Investment Workout

Whether you’re considering a return to stock market investing or you’ve never left it, it pays to check your investment portfolio is up to the challenge. Poor performance and a sloppy technique can quickly turn your investment into a shadow of its former self.

Ensuring your portfolio is well constructed will give you a head start but, to guarantee long-term results, you’ll also need to make sure each part of it is performing to its utmost ability. These workouts will ensure your investments are fighting fit and stand the best possible chance of piling on the pounds.

Return to fitness
(or how to get back into the stock market)

If your cash is lounging around in a savings account but you think the stock market is now looking healthier, then it’s time to take the plunge and get your cash fighting fit again. “If you want above-inflation growth you have to invest in equities,” says Darius McDermott, managing director of discount brokers Chelsea Financial Services. “There is some risk; but it’s the only way to stand a chance of beating inflation.”

If you don’t want to commit a large amount of money initially, you should still look for a fund that offers good diversification. A global fund could be an option. These invest in a large number of shares from all around the world. McDermott isn’t a fan, though. “Very few fund managers are able to recognise investment opportunities from all around the world. You’re better off building your own portfolio with the best funds from different regions.” For example he suggests you let Framlington look after your UK exposure, UBS after your American and First State after your Asian.

A multi-manager fund could be a better option. These could either be fund of funds or manager of manager funds [for more on funds of funds, see our feature in PF, November 2004, page 24] but in each case your money is managed across a range of different types of investment. “These give instant exposure to a wide range of assets, and because the manager makes all the investment decisions, you don’t need to worry about whether you should be invested in a particular area or not,” explains Ryan Hughes, investment manager at Chartwell Investment Management. “This means they’re a good solution if you haven’t got a lot of money or you don’t want to spend lots of time monitoring your portfolio.”

Alternatively you could consider one of the ‘instant’ portfolios offered by some of the fund supermarkets and discount brokers. For example, Chelsea Financial Services offers the Chelsea Easy ISA, where you pick one of four profiles (cautious, balanced, aggressive and income) and your money is automatically invested across five or six selected funds.

Likewise, FundsNetwork and Interactive Investor also offer ready-made investment portfolios. “The funds within our ready made ISAs are selected according to independent analysis,” explains Martin Campbell from Interactive Investor, adding that there are no additional charges if you do take this investment route.

However, the one thing to watch with these instant portfolios is that they’re not actively managed. This means you will need to keep an eye on the performance of the underlying funds and ditch them when appropriate (for more information on this see the fight the flab workout). McDermott adds: “Our customers receive two statements a year that include a fund review telling them whether to buy, hold or switch, which can help them decide whether they need to adjust their Easy ISA portfolio.”

As well as making sure you have a diversified portfolio, you may also want to consider a gradual return to the stock market with a regular savings strategy. These give the advantage of pound cost averaging as Nick McBreen, a consultant with IFAs Worldwide Financial Planning, explains. “Each month the number of units you’ll buy will depend on the price,” says McBreen. “So, if the market has dropped, you will buy more units. This means you’ll benefit more when the market rises again.”

Taking this gradual approach also gives you more flexibility. Contributions can be stopped, started, decreased or increased whenever you want. Minimum monthly contributions vary but tend to be between £50 and £100 for each fund.

Workout summary

1. Decide how much you want to commit and how often.
2. Go for good, diversified exposure.
3. Follow the next three workouts when necessary.
4. Allow at least five years to see the results of your endeavours.

Tone up your portfolio
(or how to build an investment portfolio and ensure it fits your investment objectives)

For far too many investors, the term “portfolio” simply describes a collection of funds that were flavour of the month whenever it was time to invest their ISA allowance. It will probably contain a technology fund, a corporate bond fund, a smaller companies fund as well as something Japanese, and it’s exactly the sort of thing that gives investment analysts ulcers. “Your portfolio needs to reflect your attitude to risk as well as your investment objectives,” explains McBreen.

Of the two, assessing your investment objective is probably the easiest, especially as there are only really three main ones – income, growth and – no surprises here – a combination of income and growth.

Which is most suitable will depend on your lifestyle; for example someone saving for retirement would go for growth to build as large a fund as possible. However, once they reach retirement and want to tap into their fund, a switch to income would enable this.

These different objectives will be reflected in the types of funds you hold, as Hughes explains: “For a growth investor I’d recommend they held between 60 per cent and 70 per cent in equities, 15 per cent to 20 per cent in commercial property and the remaining amount in bonds. Conversely, for an income investor, I’d skew the portfolio more towards bonds, with up to 80 per cent invested in these types of funds.”

Although these percentages give a good idea of what your portfolio should look like, it still leaves you with hundreds of funds to choose from. This is where risk comes into the equation.

To make life easier, the fund supermarkets and discount brokers can also provide risk ratings on all their funds, allowing you to see instantly whether you can expect sleepless nights or volatility no more turbulent than you’d get from a building society savings account.

Diversification also plays a part in managing the risk in your portfolio. Three key areas are important for diversification. Firstly, there’s the class of asset, either equities or bonds. Then there’s the geographical area, and finally the market capitalisation – the size of a company judged by the current value of all its shares in issue. “If your portfolio is well diversified you will find that, over time, when one part is doing badly another will compensate for it by performing well,” explains McDermott.

Also temper diversification with your risk profile; an adventurous investor may be happy to include Outer Mongolian smaller companies in their portfolio.

But, if you’re not, then just make sure you’ve got a broad spread of the companies you are happy to invest in, for example smaller UK companies as well as the large blue-chip ones. “As a rule of thumb the closer to home the investment and the larger the company size the less risk it will present,” says Hughes.

And don’t become obsessed with building a portfolio that contains pages and pages of funds – unless you want to. “If you’ve got five or six funds don’t be afraid to cut them back to two or three funds if they fit your investment objectives and give you sufficient diversification,” adds Chartwell’s Ryan Hughes. “Monitoring a large portfolio can be very time consuming.”

Workout summary

1. Determine your investment objectives.
2. Determine your risk profile to provide an indication of the type of funds you are happy to invest in.
3. Compare your current portfolio and switch where necessary (see personal trainer or gym workout).
4. Repeat alongside the fight the flab workout or whenever your investment objectives change.

Fight the flab
(or how to lose the dead weight in your portfolio)

Carrying a poor performer or two in your portfolio can drag down performance, so it’s well worth giving your portfolio a thorough health check at least once a year. “You won’t necessarily need to change anything but it’s worth checking none of your funds have turned into poor performers,” says Hughes.

Identifying when a good performer has gone bad isn’t easy though, especially as, once spotted, it could mean overcoming the emotional issue of selling them at a loss.

Studying performance is the best way to spot them. “Don’t just look at absolute returns; look at discrete one-year periods too,” says Justin Modray, investment adviser with IFAs Bestinvest. “This gives a better idea of whether a fund is consistently bad or has just had a bad year. Ideally you want your funds to be in the first or second quartile, year in year out; lower than that and it’s below average.”

It’s also sensible to look at how your fund’s performance stacks up against similar funds. “Compare your fund to others in its sector as well as against the benchmark index; for example, if you have a UK fund, compare it with the FTSE All Share,” adds Modray.

Gauging how much bad performance you should tolerate is tricky. Modray cautions against letting a short spell of poor performance force a sale. “It could simply be because the fund manager’s investment style is out of favour with the market,” he says. “You need to ask yourself whether it’s worth keeping faith in the manager or whether they’ve lost the plot,” he explains, giving Neil Woodford as a prime example of this. “Woodford shunned technology as it didn’t fit his investment convictions. This meant his funds performed badly when technology was doing well in the late nineties. But when it later bombed, his convictions were proved correct.”

The departure of a star fund manager is another reason you might want to consider switching funds. Money will often follow managers around when they change fund management groups but opinion is divided about whether you should do this. McDermott believes that, in most cases, it’s worth following the manager but adds a caveat: “I wouldn’t worry if I knew the fund was being run on a strong team basis with plenty of analytic research backing them up. Then it doesn’t matter who’s in charge.”

McBreen is even less convinced about the need to flatter the fund managers by following them around: “Watch what’s happening, but remember that it might even be good to stay.” As an example he cites the Credit Suisse Monthly Income fund. With this, when star manager Bill Mott stepped down everyone thought it was over on the performance front, but his replacement, Leigh Harrison, had been working alongside Mott for a couple of years so the fund’s strong performance continued.

Unfortunately though, no one wants to keep poor performers in their portfolio, however strong the convictions of the manager or the abilities of their replacement. Modray recommends that if a fund has been performing badly for a year, this is normally enough for you to keep an eye on it. “If it shows no signs of improving by the end of the second year then cut your losses and move to something else,” he adds.

Charges are also worth considering when switching. “Check what it’ll cost to move,” warns McBreen. “If you have to pay a 5 per cent initial charge again then you have to be sure the new fund’s performance will justify the move.”

And you needn’t spend ages tracking every funds’ performance yourself either. If you use an IFA, they can help you weed out the poor performers during one of your annual reviews or you could use the portfolio tools included with many of the fund supermarket and discount broker services. For example, Bestinvest has a Spot the Dog guide, where funds are labelled as dogs when they have underperformed the benchmark in each of the last three years and by at least 10 per cent over the three-year period. Similarly, Chelsea Financial Services provides its customers with a list of funds aptly named the ‘relegation zone’. “If a fund’s been in the third or fourth quartile for three consecutive years, it’s out,” says McDermott.

Free copies of both guides can be obtained through their websites, and

Workout summary

1. Check your portfolio for any signs of unsightly poor performance.
2. Monitor poor performance to be sure it’s not a
temporary blip.
3. Switch to a better performer if it shows no signs of improvement, but check that the charges won’t eat into your new improved performance.
4. Repeat step 1 once a year, following it up with
steps 2 and 3 where necessary.

Personal trainer or gym?
(or where to go to limber up your investments )

How you buy your investments can make as much difference to your future wealth as what you invest in. Initial charges can vary from zero per cent to more than 6 per cent, giving you a substantial performance hurdle to overcome if you plump for the more expensive options. Additionally, dependent on how you buy you can also enjoy advice and free investment analysis tools and research.

“The choice is very simple now,” says Interactive Investor’s Martin Campbell. “If you’re happy to make your investment decisions yourself then go to a fund supermarket or discount broker. If you want advice, go to an IFA”

Fund supermarkets such as Funds Network and Interactive Investor and discount brokers, which include Bestinvest and Chelsea Financial Services, give you access to hundreds of different funds from tens of different management groups. Most importantly, charges are low. McDermott explains: “We’ve negotiated deals with the fund management groups so often that the initial charge will be zero per cent or the creation price rather than the 4 per cent or 5 per cent that is quoted.” This means it is cheaper not only to buy new funds but also switch between them.

They also include a wide range of tools such as risk analysis, fund ratings and research to help you invest and review your portfolio. Campbell adds: “One of the key tools on our supermarket is the ISA Assistant. By answering a series of questions such as ‘what is your attitude to risk’ and ‘are you looking for income’, it narrows down your choice of funds.”

Both fund supermarkets and discount brokers will also send you six-monthly statements, detailing your portfolio and, although they won’t offer advice, will provide sufficient information to enable you to make your own investment decisions. “Customers receive a review on all their fund holdings including a buy, hold or switch rating,” explains McDermott.

If you don’t want to do the legwork yourself, a good IFA will be happy to construct a portfolio for you and, as they are often paid ongoing renewal commission by the fund management houses, provide you with annual reviews. “I’d recommend using a fee-based IFA,” adds Hughes. “It’s not in their interest to recommend products because of the commission they’d receive.”

Also check that they can access low charges. Many who use fund supermarkets will have negotiated special terms with the fund management groups.

But there’s one place you definitely don’t want to go – direct to the fund managers. “This is the worst thing you can do,” says Hughes. “They’ll charge you the full initial fee and if you get any advice it’ll only be on their own range of funds.”

So, unless you’re happy to start off as much as 6 per cent down, avoid the advertisements, banks and anyone else, including some IFAs, who want to charge the full initial charge.

Workout summary

1. Go to IFA, fund supermarket or discount broker.
2. Take full advantage of their lower costs, tools, investment information and, in the case of IFAs, advice.
3. Never, never, never buy direct from the fund manager.