By Chris Dillow , 17 December 2012
- Name Anonymous
- Age 48
- Objectives Retire and help children buy a house
With substantial retirement funds our reader may be taking on more risk than he needs to meet his £50,000 a year retirement objective.
Our 48-year-old reader who wishes to remain anonymous has been investing for 20 years and has accumulated a substantial self-invested personal pension (Sipp) and individual savings account (Isa) holdings.
He wants to retire between 60 and 65 on £50,000 a year (including state pensions) and perhaps help his children to buy a house later on if there is some spare capital.
With a medium attitude to risk, he pays management costs only where necessary - to the point now of starting to hold blue-chip shares direct to save fund costs.
"I guess it's a nice dilemma to have - a retirement portfolio that looks on track (constructed with considerable Investors Chronicle help over many years), but the future is uncertain (work, health, inflation, stock markets...) so is it optimal?" he asks.
Anonymous reader's retirement portfolio
|British American Tobacco||BATS||£14,816|
|International Public Partnership||INPP||£11,419|
|Templeton Emerging Markets Investment Trust||TEM||£9,174|
|Ruffer Investment Company||RICA||£7,857|
|Henderson Far East Income||HFEL||£7,496|
|Royal Dutch Shell A||RDSA||£7,111|
|BP Marsh & Partners||BPM||£6,623|
|Nationwide Building Society 6.25% PIBS||POBA||£5,355|
|Noble Investments (UK)||NBL||£3,706|
|Old pension scheme (no new contributions)|
|Fid BlackRock Gl Equity 50:50 Index Fund||£311,398|
|Current employer defined contribution pension (approx. £28k/yr contributions, very low management costs as employer scheme)|
|SL BlackRock Aquila HP UK Equity Pension Fund||30%|
|SL BlackRock Aquila HP World (Ex-UK) Equity Pn Fd||10%|
|SL Invesco Perpetual High Income Pension Fund||10%|
|Standard Life International Equity Pension Fun||50%|
|iShares III Plc Iboxx Corp Bond Ex-Fin||ISXF||£21,791|
|Worldwide Healthcare Trust||WWH||£12,099|
|RIT Capital Partners||RCP||£10,465|
|Scottish Mortgage Investment Trust||SMT||£10,225|
|iShares MSCI World||IWRD||£10,224|
|Jupiter European Opportunities Trust||JEO||£9,389|
|Pantheon International Partnerships||PIN||£9,365|
|Impax Environmental Markets||IEM||£8,108|
|Acorn Income Fund||AIF||£8,006|
|Edinburgh Investment Trust||EDIN||£7,982|
|BlackRock Smaller Companies Trust||BRSC||£7,607|
|iShares Plc Index Linked Gilts||INXG||£6,114|
|Lyxor ETF Commodities CRB GBP||LCTY||£5,519|
|City Natural Resources High Yield Trust||CYN||£5,339|
Chris Dillow, the Investors Chronicle's economist, says:
You may taking on more risk than you need to meet your retirement objectives.
If we assume that annuity rates stay as they are - at 3.6 per cent for an RPI-linked annuity for a 65-year-old - then you need a pension pot of £1.25m by the age of 65 to give you an income of £45,000; the state pension, which you’ll get a year later, should give you just over £5,000 a year. A return of 2.6 per cent a year in real terms over the next 17 years will get you this.
(If inflation averages 2.5 per cent a year, then £45,000 in today’s money will be £68,000 in 17 years’ time. You’ll need a pension pot of almost £1.9m to buy that, which requires a nominal return of 5.2 per cent a year.)
A real return of 2.6 per cent a year seems quite modest. If we assume that true real returns are 5 per cent a year (1.5 per cent real growth with a yield of 3.5 per cent) then you have a five-sixths chance of hitting this target.
This is based upon two cautious assumptions. One is that annuity rates stay as low as they are now, but I suspect the chances are that they’ll rise. The other is that you’ll buy an index-linked rather than level annuity, whose rate is 5.9 per cent. The choice is moot.
You present portfolio, then, is probably odds on to allow you to retire at 65, and quite possibly earlier with the added advantage of not having to fully annuitise your wealth and so having something to pass to your children.
Hence my question: are you over-invested in equities? You say you’re worried about high US valuations, but I suspect there are two reasons to consider shifting into safer assets.
One is that you’re taking on a high chance of having more than you need in retirement, and in doing so you are jeopardising your chances of an early retirement, should shares fall. A shift to cash or bonds (not bond funds) would give you safer but lower returns, and thus reduce the small chance of you not being able to retire comfortably.
Such a shift, though, comes at a price. In locking in lower returns, it also reduces the chance of you being able to retire comfortably very early. Safer assets reduce upside risk, as well as downside.
A second reason to consider safer assets is: will you really have a choice of when to retire? How secure are your employment prospects?
Insofar as they are insecure, we have perhaps another case for shifting towards bonds. Ask yourself: in what circumstances might I lose my job and be unable to get a similarly good one? Those circumstances might well be ones of general economic malaise in which your shares also do badly. To the extent that this is the case, there’s another reason for holding safer assets - as protection against human capital risk.
What all this shows is that portfolio decisions are sometimes sensitive to idiosyncratic factors. There’s "objective idiosyncrasy" - such as the risk or not to your employment - and there’s "subjective idiosyncrasy", such as: how do you trade off the chance of a lucrative retirement against the chance of falling short of your objectives?
Rather than give you concrete advice - which I don’t think you need - all I can do is ask you to consider these personal issues.
Ben Yearsley, head of investment research at Charles Stanley Direct, says:
You are in a healthy position financially with over £750,000 of assets at the age of 48. However, be aware of the recent rule changes announced by the chancellor limiting pension pots to £1.25m which may affect you in future. With some reasonable funding over the next few years your target of a £50,000 annual pension is easily achievable.
You mention you are happy with medium risk. Risk is a subjective word and looking at your portfolio it looks more than medium risk as there are few low-risk investments. There is also the possibility of a larger than 20 per cent fall in poor market conditions (something you want to avoid) as only investments such as Ruffer Investment Company and RIT Capital offer any downside protection alongside the ishares bond holding.
I am not sure your strategy is entirely clear as there are some very big direct share holdings alongside some smaller investment trust holdings and some very specialist investments. You want growth, but what is the overall investment strategy? How does it all fit together? Where is the downside protection really coming from if you are truly a medium-risk investor? Don’t forget in large market falls investment trusts can easily slip to a wider discount to net asset value, in effect giving a double downside whammy.
In the share portfolio your holdings are predominantly cash generative large cap businesses. I have no issue with buying into that as a strategy. Many pay dividends in the region of 5 per cent - tax free within the Isa and Sipp - in a low return environment that is a pretty decent return.
However, watch the doubling up of direct shares you own with holdings within your fund investments. There may be a higher exposure to certain companies than you actually realise - increasing the risk in the portfolio. For example, Glaxo, BAT and Capita are all holdings in the Invesco Perpetual High Income fund held in your pension.
You hold several investment trusts of which some are better than others. I like infrastructure as an investment theme and International Public Partnerships - an infrastructure investment trust that is a mix of development projects and those up and running - is a quality long term holding with a degree of inflation proofing. Edinburgh Investment Trust is another quality holding - managed by Neil Woodford but its portfolio is very similar to the Invesco Perpetual High Income fund - so again there is doubling up. Another great performing fund is the Jupiter European Investment Trust - this is a really good manager but maybe it's worth taking a bit of profit as it has performed so well.
Henderson Far East looks like a possible candidate for selling - consider switching into an Aberdeen, Schroders, Newton or First State investment in the Asian space. I would consider switching out of the Impax Environmental Markets investment trust and into Impax PLC as it has better performance and lower fees.
Other investments to consider adding in are Blackrock Frontiers Investment Trust and Artemis Alpha.
Overall, I would say double check the share holdings (particularly your large caps) versus the fund holdings – make sure you are happy with the underlying exposure - this is always the danger when mixing funds and investment trusts with direct share holdings.