UK savers took such a hammering over the past 12 months that it is unlikely
that many have given much thought to squirrelling away any extra cash this
year.
But with only two months to go before the end of the tax year, it is time to
decide whether to make use of the tax breaks available within individual
savings accounts (Isas). These allow you to save up to £7,200 a year in
shares, bonds, commercial property or cash, largely tax free.
Over the next nine weeks Isa Insight will be offering tips on how to invest
during these uncertain times, starting with the outlook for the UK stock
market. At first glance, the short-term prospects for UK equities look
shrouded in gloom. The International Monetary Fund expects the economy to
shrink by 2.9 per cent this year - the worst performance of any leading
economy - followed by zero growth in 2010. Combine this with concerns about
UK corporate profitability and the scenario looks pretty dismal.
Chris Iggo, of AXA Investment Managers, says: “The prospect of no growth and
no ability to raise prices does not bode well for corporate earnings growth
or for equity markets.”
Some commentators, such as Julian Chillingworth, of Rathbone, the fund
manager, expect the FTSE 100 index of leading shares to test the recent low
of 3,800, recorded last year. He says: “There will be disappointing
corporate earnings coming through because analysts' forecasts are still too
high. We are also likely to see spectacular bankruptcies.”
However, many City professionals expect the picture to brighten in the second
half of the year, with big implications for investors who have money to
spare for this year's Isa allowance. Most of the experts expect the huge
financial stimulus being given to the world's big economies to start to have
an effect some time this year. They don't know exactly when and warn that
the market could move sideways for many months to come. However, if UK
corporate earnings hit their low point at the end of the year, as expected,
the stock market, which anticipates the direction of earnings by several
months, could turn upwards in the latter part of the year.
Mike Lenhoff, of Brewin Dolphin, the stockbroker, thinks that 2009 will be a
year of two halves, with a grim first six months followed by a better second
half, with the FTSE capable of reaching 5,000 by the year end.
Jeremy Batstone, of Charles Stanley, another broker, is only marginally less
optimistic, with a year-end figure of 4,900. He says: “Share prices are
already discounting a big fall in profits of 35 per cent to 40 per cent, and
share valuations are looking as attractive as they have for years.”
Coupled with very low interest rates the huge amount of money being fed into
the economy should drive up share prices eventually.
So what sectors look the most attractive? Most commentators still favour
defensive plays that tend to hold up well when the economy takes a turn for
the worse, such as healthcare, utilities, tobacco and telecoms.
Large-cap stocks are preferred to small-caps, with a special emphasis on
companies that have strong cashflow and overseas earnings.
At a time when savers in ordinary deposit accounts are receiving rock-bottom
rates of interest, shares that have a high and rising dividend yield look
especially attractive. Rathbone has compiled a list of stocks, known as the
Trendy Twenty, that meet these requirements. They include BP, Unilever and
Diageo.
Mr Lenhoff expects that, asprospects start to look brighter, investors
gradually will move some money out of defensive sectors and into cyclical
areas, such as mining, industrials, retailers and travel and leisure. Mr
Batstone also expects a gradual shift out of defensive stocks and thinks
that mining has been oversold hugely and now looks good value.
However, both warn that this will be a slow process and defensive stocks are
still likely to be in favour at the end of the year.
Commentators also urge investors not to cheer a recovery before it actually
happens, nor to expect any eventual recovery to be unduly strong.But if all
this sounds grimly downbeat, investors may take some comfort from stock
market history. It is precisely when stock markets are testing their low
points - as they are today and as they were in 2003 - that some of the best
buying opportunities occur.
The baby-boomers who make up a large part of the Isa-buying population should
take as their motto some words from Long Time Gone by the Sixties band
Crosby Stills & Nash: “The darkest hour is always just before the dawn.”
Investor strategy - Collective funds ideal for amateurs
There are many ways to gain exposure to UK equities, but one of the most
common is collective funds such as unit or investment trusts. These funds
pool investors' money to buy a portfolio of shares. Most of them are known
as actively managed funds, in which the manager decides on the share
selection.
There is a huge range on offer, from relatively cautious balanced-managed
funds, which invest in a mix of shares, bonds, cash and property, to the
more racy variety, such as special situations funds, which take bigger bets
on individual stocks and sectors.
To guide you through the maze, you may want to call on the services of an
independent financial adviser (IFA). Justine Fearns, head of investment
research at AWD Chase de Vere, the IFA, says that it is a case of horses for
courses. If your chief aim is wealth preservation, she suggests the Newton
UK Opportunities Fund, which is weighted towards defensive stocks and has
limited exposure to financials.
She adds: “For those seeking an income and medium level of risk, the Artemis
Income Fund has a relatively high yield, low exposure to financials and
invests in companies with foreign earnings, which will give a currency boost
to sterling investors. A higher-risk option would be the Old Mutual Select
Smaller Companies Fund, which is potentially more volatile than a large-cap
fund but has produced consistently good returns.”
Among investment trusts, John Newlands, of Brewin Dolphin, the stockbroker,
picks out Scottish Investment Trust as a safe choice, with a very capable
manager and substantial revenue reserves that can be called on in hard
times.
His income choice is Mercantile Investment Trust, offering a yield of 6 per
cent and plenty of growth potential. For a riskier choice, he picks Dunedin
Enterprise Trust, a private equity fund that has been hit very hard by the
fall in share prices but has recovery potential.
Although it is tempting to think that you can pick the best performers from
more than 600 UK unit or investment trusts, some advisers reckon that you
are better off going for a plain tracker fund. These simply replicate the
performance of a particular stock market index, such as the FTSE 100. James
Norton, of Evolve Financial Planning, another IFA, says: “Research shows
that most actively managed funds underperform the market over the medium and
long term, so it makes sense to go for the cheaper trackers, or for
exchange-traded funds (ETFs), which perform the same function as trackers
and are equally cheap.”
Mr Norton likes the look of the Legal & General UK Index Trust.
Those who feel confident of their decision-making ability could assemble their
own portfolio of shares, but they should remember that this is a high-risk
approach and they would require a reasonable spread of stocks, with a
minimum of about a dozen, to avoid the danger of putting too many eggs in
one basket.
Investors of all kinds should remember that it is very difficult to time the
market correctly - to get in at the bottom and out at the top. In fact,
private investors have a long track record of doing the exact opposite. They
tend to pile in when the market is at its peak and then sell out in despair
when the market is hitting a low point.
Colin McLean, of SVM, the asset manager, says: “Even the professionals find it
extremely difficult to time the market, so it would certainly be unwise for
private investors to attempt it. Instead, they should drip-feed their money
into the market.”
A good way of doing this is to set up a regular monthly investment plan with a
unit or investment trust.
Don't leave it too late to turn optimistic
Sir John Templeton, one of the smartest investors of the past 100 years, said
that the time of maximum pessimism is the best time to buy. And with
investors running scared, now looks like the perfect time to reaffirm this
sage advice.
History has proved time and again that the best time to buy shares is when no
one wants them. In 1939, on the eve of the Second World War, Sir John
borrowed money to buy shares in 104 beaten-down companies, including 34 that
were in bankruptcy. Talk about investing at a time of maximum pessimism. As
he predicted, he came out smiling. Only four of the stocks became worthless
and he made large profits on the others.
Have we reached that point of maximum pessimism again? It would be foolhardy
to say for sure, but it can't be far off. So as mad as it may sound, these
early stages of the recession could represent the best time to invest.
Remember, the stock market is forward-looking: just as shares predicted the
economic slump, they will also predict the upturn well before it happens.
Wait until you see light at the end of the tunnel and you could miss out.
Investing a large lump sum in shares may be too much of a leap of faith, but
it certainly makes sense to start drip-feeding money into the market.
With Sir John's words of wisdom in mind, it is certainly time to start
preparing for a recovery, even if it could still be some way off.
David Budworth
