Professional Adviser – Seeking out income
As I relaxed back in the armchair with my cup of tea, my mother-in-law put down her book and fixed me with a beady eye. “Where can I get some income from nowadays”. I knew that my standard line – sorry, I cannot give financial advice - would not work in this situation. I took a long gulp, and got to work. Only a few questions were needed: the result of some share sales and dividend payments meant that they had a tidy sum sitting in a high street bank account gaining a full 0.25% interest rate a year – and quite possibly she was paying tax on that as well as the words R85 meant nothing to her at all.
First things first, I advised, what do you need the money for, are there any deadlines? No, it seemed that my father in law wanted enough set aside for any unexpected visits to hospital, or more likely emergency repairs on the old MG sitting in the garage. Apart from that income was the order of the day.
The question of risk was a more difficult want to address – on the one hand they wanted a considerable amount of security for their hard earned cash, on the other hand – by the time we had finished off the second piece of cake – she did accept that risk and reward went hand in hand. There was every reason to look for more income to support their life style, but there were very few investments which could give a good return with little risk at all. “What about National Savings?” she asked, and I had to explain that the government, in its wisdom, had just decided to withdraw all of the attractive opportunities for retail investors.
“Let’s start with ISAs, of course”, I advised. After all, they are safe, they are tax free and by shopping around there are some decent returns. That looked a good place to park their need for immediate cash. We moved onto the thorny question of ‘bonds’. The very name should be outlawed, I decided, after several minutes trying to explain the difference between a National Savings bond, a long term bank deposit, an insurance company’s investment bond, a corporate bond and government debt.
We agreed that at least two of these merited some further attention. Albert Einstein’s supposed quote that compound interest is the eighth wonder of the world worked on mother-in-law. Pulling out the Ipad, it was the work of a few moments to impress her with some interesting figures. If she was willing to park the money for two, three, four even five years, then there was every possibility that she could get 2, 3, even 4% on her funds. She reached for the bottle of sherry – clearly life was looking better.
“Corporate bonds”? she asked. I explained the concept; if she was keen she could choose the company herself through the LSE’s Order Book for Retail Bonds and buy and sell through her friendly stockbroker. On balance, we decided that playing golf took priority over choosing between the Tesco's and RBS 2019 offering. Much better to delegate. “You must be able to recommend someone good at your firm” she suggested. Of course, I told her, we have a good team, but you still need to choose the level of risk, so “Do you think there will be a recession in the coming year, or do you think it will be slow growth?”. “That’s your job” she retorted! “Yes, and the House View does say that we can just about avoid having one, unless there is another major shock”. I explained that for someone willing to take on board some risk, and the possibility of losing some capital, then higher yielding funds would give a good option. However, if she was nervous then she should opt for a fund which had more investment grade, I corrected myself quickly, blue chip companies and governments – a lower return but safer in the long run.
“Why haven’t you talked about equities? I thought that’s what you and your friends did all the time, wheeling and dealing?” Of course we do, I explained, and you could get a good return from an equity income fund, firms that pay out above average dividends. After all, the yield on the UK market was close to 4%, not bad in relation to inflation. Indeed I could get an even better yield for her if we bought a property fund. Yes, the stock market had recently fallen 20%, and yes there was a lot of risk that it would fall another 20% if a recession appeared. The question of risk and reward came back into the conversation and moved away again.
“So what do you suggest?”, asked the mother-in-law, as she rose to her feet and began to clear the tray. “I know it is the received wisdom” I answered, “but diversify. There is not much that we can be sure of in this world – death, taxes and the Bank of England will keep rates on for years to come. If you want more income, you need to put some money away from 2-5 years, you will have to accept some risk by buying equities and property and corporate bonds. The good news is that we can get your income up to 3-4% a year. Just a bit of paper work to sort out” “Not bad” she said,” but not great – it’s still sausages for dinner!”.
Andrew Milligan, Head of Global Strategy, Standard Life Investments
First Published in Professional Adviser on 06th October 2011