Concentration is risky, but this isn’t a bad thing

"Our goal is to retire in four years when I am 58 and return to the UK,” says Calum. “We think we will need a gross income of £75,000 a year for the first 10 years and £60,000 a year thereafter when our state pensions have started to pay out. When I am age 65 I will start to receive a Swiss state pension of about £14,000 a year, and I am due to receive a UK state pension of around £7,000 a year. I also have a Swiss workplace pension, which I can withdraw before leaving the country and is worth about £800,000 after tax.

“We have recently sold our home in Switzerland and will rent until we return to the UK. We have set aside £600,000 to buy a home in the UK, after which we should still have assets worth about £1.5m to supplement our pensions.

“We are looking for our investments to make an average annual return of inflation plus 4 per cent over the medium to long term. I would like our portfolio to grow by about £400,000 over the next four years via a combination of compound growth, dividends and regular top-ups. I currently invest £4,000 a month, so think that even with market volatility we should be able to achieve this target. 

"I have enjoyed investing for many years. I manage our investments as one portfolio, but they are held in several accounts in different jurisdictions to get lower fees, and different tax treatment of income and capital gains. I receive specialist advice on the legal and tax structures.

"I have gradually been investing the large cash sum we got from the sale of our house. But I have held back a bit, especially with regard to the US equity market, which looks overvalued.

"My long-term plan is to have 50 per cent in equities, 25 per cent in cash or bonds, and 25 per cent in real estate, infrastructure, alternative assets and absolute return funds.

"With regard to the equity allocation, I want exposure to future growth so am overweight Asia and innovative sectors such as technology, biotechnology and private equity. My target asset allocation is as follows:

Calum's target equity allocation

"I invest via a mixture of active funds and exchange traded funds (ETFs). Although I prefer to use ETFs because they have low fees, I have used more active funds to get exposure to specialised markets such as Asia, emerging markets and fixed income, where I think tracking a broad benchmark investment would not necessarily give exposure to the best opportunities.

"My Swiss workplace pension is very conservatively managed, so I could tolerate a decline in the value of my other investments of 10 to 20 per cent over the short term. But because I am concerned about the stock market and less concerned about interest rate rises, I recently invested in John Laing Environmental Assets Group (JLEN), Aberdeen Diversified Income and Growth Trust (ADIG) and Sequoia Economic Infrastructure Income Fund (SEQI). My aim was to find boring investments that meet my yield requirements and will hopefully be a safer place if equities blow up.

"I am very pleased with my investment in Burford Capital (BUR) which I will keep for the long term. I am also very pleased with Syncona's (SYNC) performance, but may sell it because it is trading at a high premium to net asset value (NAV). I would reinvest the proceeds in a more diversified fund in the same sector.

"I plan to increase my allocation to equities and, in particular, bring the US allocation back to my target level. I will probably do this by adding to my holdings in iShares S&P 500 GBP Hedged UCITS ETF (IGUS) and JPMorgan US Smaller Companies Investment Trust (JUSC).

"Otherwise I will increase my allocation to equities via global funds rather than regional or sector-specific ones. I am thinking of investing in Scottish Mortgage Investment Trust (SMT), global equity ETFs hedged to Sterling and global smaller companies funds.

"I eventually want to have at least £15,000 – or about 1 per cent of my portfolio – in each holding, so I will also top up my existing holdings.

“I have taken advantage of s terling weakness by hedging 80 per cent of my Swiss franc denominated assets – my Swiss workplace pension. I have done this by purchasing Sterling and selling Swiss francs and will do this until I retire.

"But I am concerned that my investments are too diversified, in particular the equity ones. So far, rather than buy global tracker funds I have tried to invest in what seem like the best sectors. But rather than investing in funds to gain global coverage would a cheap ETF be a better long-term choice?"

Calum's portfolio

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

James Norrington, specialist writer at Investors Chronicle, says:

It is good that you are getting specialist advice on the legal and tax structures you are looking to take advantage of and may need to reassess when you return to the UK. In cases like yours, the most appropriate wrappers, domicile for your funds and ways to manage withholding tax on repatriated money are questions for a professional expert.

Regarding your objectives, if we assume UK consumer price index (CPI) inflation of around 2 per cent, then you will need to make about 6 per cent a year from your portfolio and this target return will have to increase if inflation shoots up. This requires taking risks with your money. But no doubt you remember that during the financial crisis of 2008-09, MSCI World, a market capitalisation weighted equity index, fell 54 per cent peak-to-trough before recovering. That recovery was driven more by unprecedented monetary stimulus than by companies’ profit growth. Also, interest rates in many economies are historically low and central banks’ balance sheets are bloated, meaning there is less dry powder to support asset markets if and when the next recession or crisis hits.

Given your time horizon of four years you need to make an impact assessment of what a major stock market collapse would entail. For instance, the FTSE 100 didn’t retrace the losses from its height at the peak of the dotcom bubble for many years, so the time equity markets could take to bounce back from serious falls is something you should consider.

That said, with no mortgage, a secure income from your Swiss workplace pension, and Swiss and UK state pensions, you may not need to draw from your investment portfolio in a downturn. But how you might manage this situation must play at least as big a role in your planning as your target rate of return. If you are happy with the risks and plan to stay invested, the smoothed-out long-run rate of return from equities gives you a good opportunity to outpace inflation. But it is important that you understand the benefits of diversifying across asset classes to partially mitigate peak-to-trough market drawdown risk.

The level of protection afforded by asset diversification may, however, be less than in the past. This is because low interest rates and quantitative easing (QE) policies for large parts of this decade mean that the prices of bonds and shares have become more positively correlated.

Victoria Rutland, chartered financial planner at EQ Investors, says:

You have saved and invested well, so have a variety of assets from which you and your wife can draw on in retirement. And your options will increase significantly when you move back to the UK. When you return to the UK, you should use all the tax wrappers and tax allowances available to you, such as individual savings accounts (Isas), and the dividend, capital gains tax and personal allowances. Doing this will increase the tax efficiency of your investments.

You are aware of the tax implications of bringing funds into the UK from abroad and have taken advice on this issue. But there is always a risk that tax rules will be changed without any notice. For example, when Qualifying Recognised Overseas Pension Scheme (Qrops) rules changed a few years ago these came into force the next day. So this doesn’t give much manoeuvrability.

But Switzerland and the UK have a bilateral agreement to protect the rights of citizens, which should cover you regardless of the outcome of Brexit negotiations.

Rebecca Williams, client director at Brown Shipley, says:

The perspective of a wealth manager would help you focus on the bigger picture with regard to your plans for retirement. This includes how achievable your income requirements are, and the levels of investment risk required to achieve your goals and with which you are comfortable. This will help you determine the appropriate geographical exposure, diversity and asset classes to create a plan for your future.

A cash flow plan would help by considering all your assets, income and expenditure like a personal balance sheet. It would look at the sustainability of an income of £75,000 a year for 10 years, reducing to £60,000 thereafter. 

Many people underestimate their life expectancy. A man aged 54 today will live on average until age 85 – another 31 years. However, there is also a one in four chance of living until 93 and a one in 10 chance of reaching 98, according to the Office for National Statistics life expectancy calculator.

A cash flow plan would also incorporate your targeted investment return of 4 per cent a year, plus inflation after charges. Assuming inflation of 2 per cent, in line with the Bank of England’s current target, and annual fund management charges of 1.5 per cent, you would need a gross return of 7.5 per cent each year to achieve your net goals.

Your long-term strategy is to have around 50 per cent of your investments in equities, which we’d view as being broadly in line with a balanced or medium attitude to investment risk. However, generating average long-term returns of 7.5 per cent from a balanced approach would be challenging and possibly not achievable. But a cash flow plan could help because the investment returns in the plan are bespoke so can be changed to reflect different scenarios. And by modelling different investment returns you can determine if your income requirements can be met by taking less risk. If you can meet your income needs by taking less risk, why pursue a higher-risk strategy?

But although a useful tool in forward planning, it is important to review cash flow plans regularly, particularly when your personal circumstances change. 

Before you return to the UK you should consult your advisers regarding your legal and tax structures. When you become a UK resident for tax purposes you will be liable to pay UK tax on your worldwide income and capital gains, so it may be beneficial to review and restructure ownership of your assets prior to your return. At this point, you and your wife will both be entitled to an annual Isa allowance, which is currently £20,000. Over time you could use your Isa allowances to reduce the amount of tax that you pay on your investments.

You appear due to receive a significant pension income in your name. So when you return to the UK you should ensure that your wife’s personal income tax allowance and basic rate income tax band are optimised, which may mean adjusting the ownership of your taxable investments.

HOW TO IMPROVE THE PORTFOLIO

James Norrington says:

You have more than 50 holdings and such a large number can be difficult to manage. I favour holding a mix of ETFs and active funds. ETFs help to keep overall costs down – something that eats into your compound returns. And active funds enable you to take advantage of themes or dislocations in the market. This is because of herd behaviour, or capital misallocations that could have occurred because of the post-2009 growth play and the rise of passive investing.

As to whether you are too diversified, your active funds represent quite concentrated thematic strategies and offer tilts away from the cheaper market capitalisation exposure you have via ETFs. Active funds allow you to capitalise on a manager's ability to pick good companies at fair or cheap valuations. 

One of the risks of the current market is that too many investors are piling into the same quality businesses. Having market exposure via an ETF is a cost-effective way to take advantage of the trend, but we may not be too far from the time when greatly expanded valuation multiples will come under sustained pressure. And your active funds are better protection against this risk.

Concentration is also risky, but this isn’t a bad thing – you need to take risk to achieve your objectives. It’s a question of being realistic about the potential impact of a serious downturn and being comfortable with it.

Victoria Rutland says:

You have a high allocation to cash, which will be a drag on performance, although you are in the process of investing it. 

Diversification is often described as ‘the only free lunch in town’, but overdiversifying can add extra layers of costs and dampen returns. I’d suggest looking at the underlying costs of each fund, including the buy/sell costs, and look to reduce the number of funds you hold.

You seem to mainly hold active funds, so consider using passive tracker funds for developed markets such as the US to reduce costs.

Equities are what will enable you to achieve growth in excess of inflation. Only 37 per cent of your investments are in mainstream equities, although you plan to increase this to 50 per cent over time. So consider how you will increase this exposure without significantly increasing risk. You could also opt for investments that provide a healthy dividend stream as opposed to pure capital growth.