'How do I turn £89,000 into enough to pay for private school?'

Investing for growth can help your family reach financial goals that would otherwise be unattainable, provided that you start in good time and pick the right strategy. Sending your children or grandchildren to private schools is certainly one of theses goals.

Edward plans on using his investments to fund a private school education for his children, now aged three and one, in seven years’ time. He has set up a stocks-focused Isa portfolio, currently worth around £89,000 but increasing quickly, thanks to monthly top-ups of between £1,000 and £1,500.

If both attend a private school from year 7, aged 11, they will have seven academic years each to go through before university. According to Independent Schools Council (ISC) Census data, average day school fees in the UK are currently in the region of £18,000 a year but are rising fast. They increased by 7 per cent last year and have risen by around 4 per cent every year since 2000. This would mean Edward needs a total of £405,000 to cover both his children, assuming fees rise at 4 per cent every year between now and 2039, when his youngest leaves education.

He is on the right track, however. If he can generate average annual returns of 6 per cent a year and continue to add £1,000 a month into the Isa until 2039, he can build up this amount with £13,000 to spare.

But there will also be additional non-fee costs, potential university costs, and the need to make sure that the portfolio is ready to be drawn down in large chunks, which could hamper returns. And, as he acknowledges, it is difficult to predict what might happen to fees over the next decade, particularly if there is a change in government. So there is no room for complacency.

“The strategy could probably be more defined, but the ultimate objective is long-term capital growth,” says Edward. “It is fairly stocks-heavy, but has protection from the likes of LF Ruffer Total Return (GB00B80L7V87) and BH Macro (BHMG), in case of steep market falls or if we need to draw on some of the money in an emergency, although we are fairly unlikely to need to.”

“I have tried to ensure the portfolio is well-diversified geographically and across asset classes. I have tilted it towards value and large-cap quality stocks, given the current backdrop of rising rates and market volatility,” Edward says. He is currently happy with his strategy but hoping to get more aggressive in the near future.

“At some point over the next year or two, or whenever interest rates start to fall, I will add more growth via small-cap funds and trusts,” he says. “Small caps seem likely to benefit from falling rates, even if they don't fall as far as in the past. I appreciate the timing will be tricky, so I will look to do this gradually.”

"Realistically I want returns of 6 per cent per year, although I would be interested to see if my bond-heavy funds such as Ruffer Total Return will hinder this."

Edward has been increasing his allocation to index funds to benefit from lower fees. “I realise that over the long term, they are tough to beat. But I do like that active management and investment strategies at least offer the opportunity to beat the market, especially in tougher times.”

He earns £75,000 a year, while his wife makes about £30,000 a year from running her business part-time. Their home is mortgage-free and they have no plans to move soon or have more children. They both have workplace pensions worth around £100,000 to which they regularly contribute.

Edward's portfolio

NONE OF THE COMMENTARY BELOW SHOULD BE REGARDED AS ADVICE. IT IS GENERAL INFORMATION BASED ON A SNAPSHOT OF THESE INVESTORS' CIRCUMSTANCES

Richard Philbin, chief investment officer, Hawksmoor Investment Management, says:

You are considering moving some of your portfolio into index funds. No complaints from me here, but keep in mind that tracker funds tend to work best and to be cheapest in mature, liquid markets. When picking a fund, make sure you understand how the index is constructed, because they are not all the same. Consider the number, and concentration, of holdings in the index that you are tracking, and the sector allocations too. Passive funds have done very well compared with actively managed ones for about a decade now, and therefore their appeal has increased, but do remember that “it is a market of stocks, not a stock market”.

Exchange-traded funds (ETFs) tend to be perceived as cheaper than open-ended funds, but you need to take dealing costs into account. Additionally, many ETFs are not truly passive, but are known as 'smart beta', and do not replicate indices as one may think. I have a preference for open-ended funds and would consider Fidelity's range of passive funds, which includes the Fidelity Index UK Fund (GB00BJS8SF95) and the Fidelity Index World Fund (GB00BJS8SJ34), as core holdings.

Your portfolio is broadly diversified, but you should think about increasing your very small exposure to bonds to improve it. Man GLG Sterling Corporate Bond (GB00BNLYQX62), for instance, has delivered a return higher than the world equity markets this year, so don’t dismiss this asset class out of hand. Schroder Strategic Credit Fund (GB00B11DP106) and Close Sustainable Select Fixed Income (GB00BD6DSC14) are also good options.

There is no direct emerging market exposure in the portfolio, which should be changed – consider Vanguard Global Emerging Markets (GB00BZ82ZY13), which is an actively managed fund.

Your small allocation to the UK is unusual, albeit not necessarily a bad call. However, the domestic market does look cheap, particularly at the smaller end of the market. Many believe there is an opportunity in smaller companies, which have been unintended victims of the huge surge of flows into passive strategies, which are forced to own the largest and most liquid assets, as well as of the regulatory pressures on active funds to have liquid portfolios. That has created very cheaply rated companies.

Small-cap stocks or funds should provide the potential for higher growth, but that usually comes with a higher price of volatility and risk. That said, with a long enough time horizon there is nothing wrong with having a proportion of a well-diversified portfolio in the asset class itself. Consider the Aberforth Smaller Companies Trust (ASL) as a good long-term option, or the Invesco Perpetual UK Smaller Companies Investment Trust (IPU), which pays a healthy dividend too.

A quarter of your portfolio is in cash, which you could start drip-feeding into the markets – a phased investment approach over the next 12 months should result in lower price volatility than investing it all in one day. Overall, you are taking the right steps and your current portfolio provides a good platform from which to diversify a little further into other asset classes. Just be mindful of how many funds you own, as it is possible to over-diversify.

Ernst Knacke, head of research at Shard Capital, says:

Given you don't need to withdraw anything from your investments for a few years yet, your current strategy looks appropriate. Your somewhat conservative approach makes sense especially when thinking about preserving capital when we're dealing with rising geopolitical uncertainties, elevated interest rates and generally expensive valuations.

You plan on adding to small caps once interest rates start falling. You clearly understand the nuances of capital markets, and from a philosophical standpoint, the idea is sound. But never lose focus on the valuations of the asset class or opportunity. Small caps typically come with a higher beta, meaning they are more likely to match the gyrations of the stock market almost regardless of their fundamentals. So an actively managed small-cap value strategy makes sense, as fund managers can be ready to move with the right stocks at the right valuations.

If you look at returns between 2000 and 2007, a value investing style significantly outperformed growth, but 2009 to 2021 was dominated by growth and momentum. But a key driver of both of these outcomes was the valuations of companies at the start of the period.

As for the balance between active and passive, the next decade will be very different from the last. Inflation, currencies and stock markets are all likely to be more volatile. Considering elevated debt levels in Western economies, deteriorating demographics and current market valuations, it is not unrealistic to assume global equity markets might trade sideways for the next five or even 10 years.

Volatility will drive opportunity. Innovation and technological advancements in areas such as artificial intelligence, renewable and digital infrastructure, as well as the continued rise of the emerging market consumer, are set to reshape the landscape. These characteristics favour active managers, especially those with a sustainable competitive advantage and a clear alignment of interest with their investors. I would recommend embracing active management.

You hold a significant amount of cash, but dry powder right now looks very attractive. Cash can be seen as a call option with no expiration date and no strike price, on every asset class. I would not deploy any cash today, especially given the options it provides for the future.

However, given where interest rates are, make sure you are getting at least a 5 per cent return on your cash. Interest rates on cash in investment accounts or Isas are normally much lower than what you get for investing in short-dated government securities, or in an ETF that focuses on this market.

You should consider increasing your Asian equity exposure, in particular to Japan and emerging Asian economies, such as India and Vietnam, which still offer attractive valuations in comparison to their long-term prospects. Veritas Asian (IE00B02T6J57) is a very high-quality investment proposition in the region, while for country-specific exposure you could look at Ashoka India Equity (AIE), which has an exceptional track record, and VinaCapital Vietnam Opportunity Fund (VOF).