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Our reader's portfolio is not as well diversified as he thinks
June 21, 2018, Paul Kemsley, Caroline Shaw and Julie Wilson

David is 60 and has recently left his job, but may work two days a week as a consultant for the next six to 12 months. Any income he makes from this will be invested in his self-invested personal pension (Sipp). He also has a defined benefit (DB) pension which pays out £11,400 a year after tax and covers his basic outgoings, as well as two other small pensions. He uses cash savings to pay for expenses such as holidays and buying cars. 

Reader Portfolio
David 60
Description

Funds, ETFs and shares held in Sipp, Isa, trading account and managed account, property and cash

Objectives

5 per cent annual total return for next six years, then 4 per cent annual total return

Portfolio type
Portfolio simplification

David and his wife's home is worth about £450,000 and is mortgage free, and they will use its value to pay long-term care fees if necessary. They also have a flat valued at about £300,000 which they let, and it provides an income of about £9,000 a year after costs. David does not have children so will use his assets to provide for himself and his wife. Anything left over will be left to his nephews and charities.

"I want my investment portfolio to make a total return of 5 per cent a year until I am 66," says David. "I will then start receiving my state pension, which should pay out around £9,256 a year, so from that time I will target a total return of 4 per cent a year.

"I have been investing for 12 years and have reinvested the dividends I receive, but now intend to supplement my retirement income via a combination of dividends and capital growth from my investments.

"I'm prepared to lose up to 30 per cent in any given year. I have a cash reserve I could turn to during market downturns instead of drawing from my investments, which should be able cover shortfalls in income for about four years. I would replenish this reserve when markets improve.

"My investments are focused on 11 sectors: India, emerging and frontier markets, commodity equities, technology, commercial property, western democracies, smaller companies and private equity, UK FTSE 350 shares, healthcare, bonds, index-linked gilts and cash. Every month I invest money into whichever of these sectors is behind. If any of these sectors grows to beyond 20 per cent of my intended allocation to it, I reduce it and reinvest the proceeds in the sector that is performing least well.

"I try to make sure that my direct shareholdings don't account for more than 1 per cent of my portfolio, and funds don’t account for more than 5 per cent.

"I have some exposure to alternative assets, including in a trial portfolio based on Harry Browne's permanent portfolio idea, and hold Vanguard LifeStrategy 80% Equity (GB00B4KWNF91) and an account with an online wealth manager for when I am no longer capable of or interested in managing my portfolio.

"Recent purchases include Aberdeen New India Investment Trust (ANII), HSBC FTSE EPRA NAREIT Developed UCITS ETF (HPRO) and Xtrackers FTSE 100 Equal Weight UCITS ETF (XFEW).

"I am thinking of investing in Baillie Gifford Japan Trust (BGFD), and adding to iShares £ Index-Linked Gilts UCITS ETF (INXG) and Fundsmith Emerging Equities Trust (FEET)."

 

David's portfolio

Holding Value (£) % of the portfolio
iShares Core £ Corporate Bond UCITS ETF (SLXX)1,841.530.24
iShares UK Gilts 0-5yr UCITS ETF (IGLS)2,752.800.35
iShares £ Corp Bond 0-5yr UCITS ETF (IS15)3,972.780.51
iShares Global High Yield Corp Bond GBP Hedged UCITS ETF (GHYS)2,753.120.35
Xtrackers II Global Government Bond UCITS ETF GBP Hedged (XGSG)52.000.01
SPDR Bloomberg Barclays Emerging Markets Local Bond UCITS ETF (EMDL) 106.000.01
iShares MSCI World GBP Hedged UCITS ETF (IGWD) 547.500.07
Vanguard FTSE All-World UCITS ETF (VWRL)     547.500.07
iShares Core MSCI EM IMI UCITS ETF (EMIM)                       88.000.01
iShares £ Index-Linked Gilts UCITS ETF (INXG)22,301.502.85
Blackrock Smaller Companies Trust (BRSC)6,717.600.86
JPMorgan European Smaller Companies Trust (JESC)16,659.082.13
HgCapital Trust (HGT)3,072.650.39
Baillie Gifford Shin Nippon (BGS)1,350.310.17
HarbourVest Global Private Equity (HVPE)497.360.06
JPMorgan US Smaller Companies Investment Trust (JUSC)1,300.030.17
JPMorgan Indian Investment Trust  (JII)15,348.001.96
Aberdeen New India Investment Trust (ANII)10,884.001.39
JPMorgan Emerging Markets Investment Trust (JMG)11,681.961.49
Blackrock Frontiers Investment Trust (BRFI)7,351.000.94
Fundsmith Emerging Equities Trust (FEET)4,938.070.63
Aberdeen Frontier Markets Investment Company (AFMC)1,452.960.19
Blackrock Latin American Investment Trust (BRLA)134.000.02
Legal & General Global Health & Pharmaceuticals Index (GB00B0CNH387)883.000.11
Animalcare (ANCR)512.000.07
Worldwide Healthcare Trust (WWH)8,736.001.11
Biotech Growth Trust (BIOG)6,674.070.85
Dechra Pharmaceuticals (DPH)4,169.960.53
Syncona (SYNC)1,974.390.25
CVS (CVSG)3,106.960.4
TR Property Investment Trust (TRY)15,514.671.98
HSBC FTSE EPRA NAREIT Developed UCITS ETF (HPRO)1,089.170.14
iShares Developed Markets Property Yield UCITS ETF (IWDP)4,939.700.63
iShares Asia Property Yield UCITS ETF (IASP)4,977.360.64
Allianz Technology Trust (ATT)7,624.910.97
Herald Investment Trust (HRI)6,602.400.84
Polar Capital Technology Trust (PCT)12,914.881.65
Ultra Electronics (ULE)1,106.590.14
BlackRock World Mining Trust (BRWM)9,640.751.23
City Natural Resources High Yield Trust (CYN)5,610.340.72
iShares Global Water UCITS ETF (IH20)2,807.850.36
iShares Agribusiness UCITS ETF (SPAG)3,448.750.44
iShares Global Timber & Forestry UCITS ETF (WOOD)2,889.800.37
iShares Oil & Gas Exploration & Production UCITS ETF (SPOG)2,161.910.28
Canadian General Investments (CGI)3,080.600.39
Middlefield Canadian Income (MCT)3,677.980.47
Fundsmith Equity (GB00B41YBW71)15,910.652.03
iShares Euro Dividend UCITS ETF (IDVY)3,299.550.42
Berkshire Hathaway (BRK.B:NYQ)2,977.000.38
Centrica (CNA)200.000.03
iShares UK Dividend UCITS ETF (IUKD)3,058.000.39
SSE (SSE)2,532.000.32
National Grid (NG.)458.000.06
Xtrackers FTSE 100 Equal Weight UCITS ETF (XFEW)8,069.001.03
Dignity (DTY)1,233.000.16
Vanguard FTSE 250 UCITS ETF (VMID)7,522.000.96
Pets at Home (PETS)410.000.05
ETFS Physical Gold (PHGP) 1,274.000.16
Vanguard FTSE 100 UCITS ETF (VUKE) 587.000.07
Vanguard U.K. Gilt UCITS ETF (VGOV) 688.000.09
Vanguard LifeStrategy 80% Equity (GB00B4KWNF91)502.000.06
Carnival (CCL)1,316.000.17
Computacenter (CCC)1,394.000.18
Dart (DTG)1,319.000.17
EI (EIG)1,032.110.13
Evraz (EVR)1,981.490.25
Glencore (GLEN)1,144.380.15
Grafton (GFTU)979.000.12
Hays (HAS)1,061.000.14
Hilton Food (HFG)1,338.000.17
IG Design (IGR)835.000.11
International Consolidated Airlines (IAG)1,245.000.16
Lamprell (LAM)1,189.000.15
McColl's Retail (MCLS)912.000.12
John Menzies (MNZS)1,196.580.15
Morgan Sindall (MGNS)1,125.670.14
RSA Insurance (RSA)1,104.000.14
Robert Walters (RWA)1,248.770.16
SIG (SHI)830.000.11
SThree (STHR)975.000.12
Sagicor Financial (SFI)879.000.11
Smurfitt Kappa (SKG)718.000.09
Speedy Hire (SDY)1,162.000.15
Sports Direct International (SPD)1,029.000.13
Staffline (STAF)867.000.11
TT Electronics (TTG)1,106.000.14
Thomas Cook (TCG)1,018.320.13
Total Produce (TOT)1,259.610.16
Vedanta Resources (VED)1,188.000.15
J D Wetherspoon (JDW)1,000.000.13
Wincanton (WIN)1,258.000.16
NS&I Premium Bonds14,663.001.87
NS&I Savings Certificates2,891.000.37
Cash137,063.0017.49
Aviva Investors Index-Linked Gilts Over 5 Years Index (GB00BYSL7T06)61,804.007.89
Aviva Investors 50:50 Global Equity Index (GB00BDH3PV81)51,410.006.56
Aviva Investors  60:40 Global Equity Index (GB00BDH3PW98)187,584.0023.94
Aviva pension funds15,286.001.95
Total783,625.90 

 

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

 

THE BIG PICTURE

Chris Dillow, Investors Chronicle's economist, says:

If in recent years the actively managed part of your portfolio has outperformed your defined-contribution pension, which is invested in passive funds, this should concern you. If a portfolio outperforms a lot it might be riskier than you think and it could also underperform.

Your portfolio, like many others, has benefited in recent years from the unusual combination of bull markets in both bonds and equities. This has been due in large part to interest rates in western economies staying lower than investors expected – despite the fact that economies have continued to grow.

But we cannot rely on this continuing, so your portfolio faces two dangers. Rising interest rates might result in losses for bonds and possibly equities, if investors no longer pursue the yield strategy that may have driven share prices up. Or if rates don't rise because we get bad news about economic growth, bonds would do all right but equities might fall. Either way, the past success of this portfolio is no assurance of future success.

 

Caroline Shaw, head of fund and asset management, and Paul Kemsley, senior adviser at Courtiers, say:

You have clearly enjoyed assembling and managing your portfolio but it is an overly complex collection of assets. Your classification into 11 sectors results in overlap and duplication of holdings. And such classification ignores the tax implications of your investments. It is hard to see how much of your portfolio is held in Sipps and individual savings accounts (Isas), or is unwrapped.

From a tax perspective, there are potentially some easy wins. You and your wife should both use your maximum annual Isa allowances to move the unwrapped assets into a tax-efficient environment. Inheritance tax (IHT) is not a big issue as meeting potential long-term care costs are a higher priority for you, although you could make annual gifts to your nephews. Switching your main home's ownership status to 'tenants in common' with your wife would be more tax efficient than you having sole ownership.

Your DB pension is meeting your income needs, you have income from your buy-to-let property and, in a few years, will have your state pension. So why do you need additional retirement income? 

You have a good cash buffer for the costs of holidays and cars. If you need more income in future we would suggest drawing from your non-wrapped assets, taking advantage of your annual capital gains tax allowance, which for this tax year is £11,700, in combination with drawdowns from your Isas.

You could also draw from your pensions but these funds are outside of your estate for IHT purposes.

You should get some professional advice on tax planning.

 

Julie Wilson, chartered financial planner and director of PenLife Associates, says:

There's a lot of stuff and no clear strategy. Also remember that last year's star performer is often next year's dog.    

Do you plan on wasting your retirement keeping track of this lot? Consider getting some professional advice, so that your portfolio can help you maintain the lifestyle you choose. A financial planner could arrange your assets to deliver sustainable income and make sure that you do not pay unnecessary tax. This would help to make your money last as long as you do, and ensure as much as possible of anything left over goes to where you intend it to go, rather than to the tax man.

Investors in the accumulation phase of their retirement savings can afford to take punts, and speculate on whether one investment is going to outperform another. But when you're about to retire, you can't afford to take those risks. You can't have the same investment strategy that you had when you were saving up for your retirement. 

You're looking for a return of 5 per cent a year until you start receiving your state pension and then 4 per cent. How did you come to these figures? The starting point in retirement planning is to figure out how much income you need. And then work out where it's going to come from.

Most people have a variety of investments and income sources. I like to think of them as a bucket. Before you retire you have various assets such as Isas, investments and cash in your bucket, to which you add more, for example, savings and unspent income. And there's stuff coming out of the bucket like day-to-day expenses, mortgage payments and pension contributions.

When you retire nothing goes into your bucket but you are taking stuff out. So you need to make sure the contents of the bucket lasts as long as you do by cash-flow forecasting. This involves estimating what's going in and out of the bucket.

We'd also work out when the bucket might run dry, or whether too much would be left in the bucket when you die. If this happens a whole chunk of it might end up with the tax man, and you might not have enjoyed the fruits of your bucket as much as you should have.

 

HOW TO IMPROVE THE PORTFOLIO

Chris Dillow says:

Your portfolio is not as well-diversified as you think, and not just because it's exposed to interest rate risk. Although your equities are in different market segments they all carry some degree of global market risk. If there is a bear market your defensive UK holdings might do relatively well, as might your healthcare stocks. But traditionally there has been a high correlation between emerging markets and commodity stocks, and losses on one are highly likely to be accompanied by losses on the other.

Perhaps you should think of diversification differently. It is not simply a matter of buying lots of different stocks or funds. You've done this, which means you have pretty much eliminated stock-specific risk: your policy of not having more than 1 per cent of your portfolio in any one stock means it doesn't much matter which individual shares you own.

Instead, diversification is about spreading risk exposures. Commodity stocks, for example, expose you to recession risk but bonds, which do well in recession, spread that risk. Consider what risks concern you and whether you are adequately protected from them.

Generally speaking, I think you are protected from the risks which might be of concern to you. Your decent allocation to cash should help to protect you if, for example, both bonds and shares are hit by rising interest rates.

A greater problem is your expectation that you will outperform global trackers.

There's one thing you're doing here which is a brilliant idea, though, trial portfolios. This portfolio which is allocated to gold, equities and gilt ETFs, and cash, might be able to replicate the performance of most professionally-run balanced funds.

What's not clear is what indicators you're using to assess performance. If equity bull markets continue your trial portfolio will probably underperform your existing approach. This, however, overlooks their virtues of simplicity, low costs and perhaps of greater stability in the face of many market shocks.

 

Caroline Shaw and Paul Kemsley say:

You are prepared to lose up to 30 per cent a year. This and your portfolio holdings indicate that you are happy to take above-average risk, and you have a cash buffer so you do not have to draw from your investments in market downturns.

Your target total return of 5 per cent above inflation is realistic. 

But you have a lot of overlap in this portfolio, for example, healthcare companies CVS (CVSG) and Dechra Pharmaceuticals (DPH) are among Blackrock Smaller Companies Trust's (BRSC) top 10 holdings. And you may might have more exposure to the healthcare sector than you realise.

The UK ETFs are good funds but duplicate your individual stock positions. You can achieve diversification with 20 holdings in different sectors and geographies. Holding funds and ETFs simply adds fees.

You need to tidy up your portfolio. There is no reason why you couldn't enjoy managing a simpler investment portfolio. Your experiments with your online wealth manager portfolio, and your self-managed portfolio of gold, equity and gilt ETFs, are meaningless in the context of your whole portfolio value. But using low-cost ETFs can be sensible and these could offer solutions for the future. 

Reduce the number of holdings and be careful not to duplicate positions.