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Beware of property and commodities

Consider the additional risk you might be adding to a well-diversified portfolio, say our experts
Beware of property and commodities

David is an accountant who earns £75,000 a year. His home is worth about £600,000 and has a fixed-rate mortgage on it of about £80,000, which he will have paid down in four years. David is age 55 and single.

Reader Portfolio
David 55

Sipp and Isa invested in funds and cash, residential property


Retire at 60, travel in comfort, have no money worries

Portfolio type
Managing pension drawdown

"I enjoy my job, am currently in good health and have committed to work until I am 60,” says David. “But when I retire I would like to travel in comfort and be relaxed about my spending.

"My self-invested personal pension (Sipp) is worth about £1.3m and over my lifetime limit – I have fixed pension protection of £1.25m – so I am no longer making contributions into it. My individual savings account (Isa) is worth nearly £400,000. I have no investments or cash deposits outside my Sipp and Isa, so feel that my assets are nicely sheltered from tax.

"I stand to inherit £300,000 from my mother, but I have excluded this from my financial planning until it happens.

"The beneficiaries of my will are charities, and my brother and his family. They are already financially secure, so my financial priority is enjoying my retirement and spending my money – as long as I am in good health. I have always been more of a saver than a spender, but my aspiration is to spend all my money before I die. 

"I had planned to draw down the money from my Isas first and then the money in my Sipp, because this seemed more tax-efficient. But as I have now exceeded my pensions lifetime limit I wondered if it would be more tax-efficient to draw from my pension first, and use the money in my Isa to cover irregular expenditure such as holidays and new cars.

"I have recently transferred a defined-benefit pension worth £365,000 into my Sipp and have been drip-feeding this money into the market to try to take advantage of dips.

"I have been increasing my exposure to the UK because it is my home market and I think it is undervalued. My investments in UK commercial property performed poorly last year, but I could increase my exposure to iShares UK Property UCITS ETF (IUKP) and Tritax Big Box REIT (BBOX). I am also considering adding Woodford Patient Capital Trust (WPCT) as a long-term investment.

"I would like to increase my exposure to the US, possibly diversifying into smaller companies and Nasdaq index stocks, but not at this point in the cycle. When I do invest it will probably be via iShares S&P SmallCap 600 UCITS ETF (ISP6) and Invesco EQQQ NASDAQ-100 UCITS ETF (EQQQ).

"I have never invested in emerging markets, but am considering investing in India Capital Growth Fund (IGC) if there is a downturn.

"I am trying to improve diversification, so wondered if increasing my allocation to commodities would help? I have so far not directly invested in gold because I have some exposure to it via Personal Assets Trust (PNL).


Personal Assets Trust asset allocation (%)
UK T-Bills16.6
Gold Bullion8.4
US Treasuries4.2
UK Index-Linked Gilts3.5
Cash and equivalents2.5
Source: Personal Assets Trust as at 31 October 2019


"With retirement approaching I am starting to give thought to capital preservation, so I'm also considering investing in Capital Gearing Trust (CGT) and RIT Capital Partners (RCP). However, the latter is trading on a premium to net asset value (NAV) of over 8 per cent, which makes me uneasy.

"I have always had a high allocation to equities and can tolerate market fluctuations, but am realistic about my inability to spot market trends. And I suspect further increasing my fixed-interest exposure might also help with diversification, but I don’t really understand bonds. So far I have only invested in one bond fund – iShares £ Corp Bond 0-5yr UCITS ETF (IS15).

"Over the past three years, I have focused on cutting my cost of investment by moving assets into exchange traded funds (ETFs) and using low-cost investment platforms, although have also invested in some investment trusts. I would prefer not to be continually researching and tinkering so do not invest directly in equities.


David's investment portfolio

HoldingValue (£)% of the portfolio
HSBC MSCI World UCITS ETF (HMWO)32,3001.93
Personal Assets Trust (PNL)1590019.51
Scottish Mortgage Investment Trust (SMT)84,5525.06
SPDR FTSE UK All Share UCITS ETF (FTAL)26215815.69
City of London Investment Trust (CTY)805234.82
Vanguard FTSE 250 UCITS ETF (VMID)727894.36
iShares UK Property UCITS ETF (IUKP)37,3902.24
Tritax Big Box REIT (BBOX)      23,6821.42
iShares Core S&P 500 UCITS ETF (CSP1)1583859.48
Vanguard FTSE Developed Europe ex UK UCITS ETF (VERX)161,5009.66
Xtrackers Nikkei 225 UCITS ETF (XDJP)1261047.55
Vanguard FTSE Developed Asia Pacific ex Japan UCITS ETF (VAPX)840425.03
Invesco Bloomberg Commodity UCITS ETF (CMOD)27,4641.64
iShares £ Corp Bond 0-5yr UCITS ETF (IS15)16805910.06





Chris Dillow, Investors Chronicle's economist, says:

It’s hard to improve a well-diversified portfolio of mainly low-cost funds, which is what you have. And I have misgivings about most of your ideas for tweaking it.

I wouldn't want to increase exposure to commercial property. Retailers’ troubles might be long-lasting, thanks in no small part to ongoing weak growth in real wages and spending. That means fears about an oversupply of retail space will continue to weigh on commercial property.

I’d also be wary of emerging markets for now. The wise old saying 'never try to catch a falling knife' applies here. The sector is prone to momentum effects, which means that apparently cheap assets can get even cheaper. I would time entry into them by using a 10-month average rule: buy when prices are above their 10-month average. You’ll not buy at the bottom with this rule, but you will ensure that momentum works for you. Also, I’d be wary of single-country funds because these expose you to country-specific economic and political risk which – at best – takes effort to monitor.

With investors still concerned about the Chinese slowdown, it would be risky to increase exposure to commodities. If you do this, be aware that exchange traded commodities (ETCs) can have varying performance both because they hold different commodities to each other and because of differences in roll yield. Some ETCs do not hold the commodity they track but instead sell futures contracts as they approach expiry and reinvest in longer-dated contracts, sometimes at a higher price. A lot of the skill in commodity trading comes down to how well this is done.

Increasing bond exposure would help with diversification. Government bonds would probably do well if investors' appetite for risk falls or they fear an economic slowdown, although this would not be the case with corporate bonds – especially lower-grade ones. So government bonds offer insurance against some forms of falls in stock markets.

But insurance comes at a price. If the US economy continues to grow this year and the US central bank, the Federal Reserve, raises interest rates, bond prices might fall. In these circumstances, cash would be a better way than bonds to diversify equity risk. Cash may be boring and offer no worthwhile returns. But a zero real return is better than a negative one, which is what both equities and bonds could produce.

Your idea of raising exposure to the UK has justification. The UK has hugely underperformed the rest of the world in recent years: according to index provider MSCI it has risen just 34 per cent since December 2004 against 155 per cent for the world market excluding the UK, in sterling terms.

But this doesn’t mean that the UK is cheap. Rather, the underperformance in part reflects the UK’s economic stagnation and the belief that profits of major US companies might be more sustainable, as such companies have stronger sources of monopoly power. It might be a good idea to increase your UK weighting – but only if the next 10 years are very different from the last decade, and this isn’t assured.

So maybe you should face an uncomfortable possibility – that you don’t need to do much to alter this portfolio. It might be as good as you can get.


Peter Savage, chartered financial planner at Fairstone Northern Ireland, says:

Your mother is leaving you around £300,000. It would be more inheritance tax efficient if she leaves you this capital in trust. You could still access it, but if you didn’t manage to spend your estate this capital would remain outside it for inheritance tax (IHT) purposes.

You are considering withdrawing from your pension first and leaving your Isas to cover irregular expenditure. I would suggest withdrawing Isa money and phasing withdrawals from your pension to include the majority of it as tax-free cash. I would withdraw up to the personal allowance from the taxable element of the pension. You currently are only slightly above your level of protection. I wouldn’t let this situation override your initial thought on being tax efficient. Why pay potentially higher-rate tax on your pension withdrawals due to your concern about being slightly over your protection level? Also, from an IHT point of view, any assets remaining in your Sipp will be outside of your estate for IHT purposes.  

You have been quite comfortable with market fluctuations, but as you approach retirement you are more concerned with capital preservation. However, as you will be withdrawing income and capital for the remainder of your life, this could be quite a long time horizon. You will need some growth potential over this period to help sustain your withdrawals. But a large fall in equities in the early years of drawing down capital could have a detrimental effect on the portfolio, as you will be encashing more units to maintain your withdrawal level as the value of the portfolio falls. This would make it more difficult for the portfolio to recover due to the increased number of units encashed.

A good way to determine the sustainability of your portfolio would be a cash flow analysis, which a good independent financial adviser could do. This would allow you to see the effect on your portfolio of the withdrawals you would like to make during your retirement, including one-off capital expenditure. You can use various different assumptions for growth and stress test this by simulating markets falls. It provides a good indication of the type of return that would comfortably enable you to have the retirement you want. It would also give you an idea of how much you need to spend to fulfil your aspiration of spending all your money before you die. This would then help decide the right asset mix for your portfolio to achieve the return you would need.



Alan Miller, chief investment officer and founding partner of SCM Direct, says:

Your philosophy strikes me as very rational and reasonable: reducing fees by using ETFs while ensuring diversification.

But there is a huge question mark over the valuation of retail commercial properties at present, and property generally. Tritax Big Box REIT has fared well due to its focus on industrial warehouses in the online market, but I doubt whether such returns from this 'sweet spot' will continue.

If you don't want to incur stock-specific risk with your technology exposure, then Invesco EQQQ NASDAQ-100 UCITS ETF would be a good option. However, we think there may be a tech valuation bubble yet to fully play out. And we think that generally there is much better value outside the US market.

But if you want some exposure to the US consider Vanguard Global Value Factor UCITS ETF (VVAL). This has 58.6 per cent of its assets in the US and selects shares based on various fundamental measures of value. The average price/earnings (PE) ratio of its holdings is just 8.4 times, while the earnings growth rate is around 10.9 per cent a year. The fund has an ongoing charge of 0.22 per cent.


Vanguard Global Value Factor UCITS ETF geographic allocation (%)
Hong Kong1.3
Source: Vanguard as at 31 December 2018 


The Indian market has always been characterised by high economic growth and high valuations. So I would suggest getting exposure to it via a diversified emerging markets ETF such as iShares Core MSCI EM IMI UCITS ETF (EMIM). This has 10 per cent of its assets in India, and holds more than 2,000 large-, mid- and small-cap emerging markets companies. The fund has an ongoing charge of 0.18 per cent a year.


iShares Core MSCI EM IMI UCITS ETF geographic allocation (%)
South Korea14.23
South Africa6.15
Russian Federation3.32
Source: BlackRock as at 31 December 2018


I am not a great fan of commodities because the long-term returns tend to be very low and can be volatile.

For fixed-interest exposure consider an emerging market bond ETF as these have attractive yields. For example, UBS JPMorgan USD EM Diversified Bond 1-5 UCITS ETF (UBXX) has a well-spread portfolio of shorter-term emerging market bonds with an underlying yield of 6.2 per cent, and the currency exposure is hedged back into sterling.

You have a very large exposure to Personal Assets Trust, so consider reducing this and reinvesting the proceeds in your other holdings.


Peter Savage says:

It can be difficult to spot market trends and I agree with your plan to increase diversification. It is good to diversify within your risk profile and have the correct investment time horizon. This will help spread risk, in particular via geographical diversification by investing in the US and emerging markets, and through exposure to different asset classes such as commodities. Commodities tend to have a low to negative correlation to traditional assets such as stocks and bonds.

It is true that investing in fixed interest might help your diversification. However, there are currently risks associated with fixed interest, especially as interest rates are starting to increase. Higher interest rates would have the effect of increasing yields, which would decrease the capital value of fixed-interest bonds. A reduction in interest rates would have the opposite effect, which has generally been the case with fixed interest for the past 30 years.

You have invested in short-dated corporate bonds, which are less susceptible to changes in interest rates but don’t offer as much in growth potential.