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Client Bulletin - 21st October 2020

21st Oct 2020
You may have noticed recently that the Bank of England wrote to UK banks and other deposit takers to ask them if their IT systems were able to cope with negative interest rates. In other words if you have £100,000 on deposit with Barclays and the rate of interest you receive falls from the current 0.1% per annum to -0.5% then Barclays would charge you £500 per year for the privilege of holding your money. Since interest rates are already the lowest since the Stone Age, this is quite something. Sweden has had negative rates for the past decade, as has much of Europe for the past five years, so this is not just a theoretical concept. Welcome to the new normal.

We thought this month we would take the long view rather than speculate on the result of the US election on 3 November. In a recent radio programme the previous Archbishop of Canterbury, Rowan Williams, talked about how society in general had forgotten how to learn. We live just in the moment, with little regard for facts or considering alternative points of view and without recognising the need for a necessary time lag between wanting something and receiving it. He did spoil it a little in our opinion by blaming “the market”, i.e. capitalism, for all our woes making us chase profits at the expense of spending time on more important issues, but nevertheless the ability to take the long view should be important to all of us when ordering our lives.

How does this impact on our investments? Well, rising stock markets thrive on the conversion of cash and other assets into equities. This process is known as the market climbing a wall of worries. For many investors, we have a surplus of worries at the moment. In America alone there is thought to be at least $5 trillion of cash sitting in investors’ bank accounts that could come into the markets as soon as things get back to ‘normal’. Clients will be hoping to avoid the damage done to their savings by future rising inflation.

There are no reliable forecasting indicators for determining the short term direction of the stock market, although one of the best for determining the future direction of the stock market incorrectly has been to look at where individual investors think the stock market will be in six months’ time. Some fund managers are known to use these surveys by counting on the judgements being wrong.

With all the bad news around today and with all the restrictions being placed on citizens all around the world it is hard not to be at least cautious and maybe even pessimistic about the prospects for our investments. However, we think that would be an error because, in the long run, whilst investing does involve the need to accept the possibility of feeling uncomfortable from time to time, the power of capitalism to create wealth has shown itself time and again.

Apart from all the money waiting to enter the markets which will have the effect of driving momentum and therefore stock prices higher, there are many firms of investment advisers that believe we are in the early stages of a long bull or rising market which began with the pandemic. Additionally, many other firms, even if they are not as optimistic as that, still feel that the current bull market has another three or four years left to run. There will of course be winners and losers, but who now doubts the inexorable rise of technology and those companies that can exploit it?

There is no doubt in our mind that successful investing is as much of an art as it is a science. The correct long term strategy for you consists primarily of setting your own long term goals and then finding reliable ways to accomplish them. In a similar way, are you helping your children and grandchildren to understand what you are thinking during these unsettled times? It doesn’t matter if you are right or not. What might be more important is opening up lines of communication about how you think about money in general and investments in particular.

As an example of how very long term planning (10 years plus) can work in our favour, consider the area of pensions. Many people put off starting a pension early and will delay until this somehow becomes more affordable. Sometimes we come across clients at the age of 50 who are considering taking out a pension plan because they want to retire at 60 on a good pension. When we tell them the amount that would have to be paid into a personal pension each year to achieve a fund that would be about 25% of that required to do the job, it is always far too late for them to start now. So in order to prevent this happening to your children or grandchildren we thought we would share some figures with you.

Assume that there are two investors, A and B, who are both age 30 and who both want to save for their retirement using a pension. Investor A starts saving £200 per month now and investor B decides to wait 10 years until starting the same level of contributions. Both are employed and pay tax at the basic rate. They will receive tax relief of 20% on personal pension contributions, meaning that the government will top up their payments by £50 each month.

Investor A saves for 10 years and then stops paying into her pension. Investor B starts paying in 10 years’ time and contributes for the next 20 years, i.e. she pays in twice as much in total as investor A.

With investment growth of 7% per annum, at age 60 investor A will have a pension fund of £171,624. Investor B has spent twice as much on her pension but started 10 years later, will have accrued a fund worth £131,596, some 23% less. All due to what Einstein called the eighth wonder of the world, compound interest.

This same powerful compounding force is available for clients who don’t necessarily want to look 30 years ahead, maybe they have a shorter investment horizon of 10 or 20 years. The principle is the same - once you start saving you don’t miss the money and budget for what you’ve got left and the eventual size of the fund you accrue will surprise and delight you, especially if you’ve also been astute enough to direct your long term savings into areas of high growth potential.

For those clients who want to fund regular savings plans for their children and/or grandchildren, this can generally be done without a mass of paperwork and can also serve to reduce your eventual inheritance tax liability as well.

Let us know if this is something in which you might be interested.

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