- Many investors still leave Isa and pension investing until late in the tax year
- Past performance shows that early-bird investment strategies have proved lucrative over time
Predictably, as the new tax year rolled in, so did the press releases from investment firms spelling out a host of reasons why everybody should invest their 2021/22 individual savings account (Isa) allowance immediately, rather than leave it to next March. If you can afford to invest your Isa allowance at the start of every year, it makes sense that you should to take full advantage of compounding growth. This is because more often than not markets have historically delivered positive returns.
However, platforms still see a distinct trend of people rushing to invest at the end of the tax year. According to interactive investor, 20 per cent of all of the Isa money it received last tax year came in the final month -between 6 March and 5 April.
Jason Hollands managing director at Tilney, says its Bestinvest platform also saw “the traditional tax-year end stampede of applications for Isas and pensions during the final days”. He adds that the the final Isa subscribed to online at Bestinvest made it over the line with just four seconds left until midnight.
Hollands calculates that over the last 40 tax years, if you had invested in the UK stock market, as measured by MSCI United Kingdom Index, on the first day of the new tax year, you would have made positive returns over the following 12 months some 77.5 per cent of the time. Over this period the median annual return based on investing on the first day of the tax year was 12.1 per cent, he says.
The chart below shows the annual percentage change of MSCI World Index over the past 30 tax years. In 20 out of the past 30 years the global stock market has delivered a positive return, which would have benefitted those who invested early.
It also shows how extraordinary the market performance was in the last tax year, because of the timing of the pandemic, with the sell-off reaching its nadir on 23 March 2020.
The alternative approach to investing your Isa allowance as a lump sum is spreading it out across the year, for example on a monthly basis. A number of platforms have much lower dealing fees for regular investing plans, and interactive investor gives all customers one free trade per month.
A benefit of investing regularly, even if you have enough cash to invest as a lump sum, is that it might take some of the emotion out of it. It can be pretty demoralising to invest a large sum only to see markets fall, even if short-term market jitters shouldn’t matter much as you are investing for the long term.
It will also enable you to benefit from pound cost averaging, whereby you buy more shares as prices fall because you invest the same amount every month, smoothing out returns over time.
A look at the numbers
To show how this might play out in practice, the chart below shows how your money would have grown had you invested £20,000 each year in MSCI World Index either at the start of the tax year, end of the tax year, or monthly – over the past 10 years. You can’t invest directly in the index, but there are a number of trackers that have had very similar returns. Also, the Isa allowance is now almost double what it was 10 years ago (£10,680 in 2011/12), but this example is just for illustrative purposes.
While the returns in the chart appear close, the strategy of investing at the start leaves you with £356,353 after 10 years, and the strategy of investing at the end leaves you with £329,316. This is 7.6 per cent (£27,037) less than the amount from the early-bird strategy. The monthly investing approach would result in an end sum of £344,633 – 3.3 per cent less than if you had invested all the money at the start.
A fair criticism of this example would be that the period analysed covers what has been, for the most part, a strong bull market. It does not include the stock market crash of 2008 or the dotcom boom and bust.
However, if we run the same analysis again over 30 years – encompassing multiple market cycles – we see the same trends. Those who invested £20,000 at the start of the tax year, each year, would have about £1.66m after 30 years and those who invested at the end would have £1.575m. That’s 5.1 per cent (£85,000) less than the early-bird investor. The monthly investor would have accumulated £1.626m.
For those wondering to what extent the strong results of last year skew the data, for the nine years to 5 April 2020 investing at the start of each year would still have left you with £11,724 more than had you invested at the end of each tax year, despite the market falling 16.5 per cent in 2019/20. Drip feeding in monthly over those nine years would have left you with £4,116 less than the early strategy.
Over 29 years to 5 April 2020, investing early would have left you with about £51,000 more than investing late, and £19,500 more than investing monthly.
Nobody knows what markets will do over the next year, and many market commentators expect the global market to be weaker over the next decade than it has been over the past. The fall in interest rates in recent years has inflated stock market assets, and we could start to see a reversal of this if economic activity and inflation pick up.
But, encouragingly, what we can pick out of the data is that even in years when the market has fallen, performance has tended to recover relatively quickly. And, in general those who have invested earliest have done best. It’s almost impossible to time the market, so a disciplined process is a sensible approach.
James Norton, senior investment planner at Vanguard UK, says that its internal modelling predicts annualised average returns on UK shares over the next 10 years that range from 5.7 to 7.7 per cent. The corresponding annualised returns for overseas shares are expected to range from 3.5 to 5.5 per cent.
