Align your strategy and aims

“My income more than covers my current annual outgoings,” says Stephen. “But I would like to buy a home worth at least £1.5m, and ideally £2m, and set aside £100,000 for travel. 

"If I buy a property worth £1.5m, this would leave me with about £1.2m, from which a withdrawal of 2 per cent a year would generate £24,000 a year. But I would like an income of £30,000 a year from my investments and to buy a higher-value home.

"I intend to continue mainly investing in equities as I could live for another 30 years and get a buzz when I beat the market. But I'm only prepared for the value of my investments to fall by up to 15 per cent in any given year. Although they are geographically diversified, when there is a market crash they all fall together.

But I want my investments to be more stable and resilient, and would like their yield, which is currently about 1.15 per cent, to be higher. 

"I am thinking of selling my direct shareholdings and reinvesting the proceeds in up to 20 investment trusts. I am also thinking of reducing my largest holding, Tilney Adventurous Portfolio (IE00BYX8KX17), by at least £300,000. I would reinvest the proceeds of the sale in BlackRock World Mining Trust (BRWM), Biotech Growth Trust (BIOG) and Hipgnosis Songs Fund (SONG). 

"I favour active funds because if you pick the right ones you make greater returns than with passive trackers, even though their charges are higher.

"I also wondered if I should get some exposure to bonds and, if so, which type?"

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

THE BIG PICTURE

Chris Dillow, Investors Chronicle's economist, says:

You want more stability and resilience in your portfolio, but have a desire to 'get a buzz' from outperforming. More stable returns mean, by definition, that you will usually underperform equities in good times and only outperform them in bad times. But quite how much of a buzz any of us get from losing less money than other people is dubious.

Forget conventional wisdom. There’s nothing wise about holding bonds. And your pensions are like a large allocation to bonds insofar as they pay a steady annual income. So do you really need more?

Here, the main distinction is between developed market government bonds and higher-yielding bonds. The former protect us against some of the risks to equities, such as the fear of recession or a fall in investors’ appetite for risk. In such circumstances, government bonds would do well, offsetting losses on equities. But this insurance comes at a high price: these types of bonds have a negative real yield, which means they will lose money in normal times.

Although higher-yielding bonds don’t have this disadvantage they do not offer such good insurance. If investors fear recession they will avoid credit risk, meaning such bonds will fall in price.

But there are other ways to mitigate equity losses. One possibility is physical gold, which you can get exposure to via exchange traded commodities (ETC). Gold often holds up well when equities are falling. And because it is priced in US dollars, it does well in sterling terms as the pound tends to fall when global investors lose their appetite for risk.

However, the gold price moves inversely with bond yields. For example, if bond yields rise because the world economy recovers more than expected, gold’s price would drop. But equities would probably do well in such conditions, offsetting these losses.

Cash may be boring and pay no return, but potential losses on it are limited to the real interest rate. So with cash there is much less downside than with equities, bonds or gold.

Because we live in an age of low returns on safe assets there are disadvantages to all the ways to diversify equity risk. But there’s little we can do about this.

Dennis Hall, chief executive officer of Yellowtail Financial Planning, says:

Your strategy and reasons for investing are to get the 'buzz’ of beating the market and to put money into areas such as healthcare and biotechnology. But they are not fully aligned with your wish for greater stability, resilience, diversification and a reduction in risk. As investor and philanthropist George Soros pointed out, if investing is entertaining and fun, you’re probably not making any money. Good investing is boring. At this stage of life, you should simplify your investments. The ability to make up any permanent losses through poor investment choices is probably gone, so do not invest for thrills.

Retaining a mostly equity-based portfolio during retirement is sensible and borne out by academic studies into long-term sustainable withdrawal rates. But you also need a cash buffer to draw from in times of market falls, so that you do not eat into your investments [when their value is lower] and stifle recovery.

I would not worry about increasing the dividend yield. A total return strategy to provide you with enough money to live on involves taking profits when they arise. And, if the investments are held outside tax-efficient wrappers, offsetting any tax liabilities against your annual capital gains tax (CGT) allowance. For example, growth stocks such as Microsoft (US:MSFT) and Amazon (US:AMZN) have made some of the strongest returns since the coronavirus outbreak began, but these pay low or no dividends.

You would be prepared for the value of your investments to fall by up to 15 per cent in any given year, but I have always thought that volatility is a blunt tool for measuring risk. Although calendar year market returns are mostly positive, intra-year falls of 10 to 15 per cent are quite frequent, and 20 to 30 per cent intra-year falls are not unusual. US investor Warren Buffett says: “Unless you can watch your stock holding decline by 50 per cent without becoming panic stricken, you should not be in the stock market.”

David Liddell, chief executive of IpsoFacto Investor, says:

You have two main objectives: growing your capital so you can buy a more expensive home and receive an annual income from your investments of at least £30,000 a year; and increasing the stability and resilience of your investments. You also want £100,000 to spend on travelling.

How long is it until you will buy the new home and, as you only hold Tilney Adventurous Portfolio and Personal Assets Trust (PNL) within your Isa, what is the CGT position of the rest of your investments? Also, will you sell your existing home to part-finance the new one? This would make sense from a CGT perspective, as sales of main residences are exempt from this. And it would mean that you draw less from your Isa, retaining more investments that provide a tax-free income.

Although markets have recovered from the lows of mid-March, there remains a great deal of uncertainty about the long-term economic impact of Covid-19. And even if this wasn't the case, if you are looking to buy a property within the next two years I would suggest starting to raise the cash for that now. This is because if you invest in equities you should have a time horizon of at least five years.

Another reason to realise investments now is that the Office of Tax Simplification is conducting a review of CGT, which is unlikely to be favourable to investors given the government’s need for cash. 

Your ability to raise sufficient cash without triggering a capital gain may be constrained. In the current tax year, any gains on investments held outside tax-efficient wrappers above the £12,300 exemption may be liable to tax. You are a higher-rate taxpayer, so would have to pay CGT of 20 per cent on any gains your unwrapped investments make above the annual exemption.

So it probably makes sense to raise money in the following order: firstly by selling your current home, secondly from investments that can be sold without triggering a capital gain above the annual exemption, thirdly from investments held within your Isa, and finally from other investments. If you can spread the sales of investments held outside your Isa over at least two tax years that would probably help, because as well as raising £2m for a new home you also want to set aside £100,000 for travel. 

I assume that your dividend income of £26,834 does not include any income from your Isa holdings or some of your more recent acquisitions. On this basis, I calculate that the total income from your investments, excluding cash, at the end of June should be around £47,000 or a yield of 1.6 per cent. The difficulty with making further adjustments to your investments is that this may trigger additional capital gains.

If you sell your current primary residence and sell some of your investments, keeping what remains in the same proportions as at present, to raise £2m, they would generate dividend income of about £19,000 a year. But if you just look to raise £1.5m in this way your investments, in their current proportions, would pay dividend income of about £27,000 a year.

If you buy a home worth £2m and retain your buy-to-let, property would represent around two-thirds of your total net worth at current values.

Also consult a lawyer with regard to any inheritance issues.                   

HOW TO IMPROVE THE PORTFOLIO

Chris Dillow says:

Your equity portfolio is nicely diversified, but geographical diversification is no help during a market crash. But that’s not the point of this. Rather, there is a high likelihood that long-run returns across national markets will deviate from each other a lot. So although US equities have outperformed hugely in recent years we’ve no assurance that this will remain the case. International diversification protects us from the danger that one particular market will do badly over the long term.

You are also wise to have exposure to unquoted companies via Pantheon International (PIN). It’s possible that disproportionate amounts of future growth will come from companies that are not yet listed. Private equity gives us exposure to this.

You have a lack of exposure to defensive equities and will have even less if you sell your holdings in tobacco stocks. Although defensive equities don’t fully protect us from market downturns, such stocks might outperform over the longer run. So consider investing in one of the several funds that invest in these.

Dennis Hall says:

Selling direct shareholdings and reinvesting in funds seems sensible in your case. But I am less convinced by your argument for active rather than passive funds.

It is true that if you pick the right active fund it will achieve greater returns than a tracker [investing in the same area].  But unless you have a proven edge in identifying superior active managers, seriously consider passive index-tracking funds and removing another layer of speculation from at least part of your portfolio. 

Only some of the active funds you hold appear to have beaten a comparable tracker over the long term, notable examples being BaillIe Gifford Japan Trust (BGFD), Baillie Gifford Shin Nippon (BGS) and, in the private equity space, Pantheon International (PIN). But, in my opinion, Personal Assets Trust has underperformed its comparable index.

I am not convinced by your plan to sell the multi-asset fund you hold, Tilney Adventurous Portfolio, and reinvest the proceeds in BlackRock World Mining Trust, Biotech Growth Trust and Hipgnosis Songs Fund. That is not de-risking the portfolio.

Instead, buy a global equities tracker fund and a global bond tracker fund. This is a simple way of diversifying and derisking, because some bond exposure would help to diversify your portfolio. As you have limited knowledge of bonds I wouldn't invest in an active bond fund with a specific strategy, but rather Vanguard Global Bond Index Fund (IE00B2RHVP93). 

David Liddell says:

I wouldn't necessarily argue with your proposed investment changes, in particular selling the direct shareholdings, although this would reduce the portfolio's overall yield.

CGT issues aside, if you want your investments to be more stable consider some strategic bond funds. Their managers invest in a mixture of what they consider to be the most suitable bonds for the investment climate at the time. Options include Jupiter Strategic Bond (GB00BN8T5596) and Fidelity Strategic Bond (GB00B469J896), which should enhance your portfolio's yield.

Also consider a targeted total return fund such as Invesco Global Targeted Income (GB00BZB27K80). Reducing your exposure to smaller companies should also reduce volatility. 

To boost your income further with equity income, and possibly as a replacement for the direct shareholdings you are going to sell, consider JPMorgan European Investment Trust - Income (JETI), North American Income Trust (NAIT) and Edinburgh Investment Trust (EDIN). At time of writing they are trading at attractive discounts to net asset value and, although they might have to cut their dividends, they should still be able to provide relatively attractive yields.

Getting a ‘buzz’ from investing is not fully reconcilable with a more robust portfolio, although you could slightly increase your exposure to emerging and frontier markets. 

Tilney Adventurous Portfolio has quite a high proportion of its assets in equities, so doesn't provide much diversification from your other holdings.