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Financial Planning: The Process to Provide Peace of Mind
Financial planning is a life journey. These days many grandparents start investing for grandchildren from birth, so financial planning from the cradle to the grave has become a reality of life.
Most people start to buy or join Pension Products when they commence work. (Auto-enrolment has increased pension commencement at an early age. It is important that young people new to work start to lay the foundations of security, such as protecting one’s income in the event of illness or injury, protection of loved ones from debt and providing financial security in the form of income and/or capital in the event of the loss of the family breadwinner. This applies to the sufferance of a serious critical illness also. (It is essential that consumers understand critical illness definitions of coverage, as medical improvements have generally created specific rather than general critical illness definitions).
The life journey progresses to accumulating capital assets over the medium to long-term, where workers in their 20’s save to buy a home, often start a family and are under pressure financially, treading the work-life balance tightrope. (Without insurance protection, young families are often facing serious financial hardship if the breadwinner dies or becomes ill). Children can often be left vulnerable without family financial protection. (Children in Need this week highlights the vulnerability of children when a parent dies).
- Short term savings are needed for immediate contingency such as repairs to a home or unexpected required expenditure. This should normally consist of 6-12 months regular expenditure as a guide.
- Medium-term investing – with surplus income should focus on 5 years plus savings in tax-free growth products such as ISA’s and other tax efficient savings products.
- Long-term investing – should focus on the time when the medium-term strategy ends, i.e. 5-7 years, through to providing income in retirement. Longer term savings are often for school or university fees or moving toward providing income in retirement.
- The accumulation phase is the gathering phase, the term ‘decumulation’ – which is often used in relation to taking money from a pension, is the phrase used when ‘income’ is required from the capital gathered over time.
Financial Planning at its best joins up the protection and savings gap and provides a solution in the form of products to protect an individual, family or business against the risks of life to provide financial security. The risk in relation to the investment needs of an investor should focus on the time horizons for the investment, the risk capacity of the investor to withstand loss, along with the goals and the returns the investor requires along with the personal comfort an investor has to take risk – which is termed as ‘risk tolerance’. The combination of this discussion would enable an adviser to construct a suitable investment solution to meet one’s needs.
Employing an IFA who searches in an independent, unbiased way for suitable solutions is always the best – Gold standard – in my view but I would say this as I am an Independent Financial Adviser.Using ‘best of breed’ investment fund solutions are essential to gathering benchmark-beating results over the long term, although it is imperative that regular rebalancing and asset allocation reviews are carried out (generally annually).
Do It Yourself – Non-Advised Product Solutions
We have experienced an increase in demand for consumers to ‘Do it yourself’ with the selection of ‘simple’ to understand products (if there is such a term), such as Life Insurance, Home Emergency, Landlords Home Emergency and Motor Legal Expenses cover from a website, which is why we continue to develop the Best Price FS business – ‘cutting costs not cover’.
(I have personally recently seen the value of a quality Home Emergency product with a water leak our family has suffered). At the time of an emergency, the product provided a quick fix to the matter. The value of this type of product is substantial when the coverage is understood against the cost.
I make no apologies for pointing out the value of the products against the risks covered – you can find the details on our webpage to see if the product would fit your needs.
As a plug, we have now launched our Landlords Home Emergency product – take a look if you are a Landlord. Find out more about Landlord Home Emergency here.
We at Best Price FS have also focused on developing contract based investment solutions – Structured Products and Structured Deposits to our website where we offer a number of products on a non-advised basis – where the consumer of the product has no regulatory protection in the event of an unsuitable outcome. (This is the position with all non-advised purchases – sometimes called execution-only sales).
There are, however, a number of products that can only be purchased (in the Structured Product space) where advice is received; for this the advice cost is greater due to the regulatory process that must be followed, which is to gather an understanding of the investor/consumer’s personal circumstances, including risk profile, prior to providing advice in respect of the suitability of a product solution to meet one’s needs. Nevertheless, our cost for advice compares with other websites’ offerings with NO ADVICE!
We will continue to offer insurance and investment solutions for consumers to purchase without advice – where possible at low cost but also to ensure that access to products requiring advice and providing ‘best advice’ for existing and new customers.
We live in a world of complex regulation that adds to product advice costs for consumers. This is a point that should be explained in a transparent way to consumers – I would like the regulator, the Financial Conduct Authority (FCA) to provide consumers with a general cost table so that consumers can understand and decide for themselves if the benefit of ‘advice’ and how outcomes may be improved if advice and the protection it provides via regulation is best for the consumer.
We are all asking questions about good governance at present but financial governance requirements are very robust, in some ways it’s impossible to turn a page without reading about new developments with regulation, mostly good but sometimes less so and ill thought out based upon unintended consequences.
The Goldilocks economy that we have experienced is likely to be in transition where tightening across many central banks is likely to limit, or potentially reduce, growth next year. The benefit is that Central Banks have moved slowly requiring ‘data dependency’ to justify a change of economic policy.
If the Central Bankers are correct the economic environment will handle the QE transition and increase with interest rates, albeit rates are likely to remain low for some time to come.
The increase in interest rates should be seen as a ‘Good news story’ as stated by Bank of England Governor, Mark Carney.
Investors may need to reduce their expectations for growth. According to the Schroders’ report, UK and Europe are expecting high single-digit returns to double-digit returns over the next 10 years. I would suggest that this anchor to returns is too high based upon what the best economists and investment managers are suggesting, looking forward to the next 10 years.
Time on an investors’ side 25-55 years
Clearly, younger investors who are focused on long-term investing can ride the wave of risk (volatility) for the long term but investors who are moving to require income must be mindful of volatility when income is required from their investments. This is often called decumulation of assets.
Pound cost ravaging becomes a concern – encashing units when unit prices are falling.
We are in the throes of reviewing and contacting our decumulation clients to discuss the strategic positioning of risk models and to see if a repositioning is required based upon personal circumstances, risk views, and views of the investment markets moving forward.
Investment markets have delivered strong results since the worst point of financial crisis, although valuations of asset prices are now seen to be expensive by a number of commentators, so we must consider the possibility of a ‘sell-off’ or correction.
This leads me to loss aversion. We all hate losing money. Research indicates that fear of loss is greater than the benefit of making money.
The second fear is ‘present bias’ (temporal myopia) – this is the focus on the short term rather than the longer term. As human beings, we are naturally focused on the short term (survival instinct). It’s in our DNA.
Investment market challenges will no doubt raise concerns again (we have had a lack of ‘events’ for too long at this point) so concerns over investment returns and sequencing risk are worries I have for investors in an expected ‘lower for longer’ marketplace. The trigger that changes sentiment or creates a swift market pullback has yet to show its head, but it rarely or never does until a correction happens – whereon often ‘Historians’ of economics talk of predictions and expectations.
Those who have been out of the market or mainly defensively positioned for the last 2/3 years have suffered against strong global growth, so a balanced view, holding assets to meet with specific time horizons and personal goals is always best.
I recently read an article (10/11/17) in the Financial Adviser that highlights the challenges a number of platforms are facing with decumulation functionality, when selecting a solution, it is always imperative to look at the functionality needed in relation to a client’s profile and investment needs. The cost of a platform is often in the financial news, where the regulator is pressing the issue of platform due diligence and suitability to a user’s needs. There is also downward pressure on the cost of platforms, highlighting that there are platforms with basic functionality and others with an improved level of functions and reporting tools.
The financial regulator (FCA) states that they are not a ‘pricing regulator’ – so it is important the correct tool for the job is selected.
In my view, as with most things in life, you get what you pay for so, if a customer sees the benefit in quality reporting, analysis, and decumulation functionality, along with value, the price point of a platform is likely to be higher than the lesser equipped platforms.
Products, Returns, and Potential solutions.
In our environment of lower returns, it will be my job (as an adviser) and other advisers’ focus to look at the value chain across the product and advice process.
Investors are in need of ‘real returns – 5%, which has been their historic anchor, could be tested in weaker global economy. We are looking at using Structured Products to break the link between markets and investment performance for our clients, where appropriate, as the investment is effectively a ‘contract’ so the strength of the contract is the major focus.
Income Drawdown or Income Taken from Invested Capital
Clearly investors requiring income from their capital (in decumulation) should consider the risk they take and review their portfolio construction (now) and regularly.
Investors in the accumulation phase of their lives can afford to suffer volatility to a greater extent as they have time on their hands for recovery and are not selling units as unit prices fall in a falling market.
Sequencing risk, meaning any large early reductions in capital have a substantial impact on the long-term potential to take both capital and income from the portfolio and sustain the values over the lifetime of the investor. If an investor makes an investment that falls in value early following the start of the plan and the investor requires income, the strategy will be hurt and will likely ‘struggle’ to recover its original value, if the falls are heavy.
The Investment Bucket Approach
The process of constructing a bucket approach is gather momentum, as the selling of units in ‘cash like funds’ consisting of Deposit based holdings or short-term bonds would not suffer the reverse of ‘pound cost averaging’ – considered to be ‘pound cost ravaging’, due to the nature of the asset sector.
The short term ‘bucket’ would provide the income for the next 12-24 months, which would need ‘topping up’ over investment market cycles.
The second bucket would provide for the medium-term time horizon – such as 3-7 years. These investments could afford to suffer some volatility and would aim to benefit from income distribution, such as the Quality end of the corporate bond sector, along with selected property and equity exposure.
The third bucket would be aimed at long-term growth that would aim to replenish the first/second bucket over time. Investors retiring in their 60’s may live for 20 years plus, requiring income, so it would be important to benefit from longer term capital growth so the construction of this ‘Bucket’ would be equity heavy, although effectively ‘locked away without access’ for a period of 7 years plus, with a growth focus.
Of course, it would be essential to review the performance of the assets over time. As with all reviews, this could and should be carried out at regular intervals, i.e. annually or should a change in circumstances prevail.
We are in the process of reviewing ‘decumulation portfolios’ for our clients at present. If you would like your arrangements reviewed simply get in touch.
We will explain the current views in relation to the markets, review your needs and risk profile and consider with you the potential investment solution to meet your income and growth needs, producing a suitable portfolio solution to meet your needs and risk views.
As always, if you have any questions in relation to financial matters contact us, we are always happy to help.