By Annabel Brodie-Smith
With interest rates remaining at rock bottom and inflation reaching 1.8% last month (the fourth consecutive month inflation has risen), investors face a bleak prospect when it comes to what their income from their investments will buy them now and in the future.
Bearing this in mind, we’ve looked into what would have happened to a £100,000 portfolio invested in the average UK Equity Income investment company over the past 20 years. Did you know that this would have generated an annual dividend growth of 4.5%? This is an inflation busting 2% ahead of inflation over the period. Having enjoyed this income, investors would have still more than doubled the capital value of their portfolio over this period too, up 127%, although it will have been a bumpy ride along the way. You can read more about this on the next page.
Despite recent strong markets, the AIC’s research showed that investor confidence is unmoved from where it was a year ago, when markets were much more volatile, with only 25% of investors planning to increase their stock market exposure (see page four).
Brexit concerns, the Trump presidency and worry over a market crash are clearly hanging heavy in many investors’ minds. Of course investors, as ever, need to take a long-term perspective of their investments and, as the end of the tax year approaches, David Prosser brings this message home in his “Who wants to be an ISA millionaire?” article.
Finally, we are taking a look at the investment companies which invest in the peer-to-peer (P2P) loan market. Traditionally individuals or businesses would save their money in a bank and the bank would lend that money to other individuals or businesses. Peer-to-peer lending removes the bank from this process and a number of investment companies are now investing in this market. Find out more about these companies which have had a year of mixed fortunes and hear the manager views on prospects for the peer-to-peer sector.
Have a great month – let’s hope spring arrives soon!
Annabel Brodie-Smith, Communications Director, AIC
Investment company inflation busters
Investment company inflation busters
UK Equity Income sector dividend outstrips inflation by 2% a year over 20 years and capital value more than doubles
After a sustained period of rock bottom interest rates, investors have long been hungry for yield, meaning that income portfolios have work to do.
Research from the Association of Investment Companies (AIC) into the performance of the UK Equity Income sector makes interesting reading for those concerned about the impact of inflation on their income in retirement, as well as those wanting to build up a capital sum to pass on.
"Over twenty years investors would have received £119,872 of income from this portfolio...the capital value of the investment would have grown to £226,907"
Data from the AIC using Morningstar shows that £100,000 invested into the average UK Equity Income investment company on 31 December 1996 would have generated an initial annual income of £3,700 by 31 December 1997, which would have grown to an annual income of £8,516 in the year to 31 December 2016. Annual dividend growth was 4.5%, some 2% ahead of inflation (annualised RPI inflation over the period is 2.78%).
Over twenty years investors would have received £119,872 of income from this portfolio. Meanwhile, in addition to the income generated, the capital value of the investment would have grown to £226,907 – an increase of 127% - more than doubling.
£100,000 invested in average UK Equity Income investment company sector at 31 December 1996
Source: AIC using Morningstar
Annabel Brodie-Smith, Communications Director, Association of Investment Companies (AIC) said: “The investment company sector’s income track record is one of its crowning glories, boosted by some key structural advantages, most notably the freedom to squirrel away some of the income received each year for tougher times.
“Dividends can be a crucial source of income for investors, and could well become all the more so in the context of rising living costs. For those who are prepared to accept the risks, these figures make a compelling case for investment companies to be considered as part of a long-term income portfolio.”
Visit the AIC guide to income to learn more about the income advantages investment companies have over other funds
Investor confidence research
Brexit and Trump presidency top investor concerns, but low interest rates continue to drive investors to stock market
Whilst the FTSE 100 had a flying start to the year, hitting several record highs, it seems that active investors do not necessarily share this exuberance, according to research published by The Association of Investment Companies (AIC).
The number of investors saying they will not use any of their ISA allowance has increased significantly over the course of just a year, from 21% in 2016 to 38% this year - almost doubling.
Annabel Brodie-Smith, Communications Director, Association of Investment Companies (AIC) said: “After such a strong start for markets this year, it’s surprising investor confidence is unmoved from where it was a year ago, when markets were much more volatile. But with Brexit concerns, the Trump presidency and worry over a market crash hanging heavy in many investors’ minds, it is perhaps easy to see why investors remain cautious.
“However, none of us can predict the markets’ next move and who would have thought, at the start of 2016, that markets would have had such a strong year? Investors need to take a long-term perspective and hold a diversified portfolio. Despite the tough market conditions during the financial crisis, the average investment company is up 107% over ten years. Cautious investors may like to consider regular investing, which can smooth out some of the highs and lows of the stock market, whilst not missing out on long-term gains along the way.”
Investors holding tight
The number of active investors planning to increase their stock market exposure over the next six months is the same as it was a year ago (25%), when markets were having a significantly more torrid time. This compares to a high of 49% two years ago, with investor confidence in the stock market halving since then.
Instead, investors continue to remain cautious, with 71% planning to ‘hold’ rather than buy stock market investments, although the number of active sellers has significantly decreased and is half (4%) in comparison to last year (8%).
Low interest rates
Of the quarter of investors who were planning to increase their stock market investments, it was the low rates of interest on cash deposits which was by far the greatest motivator (30%) as investors seek alternatives, followed by general optimism (12%), and the fact that they have more money available now (11%).
Brexit and Trump jitters
The most commonly cited financial worry amongst investors was that uncertainty over Brexit negotiations may slow economic growth (18%), followed by a possible stock market crash (13%) and the Trump presidency (12%). These were followed by concerns about poor returns on cash deposits (9%) and rising inflation (8%).
UK still in favour
Despite concerns about the impact protracted Brexit negotiations might have on the UK economy, the UK was still by far the favoured region amongst active investors (21%), which was slightly down on recent years (26% in 2015, 24% in 2014). This was followed by Emerging Markets (9%), China (7%), North America (6%) and Asia Pacific excluding China and Japan (6%).
For the first time, Technology was the most favoured sector amongst active investors, with 15% of investors backing the sector. In second place, in keeping with last year, was pharmaceuticals (9%). In third place was smaller companies (7%), which was last year’s top sector (22% in 2016).
ISAs – cash is king, but equities still popular
Some 25% of investors this year say they are only planning to use the cash element of their ISA allowance, and this was level pegging with a year ago, with cash remaining king for nervous investors. That said, some 18% of investors plan to use only the stocks and shares element of their ISA, down on 30% last year, whilst 17% will use both cash and stocks and shares, similar to 19% last year.
2017 investor confidence research conducted by Opinium Research for the AIC between 25 January - 1 February 2017 amongst 1,004 investors in the stock market
Who wants to be an ISA millionaire?
By David Prosser
"Analysis from Fidelity Investments suggests that starting from scratch today, you could be an ISA millionaire in less than three decades"
– David Prosser
Here’s a thought to cheer you up this miserable winter: in only a few years’ time, you could be a millionaire, just from making good use of the annual tax-free savings allowance that the Government offers everyone to encourage them to save more. Indeed, several hundred people have already built up individual savings accounts (ISAs) worth more than £1m according to research published by the Daily Telegraph last year.
So how long will it take? Well, analysis from Fidelity Investments suggests that starting from scratch today, you could be an ISA millionaire in less than three decades, even based on some relatively conservative assumptions. Its forecast assumes you invest the maximum amount possible within your ISA each year and that the allowance increases by 2 per cent annually; you’ll then need to earn an average annual return of 5 per cent, assuming annual charges of around 1 per cent. Using this model, it would take 27 years and 10 months to go from zero to £1m, Fidelity says.
Short cuts to the £1m mark
The good news is that you may not need to wait anywhere near that long to hit the £1m target. For one thing, this year the ISA allowance will rise by substantially more than 2 per cent. On 6 April, it rises from the current £15,240 to a whacking £20,000 – that offers a real opportunity to put more into tax-free savings than ever before.
Remember too that couples get their own ISA allowances, which effectively doubles the amount they can invest each year. Those couples who both take advantage of their ISA allowances will break through the £1m mark in half the time.
"Couples who both take advantage of their ISA allowances will break through the £1m mark in half the time."
– David Prosser
Moreover, many investors will hope to earn more than an average of 4 per cent after charges. If they’re successful, they’ll reach £1m significantly more rapidly, particularly after taking into account the effect of compound interest.
It’s the underlying investment that matters
However, the key factor in this race to a £1m will be the underlying investments in your ISAs; remember, ISAs aren’t investments in their own right – rather they’re shelters within which you can hold a broad range of assets in order to insulate them from income tax and capital gains tax charges. On large portfolios of investments, the tax savings will be substantial, but you’ll need to pick assets that perform strongly and consistently.
"The key factor in this race to a £1m will be the underlying investments in your ISAs"
– David Prosser
In which case, investment companies have a good claim to a big role in your ISA strategy. They provide a practical solution for investors, offering both lump-sum investment and regular savings options, and are all ISA-qualifying holdings. They also offer exposure to a broad range of assets, including the stock market, which has tended to produce higher long-term returns than other investments, and is likely to be a central plank of most long-term investors’ strategies.
On performance, research has consistently shown that, in the past at least, investment companies have tended to outperform other types of collective investment fund. This is no guarantee they will continue to do so in the future, but investment companies do offer certain advantages – generally low charges, structural benefits, and the ability to take on gearing, a technique which boosts returns when markets are rising.
You don’t have to use your entire ISA allowance each year to invest in investment companies, but this type of fund does have real benefits, and there’s enough choice to build a diversified portfolio of funds with different appeal. Who knows whether you’ll reach £1m – but it’s not out of the question if you get started sooner rather than later.
David Prosser is the former Business Editor of The Independent, Personal Finance Editor of the Daily Express and Deputy Editor of Money Observer magazine
"Online lending is just beginning to be understood by investors"
Since the launch of the first P2P focused investment company in 2014 – P2P Global Investments – more launches of investment companies with a P2P focus have followed suit, trailblazing the P2P concept and also attracting the support of high profile fund managers, such as Neil Woodford, Woodford Investment Management and Mark Barnett, Invesco Perpetual.
"In this yield-starved environment, investing in the direct lending space remains attractive because of its consistent returns, low volatility and correlation to other markets and historically higher yields than other fixed income vehicles"
– Bill Kassul, Ranger Direct Lending Fund
Whilst investors can gain direct exposure to P2P through online lending platforms, an alternative option is to invest through a P2P investment company. Offering attractive yields for income seeking investors, it’s perhaps unsurprising that there was a strong initial demand for P2P focused investment companies.
The last year has been a year of mixed fortunes, however, for the sector. P2P Global Investments was down 12% and is currently trading on a discount of -22% (at 31 January 2017), while Funding Circle SME Income Fund is up 12% and is currently on a premium of 5% (at 31 January 2017).
At a media roundtable held by the Association of Investment Companies (AIC), Simon Champ, CEO of MW Eaglewood Europe, managers of P2P Global Investments and Sachin Patel, Chief Capital Officer of Funding Circle talked about their thoughts on the prospects for the sector and the benefits of investing in P2P using the investment company structure. Their comments, along with those of Cormac Leech, Principal at Victory Park Capital, managers of VPC Specialty Lending Investments and Bill Kassul, Principal in Ranger Alternative Management II, the General Partner for the Ranger Direct Lending Fund have been collated below.
Prospects for P2P – is it misunderstood?
Sachin Patel, Chief Capital Officer of Funding Circle said: “The Funding Circle SME Income Fund was designed for equity-income investors to gain exposure to the small business loan asset class. Banks have lent to SMEs for decades and the loans were held almost exclusively on their balance sheets. As banks have retrenched from this market, Funding Circle is filling the void by facilitating lending to these same SMEs. This is therefore a very traditional asset class that Funding Circle has made available to different types of investors, including the Funding Circle SME Income Fund, for the first time."
Cormac Leech, Principal at Victory Park Capital, managers of VPC Specialty Lending Investments (VSL) said: “As a nascent sector, online lending is just beginning to be understood by investors. It’s likely that many investors will be surprised at how resilient the sector is in a recessionary environment. In particular, VSL’s balance sheet lending approach with downside risk protection is expected to provide attractive returns even in recessionary environments.”
Benefits of investing in P2P using the investment company structure
Simon Champ, CEO of MW Eaglewood Europe, managers of P2P Global Investments (P2PGI) said: “P2PGI invests through a diverse network of low-cost alternative lending companies – lending platforms, balance sheet lenders and other originators. The investment trust structure brings liquidity to an otherwise illiquid asset class. By investing across multiple sectors P2PGI creates a diverse pool of loans with the aim of providing a steady stream of income, whilst protecting investors’ capital.”
Cormac Leech, Principal at Victory Park Capital, managers of VPC Specialty Lending Investments said: “Investing via an investment trust reduces risk via diversification and also because the fund is managed by an experienced team of investment professionals who complete due diligence and continuously monitor the lending platforms. It is much more challenging and expensive for an investor to perform this platform due diligence themselves. Investment trusts are also able to source match-funded leverage where appropriate, thereby boosting investor returns. Investment trusts offer daily liquidity since the fund is listed and trades daily.”
Bill Kassul, Principal in Ranger Alternative Management II, the General Partner for the Ranger Direct Lending Fund said: “In this yield-starved environment, investing in the direct lending space remains attractive because of its consistent returns, low volatility and correlation to other markets and historically higher yields than other fixed income vehicles.
“With traditional banks continuing to migrate away from certain lending categories such as small business lending, we continue to seek great investment opportunities, especially in lending arrangements that are secured by borrower assets and collateral.”
Cormac Leech, Principal at Victory Park Capital, managers of VPC Specialty Lending Investments said: “P2P is something of a misnomer. A better description is online or non-bank lending. A significant percentage of creditworthy SMEs and consumers in the US and UK are underserved by banks and do not have access to traditional credit. Online and other non-bank lenders using financial technology have identified ways to lend to these borrowers, offering convenience and attractive rates; and using proven underwriting techniques.
"P2P is something of a misnomer. A better description is online or non-bank lending."
– Cormac Leech, VPC Specialty Lending Investments
“Victory Park Specialty Lending (VSL) provides balance sheet loans to these online and non-bank lending platforms, secured by the loan book, with the platforms taking the first loss on any defaults by the end borrowers. This ensures alignment of interest and has generated attractive returns for VSL and other funds managed by Victory Park Capital over the past 7 years.”
Simon Champ, CEO of MW Eaglewood Europe, managers of P2P Global Investments (P2PGI) said: “In recent years a powerful disintermediation opportunity has emerged as banks have retreated from some areas of the lending market due to increasing regulatory requirements. Coupled with the availability of data and the technology to capture it, these trends have facilitated the entry of low-cost alternative lending companies – lending platforms, balance sheet lenders and other originators – who are challenging the provision of reasonably priced credit.”
Sachin Patel, Chief Capital Officer of Funding Circle said: “Since the UK voted to leave the European Union, the Funding Circle SME Income Fund's performance has been very positive. This strong showing mirrors the performance of Funding Circle’s UK business over the past six months. UK SMEs have shaken off the macroeconomic uncertainty immediately following the referendum and continued applying for finance to grow their businesses - more than £300 million was lent through the platform in Q4 2016."
Please visit the AIC website to view more information on P2P investment companies and the wider Sector Specialist: Debt sector