Want To Retire Early? Pick Your FIRE Strategy (FAT/LEAN/COAST/BARISTA)

The Financial Independence and Retire Early movement is not very old but it has gained a lot of traction in the investing community.

If you’re a financial freedom enthusiast, you’ll have probably heard of FIRE. But have you heard of Lean FIRE, or Fat FIRE, or the other types?

We can all focus too hard on retirement and forget that the journey is supposed to be enjoyable too.

The method of FIRE you apply will require sacrifices, whether that be in time, effort or luxuries, so it’s good to know that a number of options are available for you to choose from which all arrive at some variation of the same end destination – financial freedom.

By the time you’ve read this post, you will know what kind of FIRE plan is right for you.

Commission-free trading platform Stake are giving away a free US stock worth up to $100 to everyone who signs up via the link on the Money Unshackled Offers page, so be sure to check that out!

Alternatively Watch The YouTube Video > > >

Many Routes – Same Dream

Freedom means different things to different people. For some it is the freedom to leave a high stress career in favour of doing something you’d enjoy, but which doesn’t necessarily pay well.

For others it means nothing less than the jet-set celebrity lifestyle starting ASAP, and never having to do a day’s work again.

Others still crave the end of employment but don’t need the fancy car or the big house and can find happiness on a campsite or on the road.

There’s a FIRE solution for each and every one of them. So, what are the main broad paths you can take to financial freedom?

#1 – Barista FIRE

Barista FIRE is FIRE at its most basic – it doesn’t even necessarily end in you leaving the rat race.

All it buys you is semi-retirement, but it is much more achievable because of that.

The idea is simple. You accumulate your freedom fund to cover some of your expenses, but not all.

This might involve setting a target retirement fund size of say £250,000 to pay you a £10,000 a year income in retirement at the 4% safe withdrawal rate. And you make up the difference between your investment income and your outgoings with part-time or enjoyable work.

For many, nothing short of full financial freedom will be good enough. But for those who don’t hate work, Barista FIRE offers a sensible half-way-house approach to freedom that’s doable for everyone.

In practise, it would work like this – any money you invested during your life up until the age of, say, 50, would be working for you and paying you out a small income thereafter.

If you need £20,000 to survive on in your early retirement, and your investments are giving you an income of £10,000, you only need to earn a further £10,000 from employment once you leave your main career behind you.

The effect this could have on your lifestyle is massive – the difference in happiness between a high powered corporate career and a £10k job can be worlds apart.

A job that brings in just £10k might involve 3 days a week doing something less pressured, or even enjoyable.

Or for those of you making the big bucks, making up a £10k shortfall might involve putting on that business suit for just a few weeks in the year as a contractor, and living the retired lifestyle for the rest of the year.

The second way to Barista FIRE is to let your spouse continue working while you put your feet up, though it would take a special kind of partner to tolerate that set-up!

But as long as SOME money is trickling in from employment to supplement your small investment income, you would technically be doing Barista FIRE.

And FYI: the name “Barista FIRE” comes from Starbucks – one of the original US companies to offer part-time workers health insurance, which makes this strategy possible in America!

#2 – Coast FIRE

Coast FIRE is best described as investing enough money at a young enough age so that you can stop contributions mid-career, live affluently for the second half of your working life, and still achieve financial independence sometime in the future just by “coasting” along.

The goal behind Coast FIRE is to massively increase your savings rate early on in your investing journey by piling money into your portfolio.

There is a mathematical tipping point where the money invested is enough to grow with compounding returns to an amount big enough for early retirement without needing any additional contributions.

If you start early enough, and are in no great rush, you don’t need that much invested because you have decades worth of time for it to grow without further effort on your part.

For instance, both of us at Money Unshackled could switch to Coast FIRE fairly soon and it would be job-done.

Our existing portfolios are almost big enough that they would grow over the next 20 or 30 years so that we would be able to retire with a basic lifestyle.

Someone aged 20 could spend 10 years squirrelling away £150k and then stop worrying about investing – 25 years later they could be retiring in their mid-50s with the equivalent of £500k at today’s value of money, factoring in inflation.

By choosing Coast FIRE, they could then massively increase their standard of living in their 30s and 40s by not needing to invest further.

So, Coast FIRE is for investors who are happy to buckle down and scrimp-and-save hard in their 20s, and then forget about their investment pot and live life to the max while remaining in work.

In a way, it’s the middle-class dream, but without the poverty in retirement that comes from spending all your wages on conservatories and BMWs and forgetting to invest. And all it costs you is a few years of initial financial responsibility.

#3 – Lean FIRE

Lean FIRE is for people who prioritize leaving the workplace over a comfortable retirement. You want to retire in full, asap, and are prepared to live a minimalist lifestyle in retirement as a consequence.

For this kind of FIRE you probably need a pot of around £300k – what is probably the baseline to survive in retirement, which provides a small income but with practically zero home comforts.

For investors on the Lean FIRE path, the baseline is also their finish line.

The principles remain the same as other FIRE types. You save enough money to cover your expenses in your retirement using the 4% safe withdrawal rate.

The main difference is that you have to save much less than people on other forms of FIRE who are going for full early retirement with a good standard of living after the magical retirement day.

The defining characteristic of the Lean FIRE approach is frugality. People that reach for Lean FIRE tend to get there by being very careful with their outgoings and by pinching pennies.

Achieving Lean FIRE is generally well within the means of people with medium incomes.

A 20-year-old Lean FIRE investor aiming to retire at 50 would only need to regularly invest 36% of their required retirement income over the 30-year time frame to reach their goals.

That would be £600 a month for a £20,000 required retirement income, using average stock market compounded returns.

But there are also people with very high incomes that seek to achieve this goal who can be happy with a basic lifestyle in retirement. For them, it might be a case of saving 50%+ of their salaries and FIREing in just a decade or less.

Other solutions involve driving your required early retirement income down by planning to move somewhere cheap, like a Northern town or even another country.

Or sack off the main cost of living – housing – entirely, and live life on the road in a campervan, Scooby-Doo style.

However, for most people, Lean FIRE probably means sacrificing too many things. Is it possible to retire early and not live on the breadline?

#4 – Fat FIRE

If Lean FIRE is the frugal path, then Fat FIRE is the polar opposite. This is the plan you should be following if you plan on being a big spender in retirement.

Fat FIRE allows you to live in the most expensive cities in the world, retire with a big house, give your kids and grandkids lavish private educations, travel when and where you want to, drive a nice car, dine out at nice restaurants, and support your parents or your kids if they ever need help. In short: proper, fulfilling retirement.

Once again, the basic FIRE principles apply – the difference being that you will need a much bigger net worth to be able to retire.

If you’re planning on spending £100,000 a year or more in retirement and living a full and activity packed life, you’d need at least £2.5m stashed away to be able to retire on the 4% safe withdrawal rate. That is a lot of money you’d need to accumulate.

If you feel you need a lavish retirement, you’re probably not the type to penny-pinch and clip coupons for 30 years in order to get there.

For this reason – coupled with the fact that spending cuts can only go so deep before hitting bone – you will need to focus on growing your income instead.

To get there fast, a normal job isn’t going to cut it – for Fat FIRE, you’d need to be a highly paid professional or business owner (or have several lucrative side hustles).

As for how much of your income you’d need to set aside to Fat FIRE: to live a lifestyle based around your current income level, investing around 30-40 percent of your current income over 30 years, or 70 percent over 20 years, should be enough as a general rule of thumb. These are big numbers – if you want to live more lavishly in retirement than your current income would allow (if you stopped saving), you’re probably being unrealistic!

You can get to Fat FIRE faster if your business or side hustles will continue to make you money after you’ve retired.

It might be that you don’t need to bother with investing at all – just focusing all efforts on building up a successful business to be your legacy might be a faster (if riskier) solution.

Alternatively, you can get to Fat FIRE the slow way by first getting to Lean FIRE, and then continuing to work and invest for another couple of decades.

Say that Lean FIRE to you is £500k, and Fat FIRE is £1.5m. The first £500k will be by far the hardest part of the journey.

Money breeds money and turning £500k into £1.5m CAN be done, for those willing to wait.

By this point, your monthly contributions will likely pale in comparison to the huge, compounded returns you’re getting from the invested funds, and you may decide to stop making contributions at this point and just let the market take care of your pot’s growth, Coast FIRE style.

£500k turns into £1.5m in just over 20 years at an 8% annual rate of return, assuming inflation of 3%.

Maybe you aim for Lean FIRE, but keep open the option to switch to Coast FIRE mode and enjoy a semi-retirement with a more laid-back part-time role for 20 years before retiring in full Fat FIRE glory.

#5 – The Middle Ground – Regular FIRE

We’re aiming for a middle ground – regular FIRE, somewhere between Lean and Fat. We aint living like paupers in retirement, but nor do we feel the need to work our butts off to get to multimillionaire status.

Though if Fat FIRE were to come within our reach, we may decide to go grab it.

For now, we’re aiming for the middle ground by first securing that Lean FIRE baseline and then building from there for a few more years to make our early retirements comfortable and fun.

FIRE to us is full retirement before 50 at the latest, so Barista and Coast FIRE are not ideal for us.

We want our freedoms ASAP, but we’re willing to work a little longer to get a freedom that involves a few home comforts!

Which FIRE route are you taking? Join the conversation in the comments below!

 

Featured image credit: Atstock Productions/Shutterstock.com

Also check out the MoneyUnshackled YouTube channel, with new videos released every Wednesday and Saturday:

What Percent Of Your Income Should You Invest For Financial Freedom? | Planning For FIRE

What percentage of your income are you saving or investing each month? If you’re like most Brits, it won’t be anywhere near enough.

We know this because the average Brit retires at age 64. If they were saving properly for retirement, we’re betting FEW would willingly choose to limp on into their mid-60s.

But how much of your income do you need to be saving each month to reach your goals?

In this article we’ll assume that your goals are a comfortable retirement, on your terms, starting sometime in your 40s or 50s.

We’ll look at what the financial gurus recommend, we’ll look at what most normal people are doing, and finally what you need to do to set yourself apart from the slow-laners who follow the mainstream media narrative.

It might even be that the whole notion of saving a percentage of your income is flawed. Maybe there’s a better way?

Alternatively Watch The YouTube Video > > >

What Percent Of Their Income Do Other People Set Aside?

The average UK citizen saved just £2,292 in 2020, according to Charter Savings Bank.

The average salary in 2020 was just under £26k, so from this we can calculate that the average person saves around 11% of their job income, after taxes and other pay-slip deductions.

We also know that the average person retires at 64 – the average retirement age is expected to keep climbing, and will probably be well into the 70s by the time our generation gets to retire.

If we know the average person currently retires at 64 and the average person saves 11% of their income, it seems that saving 11% is not going to be good enough for you.

For you to reach financial freedom before your 70s, you’re going to need to be putting aside more than the average Joe.

Though to be fair, the majority of these savings will not be invested in wealth building assets – instead, they will have been left to fester in a low interest bank savings account.

But as we’ll soon calculate, even when properly invested, 11% is still far too low.

We’re also very sceptical of these savings statistics – far too often, what people describe as their “savings” are really “delayed spendings”.

What they count as savings today goes on fixing the car tomorrow. Our definition of saving is putting that money aside and never touching it again until retirement.

Savings % By Age

You’d think that when you’re younger it would be harder to save or invest a high percentage of your income, because you probably don’t have much of it. Any money you bring IN goes straight OUT again on rent.

There’s some truth in that – but people in their 20s actually save above the national average, probably because they don’t have families to pay for:

Savings % By Age (Sources: ONS, & Charter Savings Bank)

People in their 30s are able to save the most, as most people are established in their careers by this point and raking in the big bucks.

For whatever reason, saving tails off once people pass the age of 50 – perhaps they are putting money into pension accounts as well that is not reported in this data. But still, these numbers are very low.

Is Anyone Investing Their Savings?

Of course, to get anywhere in this world, you need to be INVESTING your savings, not stashing them in a bank account.

Cash accounts earn less than nothing due to inflation and low interest rates. The stock market on the other hand is widely quoted as having an average return of 8% since records began.

A person who saves 10% of their after-tax income in a Cash ISA will fare FAR worse over time than a person who invests 10% each month into a Stocks & Shares ISA.

But the most recent data tells us that for the tax year ending April 2019, just 22% of ISA subscriptions were Stocks & Shares ISAs, compared to 76% for Cash ISAs.

What Do The Financial Gurus Say?

JL Collins, author of The Simple Path To Wealth, recommends you aim to save or invest a full 50% of your income.

While he admits that he hasn’t always been able to do this himself, he credits the setting of this target as having been essential with helping him to become financially independent while still young.

Andrew Craig, author of Live on Less Invest The Rest, suggests people should invest 10% of their income as a minimum, and anything over and beyond that will also be beneficial.

We find this a bit unambitious personally, though we do respect most of what this guy says. 10% is simply no good for retiring before your 60s. But it’s better than nothing.

Most commentators agree that the answer lies somewhere between 10 and 50 percent. Some in the FIRE community take it to the extremes and invest over 70 percent of their incomes.

Some are doing this by living like tramps, while others are able to set aside so much by pursuing a higher income. Let’s now look at how hard it is to increase your savings percentage.

Is Saving X% Really So Hard?

The average UK citizen who earns £26k is in the top 3%, richer than 97% of the people on Earth. So in theory, saving money really shouldn’t be that hard.

The reason you may not feel this well-off is though is because you are used to a certain lifestyle and standard of living.

You choose to live in expensive accommodation. You choose to have the big TV, ten monthly subscriptions and a new car on finance.

We’re not saying any of this is a bad thing – we’re just pointing out that in this country, saving for our futures is often a choice that comes second place behind our lifestyle priorities.

Saving a higher percentage gets far, far easier the higher your income is. This is because the range of money that most people need to live on is quite similar, while incomes can vary wildly.

You probably only need around £20,000 after tax income to live a moderate lifestyle in most cities – anything earned over this could in theory go straight into your early retirement fund.

You’d probably find that moving from saving 10% of your income to 20% is easily done if you were to get a promotion or move jobs.

Assuming these numbers are all after tax: 10% of a £25,000 income is £2,500. 20% of a £30,000 income is £6,000.

If you’d just moved up the career ladder from £25k to £30k, your salary would be up by £5,000k. But your savings per month only need to go up by £3,500 to double your percentage of income saved.

You just got an extra £5k of income, so doubling your savings rate in this scenario is EASILY achieved. So long as you don’t succumb to too much lifestyle inflation!

But if you are not able to increase your income, the only option left to you if you want to increase your savings percentage is to cut back.

But to reach anything like 50%+ and join the top ranks of the FIRE community by only cutting your outgoings, you’d have to make some radical lifestyle changes.

But let’s assume you don’t want to live on rice and beans for the rest of your working life. What’s a more realistic amount to be saving each month?

How Much We Think You Should Invest Each Month

The correct answer is, you need to work backwards from your target wealth goal, choose a timeframe that you can stomach, and aim to save and invest at least the percentage that this calculation tells you to.

For both of us, the goal is a minimum £500,000 per person in a household.

This would bring in an annual income per person of £20,000, using the famous 4% Safe Withdrawal Rate rule – what we think is enough for one person to live a basic lifestyle.

Say you start investing at age 25 and your salary is £30,000 after tax.

Let’s further assume that the absolute maximum you’re willing to tolerate slaving away for would be 15 years, gaining financial independence at age 40:

Example Scenario: Required Savings % To Retire Either 15 Or 25 Years From Now

You would have to invest 57% of your income over this timeframe to reach this goal, with compounded average stock market returns.

While the same person allowing themselves an extra decade to reach their goal, with a target freedom date at age 50, need only save 21% of their income.

Alternatively, the correct answer is as simple as; “if your goal is financial freedom, you need to save as much as you possibly can, because freedom ain’t cheap”.

As a footnote to this rule, you may believe you are already saving and investing as much as you possibly can. But are you really? Or are you in fact just investing as much as your lifestyle allows you to?

The Slow Lane Mindset

Unfortunately, the rot of “the 10% savings rule” has spread widely across the mainstream media.

Next time you see a financial expert on the BBC they’ll likely quote this number like it’s some kind of gospel truth.

This doesn’t help anyone though and is just a form of talking down to the audience.

Quite a number of other outlets including Experian are now citing the 50/30/20 rule, which is an improvement.

It suggests spending 50% of after-tax income on essentials, 30% on non-essentials, and leaving 20% aside for your savings pot.

But to us this still lacks aspiration. Especially while you are in the first half of your investment journey, how much you can save each month is far more important than your return on investment.

And yet we see investors worrying about the difference between an 8% and an 8.5% return, who are only depositing a few quid a month.

As we showed before, investing around 20% of your after-tax income is probably OK if you want to retire in 25 years’ time.

But who wants to be forced to work for 25 years?

25 years is long time. Every percentage that you can edge that savings rate higher will shave years off your career.

Switch To The Fast Lane Now

Also common in the mainstream media is a total disregard for investing.

Newspaper articles about home finances will only quote the latest Cash ISA interest rates; the BBC’s coverage of individual investors paints us all as uninformed chancers who jump onto bandwagons like GameStop and Crypto.

But most of the viewers of these shows and readers of these magazines are stuck in the slow lane of cash savings – the media are just talking to their audience.

You need to switch into the fast lane of investing, and we’re not talking about some scary Wild West where you gamble your savings on a single stock or the latest fad.

A “Do-It-For-Me” investing platform like InvestEngine invests into diversified funds FOR you. It’s as simple as answering a few questions about your risk tolerance and target time period, and hey presto – you’re delivered a portfolio of diversified funds covering stocks from around the world, both big and small, with some precious metals for protection against downturns. And the total fees are tiny at just 0.25%!

Find your way to InvestEngine via the link on the Offers Page and they’ll give you a £50 bonus upfront!

What percentage of your income do you set aside for early retirement? Join the conversation in the comments below!

 

Featured image credit: Eugenio Marongiu/Shutterstock.com

Also check out the MoneyUnshackled YouTube channel, with new videos released every Wednesday and Saturday:

Why Every Takeaway Costs You £1000 | The Huge Retirement Cost Of Spending Decisions Now

Today we want to get you thinking about the opportunity cost of your outgoings. The difference between a rich person and a poor person usually lies in the life decisions they make.

Over the lockdown, it’s said that half the country got fit with Joe Wicks, while the other half got fat with Ronald McDonald.

We ourselves have racked up significant takeaway bills during this pandemic, with the main culprit being Dominoes at around £25 a pop.

Added up, the nations’ newfound love of takeout comes to a hefty cost, probably a few hundred quid every month on average. But that’s not the real cost.

As investors, we know that this money could have been put to work for us in stocks or the property market.

The returns we’re missing out on as a result adds up to a mighty opportunity cost over a lifetime.

In this post we’ll show you the real cost of a takeaway, amongst other things, and how much you could be better off in retirement if you made different life choices today.

And if you think this number is scary, you won’t want to know the real cost of that new car you bought last year!

Commission-free trading platform Stake are giving away a free US stock worth up to $100 to everyone who signs up via the link on the Money Unshackled Offers Page, so be sure to check that out!

Alternatively Watch The YouTube Video > > >

The Opportunity Cost

A common term in accountancy, which might be why most normal people have never heard of the concept.

After all, any conversation with an accountant usually ends in a boredom-induced coma.

And yet, if everyone learned about opportunity cost in school, we believe we’d have a nation of dedicated savers.

The opportunity cost casts a light on what could have been, by magnifying the effect of spending decisions over time.

At its core, it compares the return you get by spending money one way, such as the return of a full and satisfied stomach from a takeaway, versus the return you get on the best available investment opportunity, such as 8% in the stock market.

Why A Takeaway Costs You £1,000

To work out the real cost of a purchase, you need 3 ingredients: the price, a rate of return, and time. Let’s look at a Joe’s most recent order from Dominoes:

Dominoes wanted £25 out of Joe’s freedom fund in exchange for their product. The historical rate of return in the stock market is 8%.

Joe is 20, and plans to hold his investment portfolio to retirement, so let’s say he lives at least into his 70s and regrets his decision to buy that pizza for the next 50 years.

£25 compounded at an 8% return over 50 years is a total cost of £1,173. That’s one expensive pizza! Nice, though.Is 8% Compound Growth Realistic?

Absolutely. The stock market is widely quoted as returning around 8% per year on average as a whole. However, some investments can do even better!

Since America’s S&P500 opened as an index in 1926 when it had 90 stocks, it has returned on average 10-11% per year.

And US Small Cap stocks had an average annualized return of 11.9% from 1972 to 2020, while US Large Caps returned 10.8% over the same period.

Over long periods of time, the stock market performs better than property, bonds and commodities.

And since you can easily invest in stocks from as little as £1 from the same sofa that you would annihilate that pizza, it’s an appropriate alternative to a Dominoes pizza box as a place to store your wealth.

Other Scary Numbers

Obviously, it’s not just takeaways – that’s just a silly but illustrative example that we chose. Even scarier is the full opportunity cost from life’s big decisions, such as buying a new car.

Millions of office workers choose to buy new cars with their middle-class salaries, believing themselves to be rich as a result. The opposite is true.

By the same logic as the Dominoes pizza purchase, a new car worth £25,000 could set you back by £1.1m over your working life.

British holiday makers choosing the Bahamas over somewhere closer to home like Portugal could easily burn an extra 3 or 4 grand – which may add up to over a £160,000 loss in retirement.

Here’s those same numbers over some different retirement timeframes:

Opportunity Costs Of Various Activities

One takeaway doesn’t really make a difference – yes, you’re £1,000 poorer in retirement, but for a 20 year old retiring at 70 that translates to just £4 a month lower income using the 4% safe withdrawal rule.

One takeaway every week for one year could set you back by over £60k in retirement, which translates to £200 a month less income during retirement. And that’s just if you do it for 1 year.

The number that makes us blink most though is the loss to future potential income that comes from buying a single new car while you’re young. And not even a particularly expensive new car.

You could be nearly £4,000 a month worse off! Maybe instead, get that money invested, drive an old banger for a few years, and THEN buy a decent motor.

We want to stress that we’re not saying there’s anything wrong with spending your money on new cars or pizza. You can do what you like with your money.

All we want to do is open your eyes to your options.

You need to know that by deciding to make a purchase now, you’re effectively choosing to forgo big increases to your income in the future.

The Flip-Side – Anyone Can Be A Millionaire

Over a career, anyone who passed on the chance to buy a new car in favour of stashing that cash into the stock market could very likely be a millionaire in retirement.

We just showed that buying a new £25,000 car really costs you £1.1m on average over 50 years. Over 40 years the cost is still £540,000.

And of course, if you’re buying new depreciating cars every few years, that could easily add up to multiple millions of pounds of sacrificed investment growth.

The point is, becoming a millionaire in the future can be as simple as making the right choices in your 20s and 30s.

Maybe that involves stashing a potential house deposit for a first home instead into BTL investment property, or whacking a big bonus you got from work straight into the stock market.

Time will work in your favour to set you financially free later.

Should You Live On Rice And Beans?

Some money savers do take the theory of compounding to the extremes. Stories abound in the FIRE community of people saving 75%, even 90% of their salaries to invest for retirement.

FIRE stands for Financial Independence, Retire Early, and for many, Early means within the decade.

You can bet THEY won’t be buying takeaways!

Followers of FIRE mostly get to retire young by penny-pinching their way through their 20s and 30s, but this lifestyle isn’t for everyone.

It certainly isn’t for us. Try as we might to resist the fast-food industry, or the delights of a 65-inch 4k TV, we are only human.

Surely there’s a better solution to scrimping and saving that allows you to buy whatever you want, and still build up a mighty Financial Freedom Fund?

Don’t Cut Back – Make More Instead

We’re firm believers in the abundance mindset, which is making the choice to make more money rather than cutting back. So, we’ll have the takeaway – so long as we’re making good money elsewhere.

The choice doesn’t need to be between having fun now and having fun later.

Just adding a side hustle to your main income stream could easily fund your chosen lifestyle, while allowing you to invest more of what you make from your job.

Here’s our most recent post about top side hustle ideas for inspiration.

Quickly, though, here are 3 of our favourite ways to make more money to fund a better lifestyle.

#1 – Invest First, Treat Yourself Later

As we alluded to earlier, you could get your money working for you first and pumping out returns, and then focus on saving up money to buy your lifestyle choices with.

MU’s Ben drove a smelly old 2003 reg Ford Focus for years before buying his awesome current car. That meant he could get thousands and thousands of pounds working for him during his 20s.

Basically, it’s delayed gratification. Which for all you investors out there, should come as second nature!

#2 – Side Hustle

A great side hustle open to anyone to make a bit of extra cash is matched betting, which we’ve both tried out and made a decent bit of regular money from.

We have a handy guide on how to milk this income stream, linked here: Guide To Matched Betting.

#3 – Start A Business

The best way to improve your income is to not have it be filtered through your employer’s organisation, losing a slice here to shareholders, a slice there to fund your boss’s promotion, and so on.

When you own your means of income, i.e. by owning and operating your own business, you keep all the profits.

You should make it your medium-term goal to move away from being an employee working for someone else for crumbs, and work for yourself, so you get the whole pie.

Or should that be, the whole pizza?

Are you getting a takeaway tonight? Join the conversation in the comments below!

 

Featured image credit: lassedesignen/Shutterstock.com

Also check out the MoneyUnshackled YouTube channel, with new videos released every Wednesday and Saturday:

Which Stocks & Shares ISA I’m Using In 2021/22

Written by Andy: 

How do you choose the best Stock & Shares ISA for 2021? Whether you’re a seasoned pro or an investing noob, each year we should all consider what options we have when it comes to choosing the investment ISA that we’re going to use for the year ahead.

If you’ve never carried out this exercise, there’s a high chance that you’re massively overpaying.

If you already have a Stocks & Shares ISA from previous years you don’t need to continue using the same one. And in many cases, it would be best not to.

A lot changes in a year, so what was once the best investment platform for you a year ago may no longer be.

We regularly get asked which is the best investment platform, and we would love it if there was a simple answer but unfortunately there is not a one size fits all approach.

As the new 2021/2022 ISA season draws closer, I’ve been evaluating my options. So, rather than take you through a big list of different investment platforms and compare them, we think it would be more beneficial to take you through my thought process and show you how I came to decide on which investment ISA I will use next. Let’s check it out…

Alternatively Watch The YouTube Video > > >

Best Investment Platforms For Your ISA

Before we get into the mechanics of the decision-making process, a great resource that we’ve put together is a curated list of the top investment platforms, including a comprehensive fee comparison table.

Naturally, a comparison table like this can be completely overwhelming for all but the most experienced investors, so we’ve also handpicked our favourites and categorised them into hopefully more understandable groups.

For example, Interactive Investor is our favourite Fixed Fee platform. As the account fee they charge stays the same no matter how big your pot grows, it’s great for investors who have or plan to grow substantial wealth.

Another of the categories is Commission-Free apps and our favourites here that offer an ISA are Freetrade and Trading 212.

These two investment apps are in a league of their own for anyone who wants to trade even semi frequently. Neither of them charge any trading fees, which can really rack up fast with the platforms that do charge them.

My Current Investment ISA Provider

Many of you will know that I’ve been using Interactive Investor over the last few years as my current ISA provider because it has almost suited my needs perfectly.

The way I like to do the bulk of my investing is to invest monthly into a few low-cost ETFs. I don’t want to incur any growing account fees, trading fees, FX fees, or any other type of sneaky fee that the platform can conceive.

Invest wrongly with Interactive Investor and you’ll have your pocket picked but do it right and they are one of the cheapest platforms around.

Both of our core portfolios contain just 5 ETFs. If you’ve seen our blog or the YouTube channel before you’ll know that we bang on about these all the time, but if you’re new to Money Unshackled, check out this post on the Ultimate Portfolio next.

As Interactive Investor’s monthly investing service is free, investors can build this 5 ETF portfolio with no trading fees.

All of these 5 ETFs are priced in pounds, so I avoid their nasty FX fee, and it is VERY nasty, so be warned. This IS NOT the platform for trading directly in international stocks in our humble opinion.

But for my portfolio their pricing structure means I only ever incur their monthly account fee of £10, which works out at just 0.14% of my ISA annually at its current size, and that percentage will reduce as my investments grow.

Naturally, you might be wondering why I’m thinking about using an alternative investment platform for my ISA considering there would be no additional charges for new money. Well, the reason is diversification across platforms. Your money is only protected by the FSCS up to £85k per firm.

Is Your Money Safe?

When you make any investment, you need to first consider the risk of losing your money due to platform failure. If the platform were to go bust, is your money safe?

While the FSCS protects up to £85K per firm, in practice the level of financial protection is much higher. Your investment platform must segregate your investments from their own business capital.

If this segregation of client assets fails in any way, then the FSCS protection can pick up the slack up to £85k.

In practice this means that your investments are likely to be safe well into the several hundreds of thousands but pinpointing an exact number would be impossible.

With my ISA sitting currently around £87k that puts me right on the limit of what is effectively full protection. I’d be very comfortable with a lot more than this with one platform but even if I don’t add more money to my pot it should grow to £875k in 30 years’ time with average compounded returns. That’s more than enough to get me worried about protection, so in my eyes it makes sense to start using another ISA provider now for new money invested.

Having multiple ISAs would be a pain in the backside to manage, so when the time comes, I’ll probably draw a line at two ISAs, as long as any other wealth such as SIPPs, property, and so on are invested elsewhere.

The size of the platform also makes a difference. Hargreaves Lansdown has assets under management of over £100 billion and is top dog. We feel that there is strength in numbers, and the FCA is far more likely to regulate the major players more stringently as they pose a greater risk to the financial system should they collapse.

For comparison purposes Trading 212 only has £2.7b of assets, but they are growing fast.

Before you invest a penny, you should first check that the platform is FCA regulated and protected by the FSCS.

All platforms worth their salt will have all the relevant info clearly visible on their website.

Fees

We think the next most important consideration when choosing a platform is fees. So much so that fees will influence how you invest. Don’t underestimate the seemingly small fees that you incur like FX and trading commissions.

Investing £500 a month for 30 years at 8% returns would get you a £709k portfolio. However, lose 2% of that to fees and the pot is just £490k – a whopping £219k smaller.

Different fees will affect investors in different ways depending on how and what they invest in.

We’d both love to trade more frequently and have more fun with our portfolios but we know that due to the nature of fees this is detrimental to our portfolios.

Account fees should never be more than 0.25% in our opinion if they also charge trading fees on top, which most do.

Vanguard’s own platform charges just 0.15%, AJ Bell’s is 0.25%, and Interactive Investor is a flat £10 monthly fee. Whereas Freetrade charge just £3 monthly for an ISA and Trading 212 is completely free.

The next fee to watch closely is trading fees. In all honesty, anything costing more than free is too much.

Some of the major platforms have discounted monthly investing services, which charge around £1.50. This is just about acceptable.

However, with the likes of Freetrade and Trading 212 charging nothing to trade, we think the days of paying to trade should be left in the past where it belongs.

The final major fee, which seems to be less understood and overlooked by investors, is FX fees.

We think a lot of platforms are taking advantage of investors’ ignorance here to hammer them with a nasty currency conversion markup.

Trading 212 were industry leading until recently when they decided to implement a 0.15% FX fee.

This is still tiny relative to many of the more established platforms but for anyone who trades frequently in any stock or ETF listed in a foreign currency this will quickly add up.

Trade in and out of a stock 6 times in a year and that small inconspicuous FX fee would add up to 1.65% (that’s 11 trades at 0.15% each).

On some platforms it might be 10x that, making trading practically impossible.

Investment Range

You need to make sure that your chosen investment platform has a good investment range.

Trading 212 and Freetrade have grown their range considerably over the last year or so. However, the more expensive traditional platforms have far superior ranges and we’d be surprised if they didn’t have what you were looking for.

It boils down to whether it’s worth paying more for this better range. We’re not sure that it is.

The commission-free apps now offer enough to make do, and when you factor in the lower fees it’s probably more than enough.

Unfortunately, some of the ETFs I want to invest in on Trading 212 are stupidly only available in dollars, including the largest component of the Ultimate Portfolio (available as US Dollar version MXWO on Trading 212), despite GBP versions being available elsewhere like on Interactive Investor.

Looks like I will have to incur this small FX fee or invest in something else.

One similar portfolio to the Money Unshackled Ultimate Portfolio would be to switch out the Invesco and iShares ETFs and bring in the Vanguard FTSE Developed World and Vanguard FTSE Emerging Markets ETFs instead. These cost just 0.12% and 0.22% respectively.

The Ultimate Portfolio and a Vanguard-based alternative

We personally don’t think these ETFs are quite as good as the Ultimate Portfolio for our purposes but should perform similarly. The Ultimate Portfolio funds avoid some dividend withholding taxes by being partly synthetic, which the Vanguard funds fail to match. This might be one of those occasions where you let fees influence how and what you invest in.

I have also been considering Vanguard’s own platform because it is well priced. The problem is Vanguard only offers Vanguard’s own products and strangely, you actually get a better choice of Vanguard funds elsewhere.

For people who are just interested in getting a decent range of funds at rock bottom prices, Vanguard’s platform might be for them.

Customer Service

You might be able to tolerate bad customer service at Burger King but when it comes to your money, the service better be top notch.

It goes without saying to check out reviews before committing. Trust pilot is your main port of call here of course.

When we’ve spoken to Interactive Investor, we’ve generally had great service.

We’ve requested ETFs and had them promptly added to the available range and even had some added to their regular investing service on our request – but not all.

The commission free apps do consider requests, but I was essentially pied-off (in a polite way of course) by Trading 212 when I asked.

Functionality

There’s an endless list of possible features that investment platforms could offer. You need to choose a platform that offers the ones that are most important to you.

The capability to place limit orders might be essential for you, whereas we are happy to invest using market orders.

You might insist on having detailed analysis of the available stocks including revenue and earnings, and portfolio analysis. You might also want guidance and suggestions about what to invest it.

Some platforms also produce best-buy tables, and others produce large volumes of content to read. Other platforms have built up incredible communities.

All of that is great, but one feature that we think stands head and shoulders above everything else is Trading 212’s Autoinvest and Pies feature. The Pie feature is brilliant and we reviewed it here, but as it stands, Trading 212 performed an act of self-sabotage by introducing a card fee to Autoinvest.

This fee at 0.7% can be avoided by not using Autoinvest, and instead manually adding funds to the Pie using a bank transfer.

Which Platform For 2021/2022?

On balance, the best ISA for me in this upcoming tax year will be Trading 212 – though if I didn’t have so much money in Interactive Investor already, I would have leaned towards them again.

Although the introduction of some fees on Trading 212 is an unwelcome irritation, these can be avoided by jumping through a few hoops and avoiding certain investments.

What ISA will you be subscribing to this tax year? Join the conversation in the comments below.

 

Featured image credit: Aaban/Shutterstock

Also check out the MoneyUnshackled YouTube channel, with new videos released every Monday, Thursday and Saturday:

Checklist For Financial Freedom!

“Let me tell you something. There’s no nobility in poverty. I’ve been a poor man, and I’ve been a rich man. And I choose rich every f***ing time.” ~ Jordan Belfort: Wolf of Wall Street.

We hear you Jordan. We’re working our butts off towards financial freedom, but how can we measure whether we’re making that dream a reality? What needs to be done between now and that magical financial freedom date?

Everyone loves a good checklist – a set of actionable steps that can be ticked off once complete. With each small accomplishment you’re a step closer to achieving your wider goal.

That’s why we’ve compiled for you this checklist for financial freedom!

Alternatively Watch The YouTube Video > > >

Clear Your Bad Debt

Let’s keep this one brief as it’s the most overly preached rule in wealth building.

The borrower is slave to the lender. We’re not religious but this is a valuable lesson straight from the bible.

If you are indebted, then you have an obligation to the lender to pay it back, plus interest. Bad debt includes short-term loans, overdrafts and credit cards with a high interest rate.

However, we draw the line at paying down all debt right now because GOOD debt is a tool that when used correctly can help to set you free. This is low interest, long term debt like mortgages and UK student loans.

We agree that the borrower is slave to the lender, but we also acknowledge that most people will be a slave to money until they become financially free, which sadly is at old age retirement for most people, as they are bailed out by state pensions.

We ourselves hope to become financially free in our 30s but until then we are money slaves.

Therefore, while we are enslaved, we will utilise good debt to help us achieve freedom faster. Good debt can be cleared later if you wish.

Checklist action point: if you’ve paid off all your bad debts, give yourself a tick!

Maximise Savings-Per-Month (SPM)

The most important aspect of wealth building for financial freedom is your savings-per-month. In the short to medium term the amount you can save is more important that your return on investment.

Your return on investment becomes the key factor later when your pot begins to swell. As an illustration, an 8% return on a £10k pot is just £800, but 8% on a £300k pot is £24k.

This goal can be broken down into multiple smaller goals, which can be ticked off as you progress:

  • Save £100 a month.
  • Save £300 a month.
  • Save £800 a month.
  • And so on…

If you’re happy that your level of SPMs will get you to your endgame, tick it off the list!

For most people who have predictable incomes from a job and if you’re budgeting correctly, then you should be able to save roughly the same amount each and every month.

If you’re wondering how on earth this can be achieved when you have things like Christmas or an annual holiday in some months, then you might get something from our Lazy Guide To Budgeting.

Although we call it savings-per-month, a more appropriate name would be investments-per-month. Any financial freedom or retirement money, or indeed any long-term savings, should be invested.

If you save in cash, you are likely never going to achieve freedom because inflation will decimate the pot.

Secondly, it would be extremely difficult to build wealth based on your work alone. The compounding effect of money invested will supercharge your wealth building ability.

Master Investing

This leads us nicely into the next goal, which is to master investing. If you’re new to investing or don’t have any interest in the subject, then don’t worry. This might even be an advantage for you.

Constant meddling and trying to beat the market are usually the reasons why people suck at investing. We ourselves are aware of this and are conscious that our own involvement could damage us.

Hence why the vast majority of our investments follow our strict rules-based approach, which you can follow or use as inspiration.

We both invest into what we call the Ultimate Portfolio.

It’s a portfolio consisting of 5 funds, getting positions in stocks from both developed and emerging economies, and also adds in smaller companies as they tend to grow faster.

The portfolio is finished off with some gold and silver to hedge against economic disaster.

We love this portfolio because it allows us to invest with conviction.

We don’t need to worry about short-term crashes in the market because it tracks a series of indexes that are essentially tracking global prosperity.

If mastering your own portfolio seems to be too daunting or you really can’t be bothered, then as an alternative check out robo-investing. Robo-investors quiz you and then build a suitable portfolio for you on your behalf.

One platform we’ve tried and tested and were really impressed with was Nutmeg. They even have a great welcome offer for customers who use our link. Use the link on the Money Unshackled Offers page and you’ll get 6 months with no management fees.

Whether you go down the robo-investing route or build your own portfolio, make sure you invest every month indiscriminately. It’s what’s known as pound cost averaging.

The idea is that by investing regularly, some months you will happen to buy when stock markets are expensive and other times you will happen to buy when they’re cheap.

By buying consistently, these highs and lows are averaged out.

And to tick this checkbox, you need to be able to say with conviction that you can ignore the news.

Every year there is a major event that screams “panic, sell your investments!”. But doing so would cost you dearly.

For as far back as the data goes, we have seen stock markets continue to climb upwards over the long-term. Selling and trying to time your re-entry is an awful idea.

Most people cannot do this and oftentimes they end up watching from the sidelines as everyone else gets rich around them.

Congratulations, you have now mastered investing. Check!

Hey, wait a minute, what about stocks? Stocks can be fun, and we do invest a little into individual stocks.

The problem with stocks is you could end up rich but equally you could end up poor.

We are confident that with index investing you will become rich one day, although of course there is no guarantee.

Insure Against Disaster

There’s probably a long time between now and your freedom date in which many things can go wrong. We know that insurance can feel like a waste of money but if the risk is too great, then insure against it.

That’s exactly what we’ve done. Ben (MU co-founder) has life insurance, which ensures his wife and child are okay if he was to die.

And Andy (MU co-founder) has income protection insurance that guarantees him an income if he is unable to do his job here at Money Unshackled. We see this as locking in your financial freedom today.

With insurance it’s best to speak to an expert and we’ve tried and tested Assured Futures who specialise in the field.

If you are considering insuring against disaster, check out our Lifestyle Insurance page and lock in your financial freedom. Peace of mind is a lot cheaper than you think.

Establish Multiple Streams Of Income

Ideally this would be to establish multiple streams of passive income. This should definitely be a longer-term goal but more imminently you need to establish any streams of income that you can.

Each income stream needs to be sizable enough that it makes a meaningful contribution to your monthly income.

Having 1 stream that provides 99% of your income and another just 1% doesn’t give you good enough diversification in your income sources.

Your first target for example might be to establish 2 income streams of at least £500 each.

One of these could be through Matched Betting, which can be easily done in your spare time to earn £500 or more. Here’s our simple guide on how to do this.

The next goal might be to establish 4 income streams of at least £600 each.

We have a built a business with over 20 income streams and counting, which ensures that the loss of any one stream wouldn’t put us on the streets.

Most people have one income source, which is their job. Having one source of income makes you a slave to your job master. They know that you are dependent on their crumbs and that is all you will ever get.

Do you have an adequate number of backup income streams? If so, check this one off the list!

Be Prepared For The Unexpected

No matter how much you plan, life will throw some curveballs. Maybe an unexpected breakup will shatter your finances, or you underestimated the cost of having children, or maybe a contagious disease will devastate the economy.

Whether the next curveball is specific to you or a wider event, you need to be prepared for it.

You’ll never predict exactly what the next problem will be but if your finances are in good shape then you will survive it. In part this means you will have built up an emergency fund that will see you through.

If you’ve built up a substantial emergency fund that will see you through a few months of hardship, then feel free to tick this one off the list too.

Diversify Your Skills

If you do depend on one job, then you might also want to diversify your skillset. You need to work on improving your transferrable skills.

Today you might be a taxi driver by trade but when autonomous cars ultimately replace you, can you easily apply yourself to something else without taking a devastating and unexpected blow to your income?

The unexpected isn’t necessarily out of your control either. It could well be that you’ve been doing your well-paid but boring job for far too long and need to try something different.

Remember that financial freedom is likely years, even decades away. You’ll probably need extra skills to fall back on over that turbulent time horizon.

Tick this off your checklist if you’ve learnt something new and useful that can be drawn on in the future, like a second language or computer programming.

Having a diversified skillset means you don’t have to feel like you have to stay in a high stress job even if it means financial freedom is more quickly achievable.

Going from a lawyer to an entry level job as a website designer is likely to begin with a huge pay cut. Although in the short term this will harm your financial freedom plans, it’s better to do something you enjoy.

No matter how much you want financial freedom, if you’re waking up in bad mood for too many days in a row, then something needs to change.

It could well be that you’re trying to save too much per month. In which case, loosen up the budget and retire a little later than originally planned. At least you’ll have fun on the way.

What are your significant income streams? Let us know in the comments below.

 

Featured image credit: Pasuwan/Shutterstock.com

Check out the MoneyUnshackled YouTube channel, with new videos released every Monday, Thursday and Saturday:

ISA Year End Coming! Will You Join The 3%?

The tax year in the UK doesn’t run from January to December like a normal year. Instead, for arcane reasons, it starts on the 6th April.

The ISA year is the same, since the purpose of holding an ISA is to shield your savings and investments from the greedy taxman.

Every year you are given an ISA allowance, which you must either use, or discard – you can’t carry it forward into future tax years.

You will want to make the most of your ISA allowance before it’s too late.

We’re going to tell you what you need to be doing with your savings and investments before the end of the ISA year, your options for the new ISA year, what we’ve done to get prepared, and answer some common questions our viewers regularly have about using their ISAs correctly.

Alternatively Watch The YouTube Video > > >

Why An ISA?

An ISA (individual savings account) is a type of savings account where you don’t pay any tax on interest, dividends or capital gains. Over the years, this tax benefit can save you tens or even hundreds of thousands of pounds.

The maximum amount you can deposit into an ISA each year is £20,000, and as your ISA balance grows it remains free from tax year after year.

You could in theory, and some people have done exactly this, build your ISA to in excess of £1m and there would still never be any tax on it.

Who’s Taking Advantage Of Their ISA Allowance?

The most recently released HMRC ISA statistics shows a downward trend in people taking advantage of ISA accounts since the financial crash of 2008, when interest rates were slashed:

The fall is mostly in Cash ISAs, probably for this reason of falling interest rates. But 11.2m people were still choosing to protect their wealth from HMRC as of April 2019 – roughly 17% of the population.

But of the 17% of the UK using an ISA, only around 20% of them use their full allowance, so are receiving the full benefit – this tiny band therefore reflects just over 3% of the UK population.

We did a full study on ISA statistics in this video here, including splits by gender, income, and average savings per year, so check that out next if you love statistics as much as we do!

Do You Even Need An ISA?

The general publics’ view on ISAs seems to be that they are pretty much pointless.

If they are only offering 0.5% interest rates, you may as well just have a savings account, or even a high interest current account, right?

This is sort of true for Cash ISAs – not so for other types. Let’s look at Cash ISAs first.

For most people, any interest they will likely receive these days in a savings account will be so small as to be untaxable anyway – whether that’s in an ISA, or not.

Most people in the UK get a personal savings allowance (PSA), separate to any ISA accounts, which means all interest you make on savings are likely to be tax-free.

Basic 20% rate taxpayers can earn up to £1,000 interest a year without needing to pay tax on it, meaning you’d need £200,000 of cash earning 0.5% interest before you’d begin to be taxed.

Higher 40% rate taxpayers get an allowance too, but it is lower at £500.

So, Cash ISAs do look pretty pointless. What about Stocks & Shares ISAs?

Again, there is limited benefit to be gained from an ISA if you only have a small amount invested in the stock market, since everybody gets dividend and capital gains allowances too.

The dividend allowance of £2,000 means you’d need £50,000 in stocks earning a 4% yield before dividends became taxable.

You would likely be safe too from capital gains tax at this level, since you can sell stocks for profits of £12,300 in any one year before tax is due.

In many cases a general account may be better if your provider charges you to use an ISA.

But if your goal is to grow your wealth over the years, we think an ISA is almost essential. Part of the strategy of long-term wealth building via ISAs is getting your money into it each year while you can, up to the full ISA allowance.

You can’t just drop £50,000 into an ISA – you have to add it in gradually over a number of years.

And if you can’t think of anything to invest in right now, that’s fine – you can deposit into a Stocks & Shares ISA and hold that money in there as cash for as long as you want.

When you’re ready, which might even be in a future tax year, you can use the cash that you previously deposited into your ISA to buy investments with.

Just make sure you use up your allowance, and you can worry about investing later!

Do You Need To Inform The Tax-Man?

Also, using an ISA avoids the need to declare your dividends and capital gains on a self-assessment tax form at the end of the tax year.

Any profits made in an ISA have a privileged status in that the tax man legally doesn’t need to know anything about them.

You only need to tell HMRC about dividends and capital gains on shares made outside of ISAs if they are above the relevant allowance thresholds.

How Does The Allowance Work?

As we said earlier, none of your £20,000 allowance rolls over, so for example if you only put £15,000 into an ISA, you can’t carry the remaining allowance of £5,000 into the following year.

Basically, it’s use it, or lose it.

Amounts that are deposited and then withdrawn in the same tax year still usually count towards your allowance.

Say you deposit £15,000, then a couple of months later withdraw £10,000, leaving you with £5,000. The most you could then top your ISA up by in this same tax year would be a further £5,000.

In total HMRC says you have saved £20,000 and used your full allowance, even though in reality you’ve only saved £10,000.

Some providers do offer flexible ISAs allowing withdrawing and redepositing, but these are less common.

Finally, any dividends, capital gains and interest you make in the ISA don’t count towards your allowance, so don’t worry about profits holding you back – they won’t.

What Are My ISA Options?

#1 – Cash ISAs

So, there’s Cash ISAs – for the reasons already mentioned, we personally don’t see much point in these.

A further (and we think the main) point against them is that the returns are lower than inflation, making them terrible as a means of growing wealth.

The top Cash ISAs currently available offer between 0.4% and 0.62% – find these on MoneySavingExpert.com – and remember while you do so that inflation is typically 2-3%!

Premium bonds currently average a better return than cash ISAs and are also tax-free, so for whatever cash you have to hold, premium bonds might be a better place to store it.

#2 – Stocks & Shares ISAs

Your next, and in our view, best option is a Stocks & Shares ISA. You can invest in the stock market while being protected from capital gains tax, dividend tax, and tax on interest from bonds and cash.

That’s all the major taxes covered, but you’ll still receive some foreign dividends after the deduction of foreign dividend withholding tax.

The stock market has returned around 8% annually on average over the last 120 years or so – quite a bit more than inflation. The downside is that this has to be seen as a long-term commitment, since some years will see your money go down, alongside the good years.

The main thing to watch out for in a Stocks & Shares ISA is fees – the main ones on your radar should be the platform charge, any management fees on funds, and trading and FX fees when you buy and sell investments within your ISA.

We’ll soon mention some investment platforms that offer low fee ISAs, which have minimised or removed trading fees entirely.

#3 – Lifetime ISAs (LISAs)

First-time homebuyers saving into a Lifetime ISA can save up to £4,000 into this account each year tax-free, and the government will top it up by 25% – up to an extra £1,000.

They come in both Cash and Stock Market varieties.

They are also seen as an alternative to a pension, since they are designed for the dual purposes of house purchases and retirement planning. Withdrawals for any other purpose will be penalised.

We think on balance a pension is still the best place to hold your old age retirement pot for most people.

#4 – Innovative Finance ISAs

The Peer-to-Peer Lending market is slowly opening up again after the pandemic, and we still have several welcome offers for free cash rewards on the Offers page from Peer-to-Peer providers, most of which offer Innovative Finance ISAs.

This ISA type protects your Peer-to-Peer Lending investments from tax.

An important point on ISA types is that you can deposit into multiple ISAs each tax year, but only into one from each type.

And your total deposits must not exceed £20,000 a year across all of them combined.

Time To Switch ISA Provider

The start of the ISA year is a great time to switch ISA provider. If you’re in the market for a new, better ISA, there’s one thing you should never do.

NEVER withdraw money from your ISA account to put it into your new one. If you do, you’ll immediately lose its tax-free status and waste your new year’s allowance by redepositing money that was already sheltered.

Instead, you need to follow the simple transfer process. Make sure that the new provider you want to use accepts transfers – not all do – and then fill in the ISA transfer form with the new provider.

ISA transfers should take no longer than 15 working days for transfers between cash ISAs and 30 calendar days for other types of transfer.

Top Stocks & Shares ISA Providers

Stocks & Shares ISAs come in different flavours, the main difference being between “Do-It-For-Me” providers and “Do-It-Yourself” providers.

If you want an easy life or don’t know enough to feel confident about investing, Nutmeg are our favourite “Do-It-For-Me” platform.

Check out our Nutmeg overview at the Best Investment Platforms page, and if you sign up via the MoneyUnshackled website, they’ll knock your management fees down to 0% for the first 6 months as a special offer.

If you want to manage what goes into your ISA by yourself, on this page you’ll also find overviews of our favourite “Do-It-Yourself” ISA providers – some of which also have welcome offers. There’s also a comprehensive cost comparison table.

Don’t Forget The Kids

Junior ISAs, known as JISAs for short, are tax-free havens for kids that work in a similar way as the adult versions of Cash ISAs and Stocks & Shares ISAs.

But the amount you can save into one tax-free each year is less at £9,000, and you or they can’t withdraw from the account until the child is 18. And the money is legally theirs – no take backs!

We can’t give you advice, but we would only consider a Junior Stocks & Shares ISA for a child. Nothing else makes sense.

Over the long-time frame of 18 years, the stock market will almost certainly reap huge returns for your kid, while cash is almost guaranteed to lose value to inflation.

We’re Ready For The New ISA Year

We're ISA Ready!

We’ve already deposited our full ISA allowances, so we’re now waiting eagerly for the new ISA year to kick start on the 6th April.

In doing so, we happily join the 3% of Brits who are taking advantage of this sweet incentive to grow wealth. Will you be among them too?

What are you doing to prepare for the ISA deadline? Join the conversation in the comments below!

 

Featured image credit: Serge Vo/Shutterstock.com

Check out the MoneyUnshackled YouTube channel, with new videos released every Monday, Thursday and Saturday:

Should You Invest in Alternatives In 2021?

Stocks are expensive, property is expensive, bonds are expensive, and so is gold. Where else can investors turn to in the pursuit of good investment returns?

Not only that, but what else can we invest in to further diversify and decouple our dependency on these traditional assets and the wider economy?

These questions have led us down the path of alternatives.

For whatever reason, these alternative investments don’t get anywhere near the attention of traditional investments like stocks, and in this article, we aim to correct this injustice.

We guarantee that many reading will never have even imagined that some of these investments exist, let alone considered investing in them.

Today, we’re looking at 6 alternative investments that could supercharge your investments returns. Let’s check it out…

Alternatively Watch The YouTube Video > > >

What Are Alternatives

In a nutshell, an alternative investment is any investment that isn’t any of the conventional assets – these being stocks, bonds and cash.

The term is relatively loose, and for the sake of this video we will throw in property and precious metals into the conventional asset basket as these are well recognised as investments, and there are a tonne of ways to get exposure to them.

So, why might you invest in alternatives? Other than seeking higher returns, the idea is that they display different return characteristics to equities and bonds.

If markets start downward trending, then you want something in your portfolio that can potentially act as a buffer.

As these investments are unusual, we urge you to do your research before buying.

Let’s take a look at some alternatives in no particular order:

#1 – Royalties

In good times and bad people love listening to music, and growth in streaming apps will only boost the value of song royalties.

But unless you’re Susan Boyle and have been hiding your music talents from the world all these years, then you have probably written off your chances of profiting from a hit song.

Well, don’t write off anything just yet as there are 2 investment companies listed in the UK that specialise in song royalties. These companies buy the intellectual rights to music catalogues.

These two investment companies are:

  • Hipgnosis Songs (SONG); and
  • Round Hill Music Royalty (RHM)

Both of these funds have sizable fees. Hipgnosis Songs comes in at 2.18% and Round Hill Music comes in at 2.4%. With funds like this it really is more about what you get than what you pay.

Taking a quick look at Hipgnosis to get a flavour of what they do, they have a catalogue of over 60,000 songs including over 3,000 number 1 songs and almost 12,000 top 10 songs. In 2021 they’ve made some massive acquisitions including Neil Young, Shakira, Jimmy Iovine, Joel Little, and more.

Download the Freetrade app to invest in Hipgnosis (or even just fund your account with £1) and you’ll be given a free stock worth up to £200. The link to this offer is on the Money Unshackled Offers page.

#2 – Art

According to Deloitte, art investments are: “high-risk, illiquid, opaque, unregulated, with high transaction costs, and at the mercy of erratic public taste and short-lived trends”.

Sounds like a compelling investment case!

However, that doesn’t necessarily make art a bad investment. The prices that some people will pay for an art piece is staggering. The Salvator Mundi by Leonardo da Vinci for instance sold for $450m.

According to Knight Frank, who track the performance of art, they say the asset class has risen by 134% over the last decade.

One way to invest in art is to buy contemporary art. You can visit art galleries and see what they have to offer, or you can buy it online.

Unless the artist is completely unheard of it can get very expensive, very fast. We must admit we personally would never go down that avenue… we don’t know a Leonardo Picasso from an Andy Warhol.

If you’re like us or perhaps you don’t want the cost or hassle of owning art outright, you can use sites like Masterworks to buy shares in art. For a relatively small fee, they will do all the work for you. Now we’re talking!

Art is considered a long-term investment, so don’t expect to get your money back for several years, when the painting is sold by Masterworks.

Masterworks does operate a secondary market for selling your art shares to other investors but unfortunately this is not currently available to non-US residents.

If you’re considering investing in art, then it makes sense to check Masterworks out.

#3 – Infrastructure

Have you ever considered investing in core infrastructure? Core infrastructure is the facilities, services, and installations considered essential to the functioning and economic productivity of a society.

They tend to deliver predictable and dependable cash flows.

They are typically very visible in communities and include assets such as water, electricity and gas transmission and distribution, regulated airports and rail networks, to name just a few.

Characteristics of core infrastructure include quality cashflow, limited competition, and being critical to their community.

One such company operating in the field is HICL Infrastructure (HICL), valued at £2.9 billion, again available on apps like Freetrade.

The AIC website, which is the trade body for investment companies, lists 7 investment companies within the infrastructure sector, so if this alternative asset takes your fancy, then checking out those would be a good place to start.

This is a listing of the top 10 largest investments for HICL:

The top 10 investments in HICL

Affinity Water is the UK’s largest water-only company and serves the South East of England. Affinity Water maintains 95 water treatment works and over 100 reservoirs.

The next largest is the A63 Motorway in France. We’ve never heard of this but it sounds incredible. There is technology in the road surface that generates electricity from solar energy, known as ‘Wattway’.

The A63 is a toll road, which always seem like money making machines. HICL must seem to think so, as their 4th largest investment is Northwest Parkway, another toll road, this time in the US.

HICL’s third largest investment is High Speed 1. High Speed 2 gets a lot of the media focus but as it stands currently, High Speed 1 is the UK’s only high-speed rail line.

It runs 109km from St Pancras International to the Channel Tunnel.

The historic returns of HICL have been awesome, averaging 9% per year since its IPO in 2006.

If you love your dividends this investment company should definitely be considered as it yields 5% and has a sweet record of increasing year after year.

#4 – Wines, Whisky and Spirits

Booze as an investment is probably not the first thing that comes to mind, but some drinks do go up in value.

Take wine for example. Fine wine matures once bottled and improves with age. Every year some of it is consumed causing the supply to get smaller. Supply goes down and demand goes up as the wine matures, leading to higher prices.

According to rarewineinvest.com, wine as an investment has returned 247% since 2004, which beats an index of European stocks, with returns of just 129%.

Wine must be stored correctly in a temperature-controlled facility and “under bond”, which means the owner hasn’t taken delivery, so avoids paying excise duty and VAT on the wine (which cannot be reclaimed). Therefore, it’s best to use a professional service.

One such site is Berry Bros. & Rudd. According to them, you don’t need much knowledge to invest in wine as you can get expert advice from the merchant.

Berry Bros. & Rudd has been trading for more than 310 years and they can make investing recommendations to you. If you invest via their cellar plan option, they suggest investing at least £250 per month.

Not only can you store your wine with them, but they also operate a marketplace, which has 240,000 visitors a month, so presumably you should have little problem selling the wine.

We’ve never personally invested in wine, so cannot vouch for the service.

As for Whisky, the historical returns between 2010-2019 was 15.4% per annum. After the deduction of storage costs this comes down to still a very impressive 11.7% per annum.

This is according to whiskyinvestdirect.com, a site that you can buy and sell whisky through. They will store it for a small fee, and facilitate trading of the whisky, allowing you to realise your investment at any time.

The company was founded by the same company who owns BullionVault, which provides a similar service for the buying, storing and selling of gold and silver bullion.

You can actually grab some free silver when using the welcome offer for BullionVault on the MU Offers page.

#5 – Private Equity

Private Equity refers to investments made into companies that are not publicly traded.

According to Investopedia.com, roughly $3.9 trillion in assets were held by private-equity firms as of 2019, and that was up 12.2 percent from the year before.

The reason an investor might want to invest in private equity is that they are seeking better returns than what can be achieved in publicly traded stocks.

Traditionally this asset class has been off limits for ordinary investors, and the potential high profits have been unfairly in the sole domain of institutional investors such as pension funds, and high net-worth investors.

The good news is that there are some investment companies operating in the space, which give us ordinary folk a chance to benefit from unlisted companies.

According to the AIC these are the investment companies to choose from. Some of them are funds of funds, which are a great source of diversified private equity exposure. But some investment companies also invest directly in unlisted companies.

One such example is HgCapital Trust (HGT).

Based on HGT’s share price at 30 September 2020 and allowing for all historic dividends to be reinvested, an investment of £1,000 twenty years ago would now be worth £13,095, a total return of +1,210%. An equivalent investment in the FTSE All-Share Index would be worth just £2,162.

This investment company primarily invests in software and service businesses across Europe. Even if you can afford to invest in private equity directly yourself, we’re not sure you should as it’s a highly specialised field.

Hg’s top 20 underlying investments make up 73% of the portfolio. Being unlisted companies, most people have probably never heard of them but Hg itself is valued at £1.2 billion, so collectively they’re no small-fry.

#6 – Buy A Cow

Here’s one for the more adventurous of you who like to have a bit of fun while they’re making money. There’s a South African company called Livestock Wealth that are in the crowdfarming business.

You essentially buy a cow, the farmer looks after the cow for several months, and then buys it back off you for more than you paid.

Surprisingly, there is really good profit to be made. You can buy a Free Range Ox for the equivalent of £540 and make between 5-7% in just 6 months. That’s an annual return of 10-14%, which compares very favourably to stocks and other investments.

Although the minimum return is in theory guaranteed, one has to wonder what would happen if the farmer or Livestock Wealth went out of business.

The company isn’t regulated by any financial body as it isn’t by definition a financial services institution, so we presume in this scenario you would lose all your money.

If you can stomach the risk and want to be able to brag that you own some cows, then check them out.

How many cows are in your portfolio? Let us know in the comments below.

 

Featured image credit: FooTToo/Shutterstock.com

Check out the MoneyUnshackled YouTube channel, with new videos released every Monday, Thursday and Saturday:

Tax Dodging Strategy – No Dividend Stock Portfolio

These days everyone raves about index investing because it’s thought that fees are the deciding factor in how big your investment gains are.

What doesn’t get enough attention is tax and how it drags on your profits. Many investors will scrutinise the smallest of fees but turn a blind eye to crippling taxes.

In some cases, this will be because the taxes are taken unknowingly, and other times it might be that people feel they have no way to avoid them.

On this site we aim to arm our viewers with the knowledge to defend themselves from unwanted taxes and ultimately boost your wealth.

The main way governments are swiping at your invested money is by taxing dividends.

If you have a small investment pot, you’ve probably not even noticed – but for larger pots we would go as far as to say that these dividend taxes are an outrageous assault on your wealth.

We’re going to show you a way to combine index investing with building a portfolio of stocks that uses our new tax dodging strategy. Let’s check it out…

Alternatively Watch The YouTube Video > > >

We think the most cost-effective way to build this tax dodging portfolio is with Stake. Stake specialises in US stocks for UK investors, and offers 3,000 of them. Stake is FCA regulated and has fractional trading and has no FX fees when you trade. We’ll get to why this is so crucial later.

And Stake are giving away a free US stock worth up to $100 to everyone who signs up via the link on the Offers page.

The Dividend Tax Problem

First, we need to explain what the dividend tax problem is, because we think most investors have no idea what the issue is.

We can hear a few cynical know-it-alls sniggering that all you need to do is use an ISA and there’s no tax.

But this isn’t quite true, and it also doesn’t deal with the issue of what to do after you’ve used your ISA allowance.

The first problem is dividend withholding tax (WHT). This is a tax that international governments withhold from any dividend paid from companies based in that country.

An ISA does not guard you from this assault on your wealth.

The US withholding tax is not the worst, but it’s the most important due to the size and significance of the US stock market.  A UK investor who has completed a W8-BEN form will pay 15% US WHT.

The next problem is the outrageous dividend tax applied by our own UK government.

It starts at 7.5% for basic rate taxpayers, climbs to 32.5% for those on the higher rate, and for those on the additional rate, they will have to stomach a 38.1% hit to their dividends.

There is currently a notional £2k allowance where no tax is paid but this used to be £5k and was reduced. The direction of travel suggests this will be removed entirely in the future.

Official government figures say that around 20% of ISA subscribers use the full allowance, and with many of these people having decent salaries or businesses, they will become victim to this nasty tax at probably the higher or additional rates.

We are happy… well, content… with paying taxes when they are on real profits. Dividend taxes, however, are taxes on cashflow.

If a company pays you a £1,000 dividend, the company’s market value falls by £1,000. You may have received cash, but your total wealth has not changed.

It’s really unfair to tax this. As a result, when companies pay dividends your wealth actually goes down due to the tax – paying dividends makes you poorer.

The FX Fee Problem

A big issue with ISAs is you can’t store foreign currency in them. This means every time you buy and sell a stock listed in dollars for example, you incur the platform’s FX fee.

Many UK platforms are taking advantage of this to hoodwink their customers. They like to pretend that their trading fees are low but hit you with an FX fee.

Trading 212 have begun to use this technique themselves by introducing a 0.15% fee.

It’s nonsensical to use an ISA to avoid one kind of fee i.e. tax, to then have to pay another in its place i.e. FX trading fees.

Since T212 have introduced these fees, it has elevated Stake’s competitiveness in the market and has potentially made Stake the go-to app for trading US stocks.

Stake charge 0.5% FX fees on deposits and withdrawals but nothing on trades. This allows you to buy and sell as frequently as you want without incurring additional fees.

As most other platforms charge FX fees on trades, the total cost can escalate fast.

The Solution: A No-Dividend Stock Portfolio

Investing for dividends is super popular, with many people loving this strategy of passive cashflow, and there are many funds available that invest for dividends as their objective.

But what we want is the option to eliminate dividend paying stocks from a portfolio entirely.

An alternative to dividend investing is picking growth stocks, which are companies that increase their revenue and earnings faster than the average business.

Growth stocks tend to pay low or no dividends, but we want to be as confident as we can possibly be that we won’t receive any dividend, as it would be taxed.

Unfortunately, there is no index that we could find that tracks the stocks in the S&P 500 that pay no dividends. But you can create your own, and that is exactly what we have done.

It probably shouldn’t need mentioning but to be clear, the main goal of any investment strategy should be to maximise after-tax profits.

There’s no point in investing in a portfolio of crappy stocks just to avoid some tax.

But with that in mind, we fully expect this home-made index of stocks to deliver phenomenal returns if it continues to perform anything like it has done over the past 5 years.

We have never seen any study into non-dividend paying stocks, so we’re very keen to see how this portfolio does.

The List of Stocks

There are currently 72 stocks within the S&P 500 that meet our no-dividend criteria. This will change on occasion as companies enter and leave the index, and as companies change their dividend policy.

We’ll take a look how we got the data in a minute, which will be useful to those of you who want to run with this themselves.

Here’s a link to a pdf of the full listing of 72 stocks that made the cut: Listing download

The top 20 are shown below:

The top 20 stocks in our "index" - full listing at the link above

We sorted it by market cap and no doubt you’ll recognise many of the names at the top.

First, we have Amazon. Then there’s Google’s parent company Alphabet. Facebook is there too. Fanboy favourite Tesla gets a mention. And Buffetts’ own Berkshire Hathaway. And on it goes.

The 72 stocks make up almost 22% of the S&P 500. That’s quite a sizable chunk, but don’t expect it to mirror the index’s performance closely.

As the majority of these stocks could be considered growth stocks, we would actually expect them to outperform the S&P 500. Only time will tell.

As a benchmark for comparison, over the last 5 years Vanguard’s S&P 500 ETF has returned 114%, which is 16.4% per year.

If you invested an equal amount into these 72 stocks, by our calculation they returned 26.9% per year, smashing the S&P average.

We doubt that overperformance of that magnitude can go on forever, but it gives us some faith that we can avoid dividend tax and still earn incredible returns.

The compound annual growth rate on these stocks is enormous. As a rule, we don’t tend to pay too much attention to past performance of just a few years, but with so many of the stocks delivering standout returns it’s difficult not to be impressed.

Amazon has returned 40% per year; Tesla 70% per year; AMD 97% per year; and so on.

Fine-tuning

Although this list of stocks is just a small selection of the S&P 500, there is still a hell of a lot there if you were planning to invest in all of them.

Some of you might want to take advantage of the analysis tools within the Stake app to fine-tune the stock list further. The Stake app has some awesome inbuilt analyst ratings, which you could use to narrow down on the best stocks.

How Much To Invest In Each Stock?

You have a few options. The easiest would be to invest an equal amount into each stock. Most indexes don’t do this, however.

The S&P 500 is free-float market capitalization weighted. This typically means the biggest companies make up the majority of the index.

Amazon comprises 4% of the S&P. If we were to use the same methodology as the index that would mean Amazon makes up 18.3% of this portfolio. This would absolutely terrify us – so we’d probably stick to the equal weighting method.

Facebook, the third biggest stock here, makes up 2% of the S&P, so would translate to 9.1% of the market-cap weighted version of this portfolio.

As you go down the list the weighting of each stock becomes less and less significant. At the bottom of the list these stocks are merely making up the numbers, rather than having any meaningful impact on it.

Rather than investing in all 72 stocks, you could just invest in the top 20 or so. These top 20 would cover 83% of our stock list, or 18% of the full S&P 500.

How We Built This Home-Made Index

Using Stockopedia’s stock screener tools, we were able to identify S&P 500 stocks and then filter down only on those that haven’t paid a dividend in any of the last 5 years.

For this portfolio we only want companies that are committed to increasing shareholder wealth by any means, other than dividends.

This usually means by reinvesting profits back into the business such as by expanding into new markets or buying new machinery, but it can also include share buybacks. These are great as it avoids that pesky dividend tax.

It’s not enough to exclude companies that didn’t pay a dividend in the last year alone because in many cases this was a temporary reaction to having a bad trading year.

And finally, we ranked the stocks by their S&P 500 constituent weightings.

What About Capital Gains Tax?

As it stands, we get a far more generous capital gains allowance than dividend allowance. The Capital Gains tax-free allowance is currently £12,300 per year.

This means you can sell stocks to realise a profit up to this amount every year and not pay tax.

For example, say that you bought 2,000 shares in company X at £10 each (totalling £20k). If the shares increased in value to £25 (totalling £50k), you could sell 820 shares at £25 and pay no tax.

In doing so, you would have sold £20,500 worth of shares, realising £12,300 profit, which falls within your tax-free allowance.

You just need to be smart and try and use this allowance to its full potential. Many investors will choose to voluntarily realise gains in a tax year up to the value of £12,300, and then reinvest their money back into the market, rather than taking all the profit in one go and getting a massive but unnecessary tax bill.

Have you been allowing governments to put their hands in your pocket? What do you plan to do about it? Let us know in the comments below.

 

Featured image credit: Elnur/Shutterstock.com

Check out the MoneyUnshackled YouTube channel, with new videos released every Monday, Thursday and Saturday:

Don’t Invest Like Warren Buffett. Here’s Why

Warren Buffett needs no introduction. He has led the company Berkshire Hathaway for several decades now and turned it into a multinational conglomerate owning or having significant stakes in some of the biggest companies in the world. Today Berkshire is worth $577 billion.

Buffett is up there amongst the richest people in the world and he himself is estimated to be worth $95 billion. We don’t think we’d be out of place to call him the greatest investor on the planet.

He’s so good in fact that millions of investors hang on every word he says. We think you’d be hard pressed to find an investor that doesn’t at least pay attention when Buffett opens his mouth.

But despite all these incredible accolades does that mean you should try and emulate his success by doing what he does? Here we’re looking at 6 reasons why you shouldn’t invest like Warren Buffett!

It’s highly unlikely that Warren uses an investing platform, but you need one! If you need help choosing, then check out the Best Investment Platforms page.

We’ve handpicked some of our favourite places to invest and some are even giving away free stocks when you sign up.

Alternatively Watch The YouTube Video > > >

Buffett’s Investment Style

Many investors have tried to replicate his investing style or at least something that they think resembles it.

Buffett follows the value-based investing model. Essentially this where you only buy stocks in companies that exhibit solid fundamentals, strong earnings power, and the potential for continued growth.

But crucially, Value investing is an investment strategy that involves picking stocks that appear to be trading for less than their intrinsic value – basically trading less than what a stock is really worth.

He’s also famous for not investing in anything he doesn’t understand. This might mean he misses out on some big gains, but it also ensures that he doesn’t suffer significant losses such as when the dot-com bubble burst.

At the time most technology plays were new and unproven, causing Buffett to avoid these stocks.

Buffet favours companies that distribute profits to shareholders but perhaps hypocritically, Berkshire Hathaway does not pay dividends to its own shareholders.

Buffett feels that investing back into the business provides more long-term value to shareholders than paying them directly, because the company’s financial success rewards shareholders with increasing higher stock values.

While learning as much as you can from great investors like Buffett is certainly recommended, here’s why you shouldn’t try to invest like him yourself:

#1 – You Can’t Buy Entire Companies

A lot of the attention on Berkshire is on its portfolio of public stocks that they own a percentage in. The big ones currently include the likes of Apple, Bank of America, American Express, and Coca-Cola.

This table produced by CNBC excellently breaks down all the publicly traded stocks that Buffett’s company currently has a stake in:

Berkshire Hathaway's publicly traded investments

Notice that the total adds up to $268 bn. As we mentioned earlier the total value of Berkshire is $577 bn, which would suggest that Berkshire owns other companies worth hundreds of billions of dollars’ that are wholly owned and so are not included in this list.

One example of a wholly owned subsidiary is BNSF Railway, which is the largest freight railroad network in North America. That deal was completed in 2009 and was worth $44 billion, so presumably is worth a lot more today.

Another example is Precision Castparts Corp. This company became a subsidiary of Berkshire in 2016 in a $37 billion deal.

Owning companies in their entirety gives Buffett control over how the business is run. Although the subsidiaries get unparalleled autonomy, if performance is disappointing, Buffett could get involved.

Owning subsidiaries in full allows any excess cash to be redirected to the other parts of the Berkshire empire or to make new acquisitions.

Being able to take full ownership of companies gives Buffett advantages that you do not have.

#2 – You Don’t Have The Skills

That’s not meant to be a criticism. We’re comparing you with one of, if not the greatest investor of all time.

Anecdotally, we think the extent of most peoples’ investing efforts is to look at a share price chart and come to the conclusion that a stock is worth buying if the price is lower now that what it was in the past.

Perhaps some people go a bit further and look at earnings-per-share, the price earnings ratio, and the dividend yield. Not many people go further than this.

Have you ever looked at an annual report or other company filings, especially one from a US company? They are the longest and most boring documents that you can imagine.

No normal person in their right mind wants to read one of these. By the time you’ve finished reading next year’s report would have already been published.

And yet Buffett relishes the chance to flick through the pages. He has even said, and we paraphrase, “if you are invested in a business, it is your duty to know everything about its competition. Therefore, it’s not enough to just read the annual report of your business; you need to read all your competitors’ filings too”.

How did you learn to invest? Buffett was a student of Benjamin Graham, who is widely regarded as the father of value investing.

Most investors today have watched 5 minutes of Mad Money with Jim Cramer on CNBC and are following wallstreetbets on Reddit. That is the extent of their investing prowess.

#3 – You Don’t Need To Beat The Market

Buffett himself says the average investor should be tracking an index. This is a guy who has smashed the S&P 500 over several decades and yet he still encourages everyone else to track the market.

He believes this so vehemently that he has instructed the trustees of his estate to invest it in index funds after he’s gone.

In a 2014 letter to his shareholders Buffett said,

“My advice to the trustee could not be more simple: Put 10% of the cash in short-term government bonds and 90% in a very low-cost S&P 500 index fund (I suggest Vanguard’s). I believe the trust’s long-term results from this policy will be superior to those attained by most investors—whether pension funds, institutions, or individuals—who employ high-fee managers.”

There is a great deal of evidence that shows that passive investing beats active investing after the high fees and taxes.

In 2008 Buffett made a $1m bet that an S&P 500 index fund would outperform a hand-picked portfolio of hedge funds over 10 years. In year 9 the hedge funds conceded after the S&P 500 had taken an unassailable lead:

Buffett won his bet...

What’s more, spending the time researching, analysing, and monitoring stocks is very time consuming when done properly.

A well-diversified portfolio is likely to have 20 or more stocks, so even if you have exceptional investing skills you still need to ask yourself whether picking stocks is worthwhile.

Let’s say you were managing your own portfolio that was valued at £100k. Most young people don’t even have this.

If you were to add 2% extra value to your returns over the index, that’s still only £2,000 a year. Your time would have been better spent increasing your income elsewhere and increasing your investing contributions.

#4 – He’s Not Saving For Retirement

Buffett is said to have the majority of his own personal wealth in Berkshire Hathaway, but he is not saving for retirement (because he’s already minted), and Berkshire is not a retirement fund.

Investing should always be personal because everyone’s situation is different, but with absolute certainty your situation is different to Buffett’s.

Most of us have to grow a portfolio during our working years and then the stash has to produce reliable income during our later years.

Broadly speaking, that means we can gear our investments towards high growth assets while we’re younger are forced to shift towards safer investments as we age.

Historically, during the retirement years the assets would need to pay an income but a reduction in trading fees may have lessened this need slightly, as you can gradually sell out of your growing positions instead.

Although we personally are not keen on bonds, you can understand why so many retirees feel comfortable holding these in their portfolios. They are nowhere near as volatile as stocks and help to preserve the capital value of the portfolio at the expense of lower expected returns.

Berkshire and Buffett have none of these concerns and can stick to the stock market.

#5 – He’s American, You’re Not

If you’re indeed American, you can ignore this but for the majority of our viewers who are British, your residence lowers your chances of success.

Most of the companies Buffett invests in are global but their roots and the majority of their revenues come from the US market.

When picking stocks, you have an advantage when you are familiar with the market they operate in. You can get a better feel for a company when you’re able to walk through the doors and experience it for yourself.

Also, you have to worry more about exchange rates than he does. Most of the profits his stocks make will be in dollars, which is exactly how he wants it.

For all of us in the UK, however, changes in the exchange rate can wipe out all of your returns or even amplify losses. We personally only see this as a short term-term worry, which is ironed out over the longer term, but many British investors are so concerned with this that they neglect their international holdings and choose to have too much UK bias.

However you choose to manage FX risk, this is a much smaller issue for Buffett!

Another problem us non-US investors have is dividend withholding tax. We get stung with a 15% tax on any dividends paid by US companies.

If you’re investing in US stocks that pay good dividends, Uncle Sam is going to take a slice off the top. Don’t underestimate the effect of small fees and taxes on the long-term performance of a portfolio.

#6 – You Can Invest In Small Companies

The first 5 reasons are all ways in which Buffett kicks your ass, the little guy, so let’s reverse that and look at 1 big area you can beat him in.

Buffett is managing hundreds of billions of dollars.

Although that sounds awesome, it comes with a major problem: There are not enough good companies out there trading at reasonable prices to invest in.

Unless the company is worth at least a few billion dollars, then it’s likely to be off limits for Berkshire because any purchase would likely result in owning the entire company. Owning too many tiny subsidiaries would clearly be too much of an administrative burden.

What’s more, even if a $50m stock doubled in value it would have a negligible effect on Berkshires profits, so it’s not worth their management time.

You on the other hand can literally invest in any public stock that’s available to you. This is awesome because it’s the smaller companies where the bargains can be found.

Large companies tend to be over analysed and are more likely to trade at their intrinsic value.

Small-cap stocks are more likely to go unnoticed and sometimes can trade at knockdown prices. It’s highly unlikely that you spot something in Apple’s product design or supply chain that a full-time analyst doesn’t already know.

But this is very possible when you look at your local chain of corner shops, which is floated on AIM!

Buffett’s inability to buy small companies puts Berkshire at a major disadvantage.

He told Berkshire’s investors not to expect the same type of returns the company has produced over the past 55 years.

What’s your investment style and why? Let us know in the comments below.

 

Featured image credit: Kent Sievers/Shutterstock.com

Check out the MoneyUnshackled YouTube channel, with new videos released every Monday, Thursday and Saturday:

Millionaires Invest In These Funds – Top Investment Trusts

If we want to become millionaires, then surely it makes a lot of sense to do what they do.

Recently we learnt that ISA millionaires invest overwhelmingly in investment trusts, which the average non-millionaire seldomly uses.

Armed with this knowledge, should we all be thinking about adding at least some investment trusts, or investment companies as they’re also known, into our portfolios?

And how much of your portfolio should you allocate to investment trusts?

If we’re following the well-trodden path of the ISA millionaires on Interactive Investor, then around 54% should be in investment trusts:

How People Invest On The Interactive Investor Platform

According to the Association of Investment Companies, who are the trade body for closed-ended investment companies, there are 391 of them to choose from.

So, this begs the question; which investment trusts should you be investing in?

Here we’ll explain what an investment trust is and the pros and cons of investing in them.

We’ll also look at the most popular investment companies that millionaires are buying, and crucially we’ll show you how you can research and analyse them for yourself!

The 5 Investment trusts in this article can all be found on Freetrade. If you’re looking for a new investment platform and are considering Freetrade, then make sure to grab your free stock worth up to £200 when using the link found on the Money Unshackled offers page.

Alternatively Watch The YouTube Video > > >

What Is An Investment Trust?

Investment trusts are collective investment funds, which allow investors to pool their money together.

In doing so, investors are able to invest in a range of assets, such as stocks, that otherwise may not be possible on their own. This pooled money will be managed by a professional who in theory should be able to provide better returns than an individual.

The name, investment trust, is somewhat misleading, given that it is not in fact a “trust” in the legal sense at all, but a separate legal company.

Investment trusts are ‘closed-ended’, meaning they have a fixed number of shares like other public companies such as Tesco or BP.

But instead of being involved in the buying, manufacturing, and sale of food or Oil, they specialise in the management of financial assets – usually other public companies.

The Investment trust model is well-tested having been around since the 1860s, whereas ETFs and OEICs have only been around since the 1990s.

But despite investment trusts’ long history, they are often regarded as the investment world’s best kept secret. This might be because investment platforms actively promote other types of funds, particularly OEICs, which feature in many of the best buy tables.

A sceptic might say that this reflects the fact that platforms can make more money if their clients buy and sell these other fund types.

Why Investment Trusts Kick Ass!

Investment trusts have a superior performance record compared to their better-known cousins – unit trusts and OEICs. But why might this be?

Investment trusts, unlike unit trusts and OEICs, can borrow money to invest, which when done right will magnify returns.

Another massive advantage over OEICs and Unit trusts is the fact that the investment manager of the investment trust can concentrate on generating returns, rather than have to worry about liquidity.

In other fund types, investors are able to withdraw money directly from the fund at any point, meaning they have to hold excess money to deal with the day-to-day withdrawals.

When this happens OEICs and unit trusts may be forced to sell some assets, at what could be knockdown prices, to deal with these unhelpful fund flows.

Investment trusts, however, are traded on an exchange. This means the shares are bought and sold just like any other company and doesn’t directly affect the daily operations of the investment trust.

Another benefit is they can also use derivative securities such as futures and options for investment purposes. These might be risky in the hands of an inexperienced investor but can be incredible tools to enhance or protect returns.

Investment trusts also have advantages when it comes to dividend payments, as they are able to retain 15% of the income they receive each year. In leaner years they can then dig into these reserves to maintain dividends.

According to the book “Investment Trusts Handbook 2021”, which is worth reading by the way, these advantages show up regularly in comparisons between the long-term performance of investment trusts and that of open-ended funds.

Where trusts and similar funds can be directly compared, trusts typically show up with superior performance records.

Where an investment trust and an open-ended fund with the same mandate are managed by the same individual, it is rare for the trust not to do better over the longer term.

What Are The Drawbacks?

As investment trusts trade on an exchange like other companies, their share price can and does deviate from the net asset value, which is the value of its underlying investments. This difference is known as the discount or premium.

This isn’t necessarily a bad thing and is in fact a characteristic that you should take full advantage of… but it does add more complexity and risk.

For example, the underlying investments could perform badly, and market sentiment could also decline, causing the discount to widen. This would be a double whammy!

Likewise, the opposite could happen. Underlying investments could do well, and market sentiment could improve, causing a double benefit to overall returns.

We personally see the option to use gearing as a positive but if the underlying investments do poorly, then gearing will amplify those losses. Though to be fair most investment trusts use gearing sparingly, and we’ll soon show you where to find this out.

The Management Problem

The biggest potential drawback of all could well be the management problem.

By buying into an actively managed fund, you are depending on one guy or a small team to deliver exceptional results.

But just look at what happened with Neil Woodford. When you pick an investment trust you could end up with one of these duds. Past performance doesn’t guarantee future results!

There is some very convincing evidence out there that says index investing, such as through an ETF, is the best way to invest, because it removes the human element of a fund manager.

Which Investment Trusts are Millionaires Buying?

Interactive Investor shared the top 10 holdings for the ISA millionaires on their platform (see below). 5 of them were Investment trusts, with the most popular being Scottish Mortgage which we’ll explore shortly.

In second place was Alliance Trust, followed by Witan, then RIT Capital Partners, and finally City of London.

Top 10 Holdings Of ISA Millionaires

How To Research And Analyse Investment Trusts

Earlier we name dropped the Association of Investment Companies, and their website is in our view the single best place for information on investment trusts. But what’s better than a good site? A free good site. That’s right – the AIC site won’t cost you a thing to use.

Another useful site is trustnet.com but that’s got too many ads for our liking.

How To Navigate The AIC Website

On the AIC website, you’ll be able to search for a specific company from the homepage if you already know what you want to check out.

Alternatively, head over to ‘Find and compare investment companies’ at the top and click ‘compare companies’. On this page you’ll be able to look at all the investment trusts and view a wide range of data for each.

The “AIC sector” column gives you a rough idea of what they invest in.

Some of the things you might want to review include:

  • What does the trust invest in?
  • Who manages the trust and what is their past performance record?
  • How has the trust performed?
  • What is the dividend history?
  • What is the yield?
  • What is its dividend cover? This is based on its revenue reserves, which we talked about earlier.
  • Compare it to other funds in the sector.
  • Download and read the fact sheet and reports.
  • Search the internet for news on the fund and the fund manager.

As with any investment the extent of your research will improve the likelihood of getting returns. Let’s take a quick look at Scottish Mortgage, which was the most popular trust amongst ISA millionaires.

Scottish Mortgage

Scottish Mortgage is the largest trust and has £18 billion of assets. Its 10-year total return is insane at 820%.

You have to wonder whether the millionaires own this trust because of their foresight or whether they are millionaires just because they happen to have been invested in this trust!

The management group is Baillie Gifford and it’s part of the ‘Global’ AIC sector.

The trust clearly doesn’t focus on paying dividends as it has a very low yield. The dividend cover ratio is a useful indicator of health if the trust is focussing on dividends.

This cover has allowed many trusts to continue paying out huge dividends even through the Covid pandemic.

It has a very low charge of just 0.36%. That’s lower than some ETFs! And the current gearing and the range of gearing over 3 years.

The interesting part is what the trust actually invests in. This trust is predominantly invested in the US and China at 47% and 26% respectively.

The US seems very expensive right now and there is always geopolitical risk with China, but evidently Baillie Gifford who are managing the trust are bullish about stocks in these regions.

The top holdings include huge positions in Tesla and Amazon, and a biotech company called Illumina. The top 10 make up 49% of the entire trust, so it is highly concentrated.

Out of the 96 holdings, 30 make up 78.1%, and interestingly the portfolio holds 50 private companies, which together account for 16.1% of the assets.

Is There An Easier Way?

Fans of this site will know we always try to maximise returns based on effort exerted on our end. Some might be call it laziness – we call it efficiency.

Anyway, picking the best investment trusts looks to be as difficult as picking winning stocks. The FTSE All-Share Equity Investment Trust Index kicks ass, so is there an ETF that simply tracks this?

Well, we couldn’t find one but if anyone knows differently then please let us know. Instead, we could effectively build our own or at least emulate something close to it.

If you look at the fact sheet for the index (below), there you’ll find the top 10 constituents, which you could easily invest in yourself directly using a commission-free app. These 10 companies make up 31% of the weighting of the index, which is pretty good in the absence of an ETF.

Top 10 Index Constituents

How Has The Investment Trust Index Fared?

Over 5 years the FTSE All-Share Equity Investment Trust Index has returned 99%, which is an awesome 14.8% per year after fees:

Index Returns versus Industry Benchmarks

To put that into context the Vanguard FTSE All-World ETF, VWRL, has returned 88%, which is 13.5% per year after fees.

So even though investment trusts will have higher fees, over the past 5 years these actively managed investment trusts have been the greater investment.

Don’t underestimate that seemingly small performance difference. It really adds up over time!

We don’t know anymore than you whether this story will continue into the next 5 years, but an annual performance difference of 1.3% would be enormous over the long-term due to compounding.

It could be worth hundreds of thousands of pounds over a course of an investing lifetime. That might explain why the ISA millionaires use them whereas ordinary investors do not.

Will you be adding investment trusts to your portfolio and how will you go about it? Let us know in the comments below.

 

Featured image credit: nednapa/Shutterstock.com

Check out the MoneyUnshackled YouTube channel, with new videos released every Monday, Thursday and Saturday: