Expat Savings and Investments
Why are we encouraged to save money?
From childhood most of us are told to put away money to save for the future – perhaps for something special; or perhaps to be sure that when we really need something we have the funds to acquire it, without taking on debt. Whether we place your money in a piggy bank, or in a multinational investment house, the aims are broadly the same; to provide for our future needs, and to protect ourselves against unexpected causes of expenditure.
When planning your finances, it is important to distinguish between savings and investments. Savings are generally funds that you set aside, but can be accessed relatively quickly. These savings are often for a specific need or purchase, like a holiday or a new car. The most common way of ‘saving’ is into a bank account (‘deposit’ account) where the money can be accessed in an emergency, and for every £1 you put in, you will get £1 back and possibly some interest.
Investments are designed to be held for a longer term, usually at least 5 years. You need to be comfortable with tying up this money for a period of time, and should not consider investments unless you have some savings in place. Most investments are not guaranteed to return your money in full, although do offer the prospect of potentially higher returns than deposit accounts. Returns, risk and volatility are the factors that will determine a suitable place for your savings.
Savings and investment products range include a simple current account, which may allow a small amount of interest, but facilitates regular payments and withdrawals without detriment to your savings, to less secure alternatives. At the opposite end of the scale would be company shares, where you invest money in a company, with the prospect that the company will prosper and the shares will increase in value over time. Whilst the benefits are potentially high, the risks are also much greater.
Investing and Risk
This page includes some of the good reasons for making investments into ‘funds’ run by ‘fund managers’ on behalf of the investors.
Whether you are looking at investing in a pension, an investment bond or perhaps using a Individual Savings Account (ISA) you might consider using investment funds. Put simply, a fund is a collection of many different peoples money in one place. Buying large numbers of shares or achieving a portfolio of investments may well be beyond most average investors so they, in effect, club together to increase their purchasing power.
Typically these pools of money are run and managed by an investment specialist. The manager is paid to make the day to day decisions of where the pooled money is invested. Rather than individuals (who have no interest in markets and shares, or who don’t have the knowledge or time to study market information) choosing which shares to buy, to hold and to sell and at what time, the fund manager uses their expertise to make suitable investments in order for the value of the pooled fund to hopefully grow over time.
Another advantage of pooled investment is being able to diversify.
Diversification and Risk
All investments carry some element of risk. The value of the fund can fall as well as rise and you may not get back the full amount you originally invest. To enable funds to be able to manage the risks the manager will usually practice some level of ‘diversification.’ This works on the premise that holding two different shares is better than two of the same shares. This is because all shares react differently to investment conditions and changes.
For example, imagine that there are only 2 companies, one company making t-shirts and one company making woolly jumpers. If the weather forecast is for sunshine, then investors would be wise to buy shares in the t-shirt company as they expect demand for t-shirts to increase and sales to rise, increasing the company share price. However, we know that it is not always sunny and therefore a good manager would buy shares in both companies, so when one share price is static or even falling the other is able to support and perhaps offset the falls, meaning that the investor doesn’t suffer a loss.
All investments carry some risk, and the Investing and Risk page includes some information on how we might manage this risk. We can learn more about the particular risks and rewards of different investment funds by looking at their sector and assets in more detail.
All types of shares have different characteristics and these characteristics are complex. Hence there are fund managers within the industry to assess and measure these features and make investment decisions based on their knowledge and market experience.
Investment funds will have a particular aim, and often have a specialist sector which allows them to be compared to other funds of a similar make-up and ensures that the actual assets of the fund (the investments made by the fund manager on behalf of individual investors) remain in proportion with the selected aims and specification of the fund.
Sectors and Assets – The fund sector identifies broadly the areas in which the fund will invest. This can be based on geographical terms, or in a particular industry. For example, there are funds that only invest in UK companies, or Japanese companies, just as there are funds that invest purely in ‘technology’ companies (IT, telecoms etc). In addition to this there are funds that invest in a mixture of asset classes. A typical ‘balanced managed’ fund will have some money invested in shares, some in property and some in fixed interest investments or bonds.
There are so many different asset types in which to invest, and here we look at just a few key areas:
• Bank Accounts – current accounts may offer a very low rate of interest (if any) but they are the most flexible in terms of accessing your money. Banks can also offer savings accounts, with higher interest rates, and also notice accounts with more competitive interest rates, but you may have to give a certain period of notice before making a withdrawal (60 or 90 days perhaps), or you must agree to invest the money for a set period of time.
• National Savings & Investments – these products are backed by the government and operate like bank accounts to a certain extent. There are some tax-free products available and they are generally considered low risk because of the government backing.
• Bonds & Gilts – Bond/Gilt Funds are generally considered to be lower risk than direct equity (share) investment although the value can still fall as well as rise. Bond markets can be split into two categories. Corporate bonds are interest-bearing investments issued by companies and are ‘rated’ according to the ability of the issuer to maintain interest payments and repay the funds lent to it in this way. A corporate bond fund will invest in a wide range of these loans. ‘Investment grade’ holdings within the fund are rated AAA to BBB, whilst stock rated at BB or below is termed ‘junk’ or ‘non-investment grade’ and is sometimes referred to as ‘High Yield’. Some funds also invest in the other category, Government Bonds (known as gilts in the UK).
The income yield that is available from fixed income investments varies according to their quality. Lower quality (junk or non-investment grade) issues usually offer a higher yield to attract investors (as they may be otherwise put off by the increased risk/volatility) whilst gilts generally offer much lower returns; they are underwritten by the government and so the risk of default is much reduced.
• Property – The long-term historic performance of commercial property has very little correlation with the performance of corporate bond or equity based investments. For investors looking to diversify their portfolio, property funds have historically offered attractive returns. Income from commercial property funds is often derived from contractually binding contracts of rent paid by business tenants to occupy property. Consequently leases are often arranged over a long period and generally include an ‘upwards only clause’ which ensures that rents are not negotiated downwards during the lease period, even in times of falling markets.
Added to the rental incomes, property has the added attraction of potentially appreciating in value over time, and although property values do fall, the ‘bricks and mortar’ assets of a fund remain. However, returns from a property fund are not guaranteed and the value of any such investment can fall as well as rise.
Furthermore, because of the nature of property as an asset it may not always be possible to immediately switch or cash-in your investment, because the property in the fund may not always be readily sale-able. If this is the case then a fund manager may defer your request to cash in for a period of time. You should bear in mind that the valuation of property is a matter of the valuer’s opinion, rather than a matter of fact.
• Equities (shares) – Over the long term equities have historically offered better returns for investors than deposits. Although this is not a guide to the future, it is felt that the increased risk of investing in company shares can potentially be rewarded by investment returns in excess of what is available from traditional bank or deposit accounts. However there are no guarantees.
• Investment ‘Funds’ – Specialist investment managers will often manage a fund (a pool of investments) that invests in one or more of the above categories, the aim being to diversify the risk across a spread of shares, or bonds, or both. There are hundreds of investment funds available, each with their own specific aims and objectives. Investment funds can also specialise in one particular sector, such as only investing in companies that are listed on the FTSE100 index, or only investing in construction and mining companies. There are also funds that invest geographically, perhaps only buying shares in Japanese or American companies. Each sector has its own unique characteristics, and your adviser will be able to explain more about this.
All these types of investment are available through your financial adviser. You may be able to include your investment within a tax-efficient product such as ISA (Individual Savings Account) or even a pension. There is a vast array of products available with which to save and invest, so choosing the most suitable one can be difficult. Why not let your Financial Adviser help you to decide which is most suitable for you?
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