Getting Minted

The news is full of Brexit news this week with various parliamentary votes happening. There is much concern about whether we leave or postpone or remain, and whether we have a deal or not. I don’t want to get into all that but I do want to consider the investment situation. There are many global issues of concern but Brexit is more particular to Britain and seems to be depressing UK share prices.

According to a Citywire commentator “the UK stock market, which has relatively little connection with the domestic economy is cheap, dirt cheap, trading at a 30 per cent discount to global stock markets and yielding comparatively more than government bonds than at any time in the past 100 years.” According to Investors Chronicle magazine this week the FTSE All Share index has an average dividend yield of 4.27% which is higher than most other markets excepting Australia and Russia.

My way of considering value for money in investment is to look at the dividend yield of investment trusts I would consider owning (or do own). As of yesterday, City of London (CTY) and Edinburgh Investment (EDIN), the two largest investment trusts in the UK equity income sector were yielding 4.4% and 4.3%. By comparison in the global equity income sector Scottish American (SCAM), Henderson International Income (HINT), and Securities Trust of Scotland (STS) were yielding 3.1%, 3.5% and 3.6%. (Murray International (MYI) yields 4.4% but has more of a bias to Asia Pacific, Latin American and emerging market equities.)

My thinking is that the UK is cheaper than global equities from this brief sample with an average 4.35% yield versus an average 3.40% yield. £1 of income is 22% cheaper on these figures. Also, many of the UK registered companies held by these trusts will have global interests and these trusts also hold a small percentage of their assets in non-UK shares.

Looking at the recent history of City of London and Edinburgh Investment from their annual accounts they have only had significantly higher yields at year-end, i.e. above 5%, in June 2009 and June 2010 (CTY), and in March 2009, March 2010, and March 2011 (EDIN), in the aftermath of the financial crisis of late 2008. Those who bought CTY and EDIN ten years ago have enjoyed, I estimate, around 12% to 13% per annum compound growth.

On a simple analysis, I regard any opportunity to buy City of London (CTY) on a yield above 4% should be considered. Given its’ over fifty-year record of yearly dividend increases it suggests you can maybe lock in a safe withdrawal rate of 4% from these dividends.

In conclusion if one can ignore the political and macro-economic background these shares do look cheap to me and are worth considering for purchase. You may think they will get cheaper still, but as ever do your own research.

New (and old) investors are often advised to buy equity index tracker funds rather than actively managed equity funds. A tracker fund will hold shares in order to closely replicate the index it is aiming to track. This avoids any good or bad choices of which shares to hold. It is claimed that trackers beat most actively managed funds because they eliminate the risk of bad choices, but they also charge less in fees.

I have held tracker funds in the past for these reasons but now prefer to hold actively managed funds. If you are new to investing and have limited funds then a tracker is probably a good option for you. It reduces your choice of fund and means you can be very diversified with only one fund. I began investing in equities in 1986 using actively managed unit trusts. In about 1988 the first index tracker funds were launched in the UK and I bought some. I sold my last tracker fund in 2009.

I prefer to hold actively managed investment trusts. I do, however, regularly compare their performance to the index and to the available tracker funds. For the ten years to 31 January 2019 the FTSE All Share Index total return was £264 from a £100 investment. On a quick look I found eight UK All Share tracker funds with ten-year results and these ranged from £221 to £262 and the average was £249. Looking at investment trusts in the UK All Company and UK Equity Income sectors there were thirty-six trusts with ten-year results and these ranged from £192 to £620 and the average was £320. Twelve of the trusts had results lower than £264, but only seven had results below £249.

I currently hold six UK trusts from these sectors that I have held for over ten years. Their performances ranged from £251 to £562 and the average was £334. So, on a ten year view my active funds have mostly bettered the index and the available trackers.

I have chosen to measure against the FTSE All Share Index. Arguably one should measure against a global index and one should use global trackers to diversify across the world. On a quick look I found five global equity tracker funds with ten-year results and these ranged from £290 to £322 and the average was £311. Looking at investment trusts in the global and global equity income sectors there were twenty-four trusts with ten-year results and these ranged from £258 to £1,096 and the average was £425. Six trusts had results of £311 or lower.

I currently hold two global trusts from these sectors that I have held for over ten years and the average performance was £351. The arithmetic average of the eight trusts I have held for over ten years is £338. This bears comparison to the global trackers. I am therefore encouraged in continuing to follow my own individual approach. I still think trackers could be useful for new investors, for investors unable to diversify across several managed funds, and for those unwilling to risk picking the wrong managed funds. I’m prepared to take that risk in my own individual way.

Shares magazine this week has a cover feature on how your ISA can pay you £10,000 a year tax free. It’s worth a read if you are a subscriber.

Spending

It suggests that £10,000 would cover “essential spending” if you are retired and have no mortgage or rent to pay. So I thought I would test that against our essential spending, as defined by me, for 2018. On a first look we’re spending significantly more. If, however, I re-state petrol, public transport, life cover, TV licence, Dentist, Mobile phone, and landline calls as “luxury” spending then we are only 16.71% overspent.

We’re overspent on every category except “other”, but this is to be expected perhaps with a family of four. This exercise does show, however, the importance of knowing exactly how much you are spending in total and by category, and whether you consider it essential or luxury.

Income

The article further suggests that you would need to be looking to have a 5% income yield on your ISA investments. They then suggest five investments yielding between 4.8% and 8%, giving an average of 6.3%. I would suggest that as an investor you would not equally weight these five investments but should overweight the mainstream funds and underweight the higher yield shares and funds thus reducing the yield to 5.7%.

I compared that yield to that of my ISA as at 31 January which is 5.4%. So I think the yield suggested is reasonable so long as you are prepared to look for yields higher than the FTSE100 index.

My holdings are all funds but they include international equities, property and bonds none of which are represented in their recommendations. Only 36% of my ISA holdings are UK equities comparable to those recommended. Also, mine are all in funds (investment trusts), with no individual company shares being held, so they are more diversified.

Capital

The article suggests that capital of £200,000 is required in order to produce £10,000 of income from a 5% income yield. They suggest saving £10,000 each year in an ISA for fifteen years, and assume 4% real growth (after inflation) in order to end up with over £200,000. As the recommendations could produce a 5.7% yield this actually reduces the requirement to £176,000 and the time taken to fourteen years.

Looking at actual FTSE All Share total returns for the last fifteen years shows compound growth of 7.18% each year. The Retail Price Index (RPI, other indices are available) shows compound growth of 3.00% each year over the same time period. This suggests 4.18% per year real return just slightly ahead of the assumption and not enough to reduce the time by another year.

This compares with actual returns for my portfolio of 8.71% each year, or 5.71% after inflation over the fifteen years to 31 December 2018. These returns and assuming an income yield of 5.4%, and an income requirement of £11,671 suggest a target of £217,000, and that it would also take fourteen years.

Conclusion

I find it useful to review published ideas against my own thinking and my own historical experience. In this case saving and investing over fourteen years could produce the required outcome based on recent returns and current portfolio yields in both cases.

Being able to save and invest £10,000 each year for fourteen years would be more of a challenge – but that is for another day.