The following guest post is by Mark Meldon – our favourite independent financial advisor (in an admittedly narrow field!) Now and then we persuade Mark to explain some of the more obscure or technical corners of personal finance.

I believe it’s worth us returning to the topic of life assurance – one of the essential matters that Monevator readers need to consider on a regular basis.

There seems to be some mass incoherence amongst the general population when it comes to confronting our mortality.

People – willfully or otherwise – forget that we all dangle by a very thin thread.

The result is that taking out insurance to protect dependants by creating a tax-free pool of money to replace lost income is an option simply ignored by millions of us.

Many independent financial advisors (IFAs) don’t bother with insurance either, as they say it isn’t profitable.

That’s crazy – and irresponsible – in my view.

All of your sexy investment and pension plans can soon turn to dust should disaster strike. For the sake of paying very modest premiums – for something I sincerely hope you never need to use – you can cover off that risk.

You hope they don’t pay

On a more positive note, there is plenty of money going out to beneficiaries who’d surely back up what I’m saying.

In 2017, Aviva paid out £525m in death claims, Legal & General £636m, Royal London £517m and Zurich Assurance £235m. AEGON recently stated it paid out £67m in 2018.

These companies are some of the largest providers of life cover in the UK, but others are available in what is a fiercely competitive market.

It’s also interesting to note that policies arranged through an intermediary such as an IFA tend to have a much larger sums assured. I’d hope this is because careful thought has gone into the amount required by a given individual, as opposed to a scattergun approach.

I am, however, concerned that something like 85% of life insurance policies arranged each year are not set up properly at outset. This can cause severe difficulties in many circumstances.

It is all to do with ‘writing’ the policy into a trust. The recent deferral by the government of proposed big increases in probate fees set me thinking more about this.

The suggestion of an increased liability for IFAs like me for failing to take reasonable steps to ensure that life policies are protected from probate is of serious concern to me, my family – and my professional indemnity insurers.

Let’s hope that the ambulance chasers don’t get involved.

Unmarried couples beware!

Mind you, with average life policy sums insured still far below £200,000, inheritance tax is unlikely to be a big problem for most people.

But something else really could be.

Let us say that you took out a life policy with a sum assured of £250,000 because you have just become a parent. Imagine your partner did exactly the same.

Sensible. You bought the policy with every good intention, either online or, perhaps, through an IFA. You’ve been paying your premiums ever since.

Job done!

Or is it?

Like many couples nowadays let’s say you’re not married but rather cohabit a house with your growing family. Sadly, you then die.

How would you feel if, on your deathbed, you realised that your soon-to-be-bereaved partner for whom the life cover was intended stood to get nothing at all – a 100% loss, of typically around £150,000?

This doesn’t happen because your policy provider declined the claim. Rather it happens because your policy wasn’t set up properly.

Well I’m afraid that this is what can easily happen to unmarried couples, because the sum insured would fall back into your estate and be subject to your will or the laws of intestacy.

It could then end up in the hands of the wrong people who might – just might – refuse to hand the money over to the person you intended it for.

Yikes!

Use a trust

Until a few years ago this was a very small problem. Most life policies arranged by new parents – or those with joint liabilities such as mortgage payments or the rent – were joint life policies.

These joint life policies paid out to the survivor after the first death.

Besides, even if a single life policy had been arranged most couples back then would have been married and the laws of intestacy – or their will, assuming that had one – would have likely saved the day.

So much for yesterday – what about today?

Anecdotally, something like 70% of life policies arranged nowadays are arranged on a single life basis. There may be good reasons for this. But it presents a big problem for the growing number of unmarried couples who just don’t understand how important it is to set their policies up correctly.

The solution is to write the policy into a trust AND make sure that there is at least one trustee – hopefully the partner for whom you bought the policy in the first place.

Prepare properly for the unthinkable

The proportion of couples that are unmarried continues to increase. The highest share is among the age groups who already have small children, and who are first-time buyers or renters.

According to the Office for National Statistics, nearly 40% of unmarried couples have a male partner aged 30-34. Some 70% of children are born with a father aged between 25-39.

Yet research from Unbiased found in 2017 that 72% of 35-54-year olds don’t have a will!

Even if you have a will – and you really must – don’t forget that it can be challenged. And it still has to go through probate and, perhaps, inheritance tax calculations.

According to the recent British Social Attitudes Survey, approximately 50% of couples wrongly believe that there is such a thing as a common law marriage. There is no such thing!

Hence, I find it almost unbelievable that only around 7% of life policies are set up wrapped in a trust when, in truth, nearly all should be.

Case study: Second time around

It is quite common, nowadays, for relationships to be very different from our grandparents’ time because of marriage or cohabiting breakdowns, and these often involve children.

Indeed I have just been dealing with a situation where simple life insurance has been employed to solve a tricky problem as a new relationship beds down.

It is all about ‘financial input’ – cold-blooded as that phrase is – and unforeseen consequences.

One of my clients, let’s call him John, is a lovely chap. Sadly, John’s first wife died ten years ago at a young age, leaving him with two small children to raise on his own. His late wife carried substantial life insurance, and there were generous pension benefits, too. John has raised a fine pair of young adults who, I’m sure, will go on to lead successful lives.

Time is a great healer. John is now closely involved with Jane and, I’m pleased to say they intend to marry next year.

Jane is divorced and has two younger children from her previous relationship. Because of their ages, there won’t be any new children. They each own houses – Jane’s with a mortgage – and they would now like to purchase a property together and set up a new family home.

Very fortunately, they are looking at properties around the £1m mark, as the life insurance that paid out 10 years ago has been invested and produced good returns.

Of this £1m budget, the input from John will be about £800,000, and from Jane £200,000. Quite understandably, they both wish to ensure that their own children receive their ‘due’ when they die, so they are arranging with their excellent solicitor to purchase the new property as tenants in common, with John initially owning 80% of the new home, and Jane 20%.

So far, so good.

However if one or the other of this couple should have the bad timing to die sooner rather than later, it creates a problem for the survivor as far as paying the kids’ inheritances are concerned.

Jane has not got £800,000 available to buy out John’s children’s financial ‘expectations’ and, although John would be able to dip into his funds to cover those of Jane’s children, he would prefer to avoid having to do so, as the money should pass to his own children.

I therefore suggested that John purchase £800,000 of life cover to age 70 (by which time they might be thinking of downsizing and so on) and Jane £200,000 on a similar basis.

These policies have been set up with John’s children as the ‘named beneficiaries’ on his policy and Jane’s children on hers. The insurance will be in a ‘flexible trust’ from the outset, with each other being appointed as trustees. We have also appointed another independent trustee who can act as ‘overseer’ should a claim unfortunately arise.

If John dies whilst the policy is in force, the £800,000 would be paid out, tax-free, to his trustees (Jane and the referee trustee), thus giving Jane the funds to ‘buy-out’ John’s children’s interests in the property. This would allow Jane the luxury of not having to sell the home to raise the funds to do so.

My couple felt that the monthly premiums of under £150 were a price worth paying for peace of mind, covering off something that they were both concerned about.

Avoiding problems with trusts

Not writing a life insurance policy in trust is pretty daft, I have to say, and that goes for new and existing policies.

I hope I have explained why, for the sake of a bit of thought, you really need to do this.

Happily, this problem is simple to avoid or deal with. Several of the insurers I mentioned earlier have put great effort into getting it done right at outset, with superb online trust documents. Even the ones still using paper-based documents have excellent trust wordings available free of charge.

My suggestion? Check your policies, set up a trust for your loved ones, and write a will. And if any of this seems difficult, ask an experienced and qualified IFA for help.

Mark Meldon is an Independent Financial Advisor based in Cheddar, Somerset. If you need an IFA closer to home, try the directory at Unbiased. You can also read Mark’s other articles on Monevator.

What caught my eye this week.

They say all publicity is good publicity, but perhaps we’ll make an exception for Neil Woodford. The troubles of the former star fund manager dominated the personal finance news this week like no story I can remember since the run on Northern Rock.

And it’s essentially been a run on Woodford’s near-£4bn equity income fund that’s caused this Sturm und Drang.

For those with better things to do than monitor the latest bungling of the UK financial services industry, a quick recap.

Neil Woodford was a market-beating fund manager for many years at the giant house Invesco. He prospered across several bull and bear markets, and for what it’s worth I think he proved he had skill – or edge, as the pros call it – in as much as we can be sure such a thing even exists.

Anyway it’s a truth universally known that a man in possession of a large fortune, a super public profile, and a proven ability to beat the market generally wants to do it bigger and better. Five years ago Woodford set up his own fund shop in a blaze of publicity and raked in billions. Even the BBC described him as “The man who can’t stop making money.” By early 2017 his equity income fund alone was managing more than £10bn.

Yet scarcely two years later and Woodford’s reputation is in tatters. What happened?

Well, for one thing his returns have been lousy – enough to see his fair-weather fans pull money from his main fund so that by the end of May it was down to £4bn.

But that isn’t the real problem. What did for Woodford was that for reasons that would make little sense to students of financial history – but would be readily understood by, say, the writers of age-old Greek myths – this erstwhile bagger of big blue chips decided to stuff his income fund with a stash of illiquid and unquoted companies.

At first this odd departure wasn’t an issue. But as his mainstream income picks floundered and investors began to withdraw their money, Woodford had to sell assets to meet redemptions. The liquid holdings went easiest, which left a growing rump of harder-to-sell and “what’s it even doing in a Woodford income fund anyway?” fodder piling up on the books. It got to the point where the fund was in danger of upsetting the regulator.

Shenanigans ensued to try to manage down these problematic holdings. Nothing illegal, I stress, but also nothing much to do with the everyday business of running a vanilla income fund.

A few commentators began to warn of a looming crisis, and then one big investor asked for its £250m back.

Eek!

At this point, Woodford – sensibly enough, given where he’d gotten to, but you wouldn’t want to get there – decided to gate the fund, preventing investors from withdrawing their money. Woodford said he needed breathing space to reposition the portfolio without resorting to a fire sale.

The suspension was initially for 28 days, but it can be rolled over if deemed necessary.

Would you believe it?

The result of all this has been shock, anger, fear, gyrating share prices, grave dancing, and the usual dollop of nonsense.

The market had already sniffed out Woodford’s woes, and had been selling down the shares it thinks he’s going to have to unload. This got worse in the days following the suspension. Meanwhile the share price of Hargreaves Lansdown has plunged over the ramifications of the platform championing Woodford’s funds in its Wealth 50 recommendation list. Woodford’s Patient Capital venture-focused investment trust has seen its share price slammed, too, presumably on concerns the value of its holdings will be hit by any liquidation of shared holdings in Woodford’s main fund. (Ironic, given that an investment trust is exactly the right vehicle for long-term investment in illiquid assets.)

Meanwhile press and pundits – or at least those without egg on their face, or the chutzpah to talk through it – have endless perspectives on the urgent takeaways from Woodford’s downfall.

Merry Somerset-Webb in the FT [search result] offers one of best recaps, highlighting the apparent hubris behind some of Woodford’s decisions. However she concludes by bemoaning his personal money-making over the past few years. That seems to me a bit of a populist take – few complained about Woodford’s pay when he was in the ascendant and clients were shoveling £15m a day into his fund. (In a similar vein there are stories about Hargreaves Lansdown bigwigs making a mint selling shares in the platform in the weeks before the Woodford hit the fan.)

Some see Woodfall’s downfall as proof – amply backed up by all experience and evidence – that active fund management is doomed to mean reversion. The Evidence-based Investor offers a pretty temperate perspective to that affect.

A few believe Woodford’s creep into unquoted holdings is a canary in the goldmine of a wider problem. They warn that pension funds have been similarly encouraged into unsuitable alternative holdings by historically low interest rates – and that they’re just a financial crisis away from being found out. Even the Bank of England governor Mark Carney dropped hints last week.

And then there are the spokespeople and journalists bemoaning how Woodford has tarnished the reputation of all those fund managers who are delivering for their clients. If the financial services industry has done anything wrong, they suggest, it’s in putting the wrong person on a pedestal!

Perhaps the apogee of this is the commentator who blames not Woodford but the FCA for – um – Woodford’s problems, and says the takeaway from the drama should be to “put trusts on buy lists”.

No no no.

We all know what the answer is

Look, I like investment trusts as much as the next inveterate active investor. And it’s abundantly clear that Woodford shouldn’t have had illiquid holdings in an open-ended fund.

But so what? Anyone who believes that the answer to this week’s soul searching is for platforms to tout trusts on the same buy lists that cherry-pick open-ended fund managers hasn’t been paying attention for – oh – the past 20 years.

What all these writers should be saying is: “Forget about active managers! The average investor should simply put their money into a diversified portfolio of cheap index funds. The evidence has shown us again and again that most active fund managers fail to beat the market. Go and read the Monevator website, or that book by Lars Kroijer. Then get a new hobby.”

They don’t for a variety of reasons. As we’ve discovered over the past ten years of blogging about passive investing for a revolving door of readers, the main ones are there’s not much money in it, and there’s not even much of a long-term audience.

Listen, if I was my passively-pure co-blogger, I’d no doubt be penning a screed against Woodford and the very idea of active investing. But The Accumulator never writes Weekend Reading, and his punishment is I get to ride my own hobby horses.

And personally, I understand the pull of active investing. I like stock picking. I read books about great managers. I get it.

But that’s exactly why I recruited my co-blogger to fill the blog full of articles about the boring index funds that people actually need.

The way some have covered the Woodford drama, you’d think index funds didn’t exist. To paraphrase:

• “Investors will wonder where they can turn if they can’t even trust a star like Woodford!”
• “Woodford reminds us that we need to watch our investments like a hawk and ditch losing managers!”
• “You need to know who the investing heroes are of today – not yesterday!”
• “There’s no advice for people who just want a comfortable retirement”.

To which I say:

• Turn to index funds
• No you don’t
• Ignore fund managers because they overwhelmingly fail to beat the market
• Yes there is – read this blog.

Can’t see the trees for the Woodford

There will always be people – like me – for whom investing is a hobby. We enjoy picking stocks, and following the ups and downs of the market.

But we’re the investing equivalent of my brother. He’s a mechanic who likes to get hold of scrap cars to do up over several years in his garage.

Did you drive to work today in a car you built from the bolts up? Do you feel the need to? Are our daily newspapers full of tips about how to refit a dashboard or re-tune an engine?

Of course not. And none of the equivalent fund investing guff in the media or on the platforms is there for the benefit of the average saver, either.

It seems doubtful that Woodford will regain his standing. We’ve seen him scapegoated this week, but we might note that his fund at the centre of all this hasn’t lost much money. It hasn’t wiped out fortunes – it’s just lagged a benchmark and delivered a flat performance. By the pyrotechnic standards of financial scandals, that’s hardly the greatest crime.

The real lesson from Woodford’s woes is you’re better off just tracking the benchmark with an index fund. This is all most people need to hear.

Once the storm passes, however, I’m sure there will be a new Woodford to be feted – Nick Train or Terry Smith perhaps, or as I pointed out last week James Anderson.

Pundits who don’t know (or worse, ignore) that active investing is a zero-sum game will go back to writing illogical nonsense – claiming that the bull market is drawing to a close, and so it’s “time for active management to shine”.

We’ll also hear more from active fund managers about how index funds and passive investing threaten market stability – even as we all gradually forget about the £4bn income fund run by the most famous active manager in Britain that locked-up the money of its investors.

This is ridiculous – investing for the masses is a solved problem.

It’s 2019, and someone saving for their retirement needs a star fund manager about as much as they need a horse.

[continue reading…]

I don’t know about you but I like it when things are made easy for me. Hand me a magic wand with the promise that all my problems are over, and I’ll give it an experimental wave.

And hey presto! BlackRock – the fund giant behind the popular iShares ETFs – has come along with an investing magic wand in the shape of its new MyMap range of funds – here to solve your asset allocation worries.

Each MyMap fund is an off-the-shelf solution known as a fund-of-funds. Essentially it’s a hamper full of index trackers that amount to a ready-made portfolio.

With a fund-of-funds there’s no more fretting about how much emerging markets is too much, or whether to be big in Japan. Such diversification decisions are taken care of by the portfolio manager/fairy.

There are already lots of other fund-of-funds on the market. The gold standard up until now for passive purists has been the Vanguard LifeStrategy range.

And with MyMap on the scene… it looks like Vanguard LifeStrategy is still the gold standard, for our passive purposes at least.

Look into my eyes

As passive investors, we want products that are:

• Low-cost
• Simple
• Transparent
• Aligned with sound financial theory (for example, we will achieve market returns through long-term asset allocation decisions rather than market timing).

MyMap scores well on the low-cost front, but on the latter three points it distracts with a lot of wand waving.

Here’s a summary of what MyMap is touting:

Source: Blackrock

Now those Ongoing Charge Figures (OCF) (rightmost column) are low. MyMap’s 0.17% annual fee compares very well with the 0.22% you pay with a Vanguard LifeStrategy fund. To put that into real money, MyMap would set you back £170 per year on a £100,000 portfolio versus £220 for LifeStrategy.

The table also shows us the asset allocations on offer across the MyMap range where, as always, the critical investing decision is how your money is split between equities and bonds.

We can see the MyMap 3 fund ranks as low-ish risk with only 34% in equities. The range then steps up through the gears to the high-octane MyMap 6, which has 82% in equities.

Ala Peanut Butter Sandwiches

From here on things get cloudy, not to mention smoke and mirror-y.

The MyMap portfolio is actively managed. It’s built from iShares index funds and ETFs, but the Key Investor Information Documents (KIIDs) say:

The Fund is actively managed without reference to a benchmark meaning that the investment manager has absolute discretion to choose the Fund’s investments and is not constrained by any target, comparator or performance benchmark.

You can choose your allocation today but the manager is free to move it all over the map tomorrow. So how concrete are the asset allocations we saw in the table?

BlackRock notes:

Expected asset allocations as of Day 1. For illustrative purposes only and subject to change – there is no guarantee that the above asset allocations will be met. Allocations may change over time.

And this is the nub of our concern.

The reason why billions has flowed from active funds to passive funds in recent decades is because the word is out: asset allocation is what determines most of your results, and active managers – as a group – don’t add value by timing the market.

This means that as a passive investor persuaded by the evidence, I want a reliable asset allocation that is maintained by clear rules.

BlackRock is playing yesterday’s game: We’ve got a secret sauce that can zhuzh up your results!

The volatility targets in the table look flighty, too. From BlackRock again:

There is no guarantee that the Fund will perform as expected and remain within the stated volatility tolerances. The fact the Fund remains within the stated volatility tolerances does not guarantee positive performance.

The volatility management process may reduce the effect of falls in market prices but may equally moderate the effect of rises in market prices.

When markets are volatile, managing volatility within tolerances will [r]equire the asset allocation of the Fund to be changed more frequently than normal. The cost of the transactions required to effect these changes will be met by the Fund and may affect returns.

In other words, the tight ranges listed in the table are marketing. And should the volatility targets corset the manager, your costs could increase because higher investment turnover will incur more trading fees.

One of the advantages of passive investing is that turnover is low relative to active management. A proper cost comparison includes fund trading costs as well as the OCF.

And for my next trick…

BlackRock has been here before with its Consensus funds. This too is a range of fund-of-funds, constructed from index trackers with an active management overlay.

MyMap reboots the Consensus concept with a slicker marketing campaign, a cheaper price tag, and a different coloured wig.

The most intriguing thing about MyMap is the allocation to alternatives, listed as precious metals and real estate in the KIID. The 2% allocation to alternatives cited in the table above would be near pointless, but the small print says the manager can invest up to 15% in alternatives.

I like the idea of extra diversification. However the uncertainty baked in to the arrangement makes me think it’d be simpler to just add a REIT tracker and/or a precious metals ETC to an existing portfolio rather than having to keep checking in on what the MyMap managers are up to.

All hat no rabbit

You may be sensing that I don’t see MyMap as a massive breakthrough for passive investors. True, but even if I was as excited as a koala discovering eucalyptus ice-cream, I’d counsel caution. That’s because BlackRock hasn’t yet published data on the fund holdings.

There’s nothing suspicious about that – the funds only launched on 28 May 2019. But it does mean we don’t yet know anything about the split between global vs domestic securities, say, or how the fixed income side will be diversified across government, corporate, index-linked, and junk bonds.

Once BlackRock shows its hand, we’ll be left with a conundrum. Because these funds do appear to be cheap.

The main argument against active management is it’s not worth the cost. But where does that leave us if MyMaps’ active management is cheaper than a pure passive alternative?

MyMap is marginally cheaper than Vanguard LifeStrategy at the OCF level. Only time will tell whether it can maintain that advantage once transaction costs are tallied and the total cost of ownership is known.

Yet even with that said, control remains a key factor. Is a slim saving worth it when active management decisions could be leading you towards an inappropriate asset allocation?

Personally I think that’s a poor trade-off.

A fund-of-funds is meant to make life simpler and more convenient. For my money, MyMaps introduces unnecessary complexity.

Take it steady,

The Accumulator