Saving money can be a false economy – why the UK hasn’t got it wrong when it comes to investing

Over the last few weeks I have been putting together model portfolios for our clients, without going in to too much detail we spend a lot of time building the portfolios to understand the funds, the volatility etc. We then back test them and eventually when we are happy we then go back to the clients. About 50% of the money we look after for clients is invested in the portfolios, for the others we have more bespoke offerings. 

This made me think, the first thing is something I have been saying for ages. The portfolios are effectively part of the end solution. A lot of what we do is understanding a client’s goals and then delivering on those. The goals are key because only when we know what they are can we look for the solution, and ultimately when investing decide whether a portfolio is right for the client. 

Secondly is cost, when we look at the direct market the key message is that doing it yourself is cheaper, and you can’t argue with this. But let’s say a mixed portfolio of funds, and perhaps some investment trusts costs you 1.5% p.a., it may be worth asking how much it would cost to build advice into the package. Now fees can be a direct percentage or they can be a monetary amount. But assuming it is a percentage I don’t think it is unrealistic to see the charges coming in anything between 1.65% and perhaps on the higher end 2.20%. 

Now this is important because when you consider the cost of advice is only between 0.15% and 0.70% more than going direct you then can start to ask about value. The messages say if you go direct your fund will grow a lot quicker because you are saving money. I am not arguing with that message because it’s true but it also works on the assumption that those people going direct know what they are doing and why they are doing it. I have no proof but I suspect very few people know what they are doing, perhaps less than 20%. 

Many investors rely on the direct operation to steer them towards funds and portfolios, they rely on papers to highlight investment opportunities and actually often these investors have no idea whether the investment is right for them. To give you an example a Saturday paper was recently highlighting investment via a direct operation directly into corporate bonds as a means of getting income. If you understand these then perhaps this is right but if you don’t and you see a return of 8% p.a. without knowing the risk then this is very dangerous (of course there are tax implications as well). This goes further when you see products like structured products being pushed as income products, again they can and in many cases do work but do the people buying them really understand the risk.

My point is this that in the UK when “pushing” the benefits of going direct we focus on saving money, and we steer people towards investments. The problem is that many people don’t know what they are doing and actually end up losing money. When the markets fall they pull out, when markets rise they come back in. The question is whether paying a little more might be worth it in the long run because you have an expert who will look to understand goals and look for solutions. One final point when you buy a house you normally get insurance to protect it, when investing is it not worth paying for that protection? 

Taking this point a step further I may sound as if I don’t like the direct market when actually I do, I have personal experience in this and actually I smile when people say they want to challenge the big player. If someone has the patience and money then their is one very easy way to challenge the big player, and this is education.

Education I believe is key to success. Education is not about promoting funds or investment opportunities. Education is about highlighting the need to understand about goals, about building a financial plan, about understanding attitude to risk and then finally building a plan to deliver this. Without giving this away it is not difficult to do, there are some excellent examples of how to build this and be successful. The point is that unless the direct market act with responsibility, to me they are effectively just sharks picking up vulnerable people with little care for them. If someone takes this seriously, is prepared to build slowly they can change the way people think. 

But direct is not the only problem, UK financial planners / advisers (whatever term you wish to use) need to do the same, using their websites to talk about planning what it means, about risk etc etc. 

And finally we need to understand that many people are financially illiterate and actually cannot even budget or understand the basic concept of saving and unless we tackle this, this is going to be  a massive time bomb. 

So in summary in the UK we have focused financial services about saving money but actually saving money can be a false economy if you have no idea what you are doing (you may think you do). Until someone develops a direct proposition that offers education as part of the package this message will continue leaving many disillusioned investors. We need to wake up, financial education is about making a difference and we need to learn from the success in other countries.

UK families are slowing going bust……

Over a period of twenty years society has changed to a need “now” culture, if we want something we can get it. But this is fuelled in many cases by debt; the recent paper on funded childcare provision, and the way we fund university education just highlights the way we think. All of this is built up on the assumption that one day we will have the money to pay back these debts.

This is a dangerous assumption especially when you consider that the average family is earning just £2,645 p.m. (this takes into account child tax credit and child allowance). This sounds a lot but when you take into account the mortgage, council tax, water rates, gas, electricity, phone, broadband and television licence this quickly drops to around £1,600 p.m.

Of course we have to live and assuming careful budgeting a family of four can survive on around £430 p.m. to cover food and housekeeping. We all have a car and taking into account tax, insurance petrol and general running costs this can cost as much as £175 p.m.

Suddenly the the healthy £1,600 p.m. drops to £995 p.m. If we consider the cost of getting children to school, after school child care, and school activities for two then putting aside £100 p.m. is not unrealistic. With the cost of shoes and clothes perhaps £50 p.m. and of course everyone wants money in their pocket to cover an occasional drink or perhaps a sandwich at lunchtime, cost about £300 p.m.

This leaves us with just £545 p.m. Now of course this still seems a lot but everyone wants a holiday so say the average holiday (whether taken in one go or as a series of mini holidays) is £2,000 that is £160 p.m. Then factor in birthdays and Christmas say another £100 p.m. and now we are down to £285 p.m.

What I forgot to add is that you need to pay for your pension in retirement, and also build up a fund for emergencies. So say you put aside £100 p.m. for emergencies, that leaves you with £185 p.m. to save for retirement.

Assuming a male and female age 35 retiring at 65 with no employer contribution and a full state pension that would give them around £1,387 p.m. (net) in retirement.

What I didn’t factor into this was that the average person in the UK has £7,900 in debt, assuming a rate of 6.1% over 36 months this would cost £240 p.m.

Perhaps now we understand why financial education is so important and any delay by schools and government is going to cripple an already crippled society.

Children are like sponges – let’s not waste time

My tweeting has been quiet of late partly because I have been trying to get the financial education message out there, this has been a challenge but there are some exciting opportunities.

One of the most exciting opportunities is through our charitable trust where we are going to help two charities in Bristol which deal with homeless people and young people from socially deprived areas. One of the areas we will be helping with is in the area of basic financial education which is vital as these people move to independent living.

Today I saw a link to a paper called the Financial Education and the Curriculum which discussed the pending changes to bringing financial education to schools. The proposed changes are due to come in, in 2014 but in reality it could be years. The problem is that we need it now and if 31% of schools don’t see it as a priority then we have a problem.

One thing the report pulled out was that 42% of respondents would welcome volunteers from the financial sector however it appears that although there are plenty of opportunities for schools to take this they are not doing it. This to some extent is my experience of schools. Through our charitable trust we are offering schools free education lessons to children but to date no school has responded or accepted this. When speaking to other charities offering financial education I was warned this would be a challenge.

Over the last few weeks I have spent time at home doing our New Year budget, writing down our financial goals and basically setting targets for this year. Having been out of work twice in three years our finances are not healthy but we have targets and goals. My daughter who is just starting in secondary school sat with me last night and I explained it to her, I was so surprised how quickly she understood the concepts of financial management. She also understood that to start with she might need second hand furniture or go without rather than saddle herself with debt which she might not be able to pay back.

The point is that children are sponges and they soak up information. If we don’t go to them now then we are wasting another generation. Children need to understand about basic financial management, and they need to understand that the “now” culture comes at a cost.

This paper is excellent but my challenge is who is going to speak to these schools and say there are people knocking on your door offering your pupils free financial education classes you must take them up.

If you are involved with Financial Education in the Bristol area it would be good to share experiences and work together.