on the key features document or refer to our risk warning notice as some funds can be high risk or complex; they may also have risks relating to the geographical area, industry sector and/or underlying assets in which they invest.
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Founded in 1986, Bestinvest has grown to become a leading private client investment adviser, looking after £5 billion of assets. We offer a range of investment services from the Online Investment Service for self-directed investors to Investment Advisory and Investment Management services for clients who do not have the time or inclination to manage their own investments.
All of our services are underpinned by rigorous research aimed at identifying those fund managers we believe will deliver long-term superior performance. We also have a team of expert financial planners with nationwide coverage to help clients with their pensions, retirement or Inheritance Tax planning. At Bestinvest, we pride ourselves on offering the highest levels of professionalism and expertise with transparent, competitive prices. We are pleased that our greatest source of new business is from personal referrals from existing clients.
Bestinvest has won numerous awards including Stockbroker of the Year, Low-Cost Sipp Provider of the Year and Self-Select ISA Provider of the Year at The Investors Chronicle and Financial Times Investment Awards 2013. Bestinvest also won UK Wealth Manager of the Year 2013 and Best Wealth Manager for Investments at The Investors Chronicle and the Financial Times Wealth Management Awards 2013.
Headquartered in Mayfair, London, Bestinvest employs more than 200 staff and has an extensive network of regional offices.
Tilney is a leading investment and financial planning firm that builds on a heritage of more than 150 years. The Tilney Group operates under the Tilney brand for Investment Management and Financial Planning and Bestinvest for execution-only investing. We look after more than £22 billion of assets on our clients’ behalf and pride ourselves on offering the very highest levels of professional client service with transparent, competitive pricing across our entire range of solutions.
We offer a range of services for clients whether they would like to have their investments managed by us, require the support of a highly qualified adviser, prefer to make their own investment decisions or want to take more than one approach. We also have a nationwide team of expert financial planners to help clients with all aspects of financial planning, including retirement planning.
We have won numerous awards including Best Fund Platform and Best SIPP Provider at the 2017 City of London Wealth Management Awards; Investment Award – Cautious category in the Private Asset Management Awards; and Stockbroker of the Year, Execution-only Stockbroker of the Year and Self-select ISA Provider of the Year 2015, as voted by readers of the Financial Times and Investors Chronicle. We are pleased that our greatest source of new business is personal referrals from existing clients.
Headquartered in Mayfair, London, Tilney Group employs over 1,000 staff across our network of offices, giving us full UK coverage, and we combine our award-winning research and expertise to provide a personalised service to clients whatever their investment needs.