A good place to start is to remember that, if you are just starting out, you don’t have to invest your stocks and shares allowance (£11,280 this tax year, rising to £11, 520 next tax year) in one fund alone if you invest through a fund supermarket.
As their name suggests, fund supermarkets allow investors to effectively ‘shop’ online for funds from several managers, enabling them to split their ISA allowance for this tax year between a range of different funds. As fund supermarkets ‘bulk buy’ funds, big discounts are usually offered on initial charges. Switching fees are also lower if you use a fund supermarket.
Here, we look at how to build the perfectly balanced stocks and shares ISA portfolio, whether you have existing stocks and shares ISAs, or you’re lo oking to try these tax-free shelters for the first time…
Understand the different asset classes
There are four main investment asset classes. These are cash, fixed interest securities such as bonds and gilts, equities and property. A balanced portfolio will invest in all of these sectors, but the exact proportion you invest in each will depend on your approach to risk as well as your investment objectives.
For example, someone who is risk-averse would be more likely to invest a higher proportion of their money in bonds and gilts, as well as keeping a significant amount in cash, and a lower proportion in equities and property, while a more adventurous investor will allocate more of their money to overseas equities and hold fewer bond funds.
Philippa Gee, managing director of Philippa Gee Wealth Management, said: “Pick your funds carefully as you need to get a balance between performance, risk and costs. If you take account of only one of these, you will be unhappy with the results.
“Remember to monitor how your investments are doing, but don’t keep changing the funds constantly, as you could dilute returns.”
Think about existing investments
Before picking the ISA funds you want to invest in, sit down and write out a list of any existing holdings, so that you don’t end up overweight in any one particular sector or geographical area.
Danny Cox, of independent financial advisor, Hargreaves Lansdown, said; “All too often ISA investors buy a new ISA each year without considering how these might complement existing holdings. It is very easy for a portfolio to become fragmented, over-exposed to certain markets, or simply to have too many holdings.”
Remember too that just because a fund has performed well recently, that does not necessarily mean it will do well in the future.
Mr Cox said; “The phrase 'past performance is not a guide to future returns' holds true and it is impossible to accurately predict which areas will deliver top returns in the short term. That's why, in my view, investors should look to the long term and build a diversified portfolio of investments they believe will flourish.”
Typically low-risk investors hold a greater proportion of their money in cash and bonds or gilt funds. However, this still comes with its own risks. Mike Deverell, investment manager at Equilibrium Asset Management, said; “With inflation persistently higher than the Bank of England target, and bonds looking very expensive relative to history, there is a chance of losses in this asset class.
“A good alternative to low risk savers would be the M&G UK Inflation Linked Corporate Bond Fund. It can benefit from rising inflation yet is less sensitive to interest rates than many other funds. We also prefer this option to a traditional index linked gilt fund which we think could actually produce below inflation returns.”
For a more cautious investor looking for a broad global exposure across equities, private equity, real assets and currencies, Jason Hollands, of discount brokers BestInvest, recommended the RIT Capital Partners investment trust as a good "one stop" shop.
He said: “The trust provides shareholders with a good spread across geographies and currencies, is long-term in its investment approach and does not flit around with fashion. It combines both in-house managed sub-portfolios and a number of high quality external asset managers, traditional and absolute return, who are not generally available directly to most private investors.”
Medium risk investors
Medium risk investors should have greater equity exposure as part of a balanced mix of assets. Darius McDermott, managing director of Chelsea Financial Services said: “We have seen a big rally since the start of the year and stocks are not as cheap as they were.
However, equity investors looking to put money in for a 10-year period could still be well rewarded.
“Given we are now at the four-year mark of record low interest rates, I'd also suggest riskier assets will outperform cash and bonds once again, albeit perhaps not with quite the same margin of difference.”
If you have never invested in equities before then a good starting point is a tracker fund, which tend to follow an index.
James Bateman, head of multi manager & multi asset portfolio management in Fidelity’s Investment Solutions Group, said; “Funds focused on US larger companies, for example, often struggle to beat the S&P 500 index, so products like BlackRock North American Equity Tracker or Fidelity MoneyBuilder US might be good choices.”
However, if you are considering investing in Asia and emerging markets, Mr Bateman said it may be better for investors to go for an actively managed fund. He said; “Because markets are less efficient (and liquidity constraints can mean passive strategies can struggle to fully reflect indices), active investment strategies can add real value in these markets. Even in developed markets, though, bottom-up stock picking can identify promising companies that offer potential for outperformance over time compared to passive strategies.”
Investors with a strong appetite for risk will usually be prepared to have much greater exposure to equities and will be happy to invest in more volatile sectors and geographical areas.
Mr Deverell suggested that China could be the market for this year’s more adventurous investors. He said: “The Chinese market is trading on a very low multiple of earnings compared to its own history and to other markets. Its economy is also recovering from its mini slump and with global trade picking up it is poised to have a very positive year.
“There are very few actively managed funds which consistently beat the index, however the only one we would consider investing in is closed to new investors. Instead we like an Exchange Traded Fund – the DBX MSCI China ETF. This tracks the broad MSCI China index closely and at relatively low cost.”
Wayne Evans, financial planner at Heron House Financial Management, recommended the Graphite Enterprise investment trust for adventurous investors. He said: "This private equity fund has had a good couple of years returning above 30% return last year, but is still on a discount of 24%. Renewed confidence in the private equity sector could see this discount falling further.
“Its main focus is on UK and European private equity although it does have some exposure to the US. Although private equity is often seen as high risk, Graphite has a very experienced team with a good track record and reduces risk by holding a number of private equity funds as well as direct holdings."
Stocks and shares ISAs are risky, and you need to do plenty of research before investing in any fund to ensure it is appropriate for your needs.
Kevin Mountford, head of banking at MoneySupermarket, said: “With stocks and shares ISAs it's important anyone considering investing their savings fully understands what is involved - if necessary seek independent advice."
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