Questions for IFAs

But I suppose there, there was always the risk there that the endowment wouldn't cover the mortgage amounts. Whereas the Vanguard LS are a diversified, multi-asset passive fund with diversified risk, so relatively 'safe' as far as investments go, if you have the nerve to hold.

The investment funds on endowments were broadly similar. Indeed, in unit linked cases, the most common fund used was the multi-asset 40-85% equity fund. If you had used VLS in an endowment (had it been possible) the endowments would still have run short. The problem was not the investment return. It was the target growth rate required that was rigid and couldnt cope with the changing economic position of the UK.

So the problem was that (in effect) the aims were not realistic, rather than being any reflection on the performance of the assets themselves.

Correct.

Why did people fall for this? I mean, as you know, I am no economist. But even before I started dabbling I knew that Elliott Nelson described the cyclical nature of economies and that Mr Brown was talking out of his hate when he said 'No more boom and bust'!

Endowments had never fallen short using those target growth rates. You have to remember that the UK was very different in the past. High inflation, frequent boom/bust and a pound that was in decline almost continuously, meant gross investment returns were consistently higher than the target growth rates. The stabilisation and rebuild of the UK economy (which began in the 80s) meant that gross investment returns began to fall. These things are largely hindsight and you couldnt predict. This wasnt about saying what could happen over an economic cycle. This was a complete change in the economics of a country.

Modern investment products would have been able to adjust as they could tell you to pay in £x more to hit target based on a revised target growth rate. Endowments couldnt as they were set at the outset. So, when people were starting to pay much less on their interest only mortgages (in the hundreds of pounds) if the product had been more flexible, they could have taken £25-£50 of that money saved and put it into the investment element and the plans wouldn't have fallen short.

There were several other issues. The removal of LAPR. Tax relief on life assurance. It was removed for new plans but reduced and eventually culled on existing plans that had expected it to be there for the term. MIRAS was mortgage interest relief. That made endowment mortgages much cheaper than repayment. When that went, endowments were often still the cheaper option (which is why most chose it). The regulator forcing insurance companies to target solvency before returns in with profits funds following the equitable life mess saw most of the funds pull out of equities at a low. Some WP funds have still to recover to their pre 2001 position.

One thing many do not realise is that people are so much better off for change in economics that occurred. Yes, their endowment fell short but their monthly payments went down, their house value increased faster and the lower inflation aided the standard of living. £20pm difference in monthly cost over 25 years is £6000. That is a typical endowment shortfall figure. Yet those people were seeing their mortgage payments hundreds of pounds lower (and dont forget that £20pm was typical of the lower cost of the endowment mortgage vs repayment mortgage and finding £20pm at the start was harder for many people than finding £6000 at the end - remember inflation. £20pm in the 80s was about 5% of your annual income).

Finally, complacency set in. Endowments had been around for generations and had always paid out big surpluses. I remember seeing maturities that were 4-5 times their target level. They were a risk but it was a risk that had never failed. So, the view of the risk fell away. Until they failed and then people look back with hindsight and point out the risks that had been forgotten or not foreseen.

One area of concern for the future is going to be pensions and income drawdown. You can see it already. You could think of income drawdown as an endowment in reverse. It people are too rigid on their drawdown and take too much and the investments do not hit their target growth rate, then they could have problems in the future. These few good years are going to put people into a false sense of security. You watch the media after the next crash and you will see very quickly how they report people losing their pension income because they handnt factored in loss periods and their pension will run out as they have lost money. The media will blame everyone apart from the person but it will be the person that is at fault.

What this should tell you is do not assume anything long term and keep things flexible and build target figures with low projections even if you have a history (short or long) of beating it.

Jon_W wrote: »

A great insight, thanks for that. Was there no escape route for those tied-in to endowment mortgages? I'm guessing not else people would have taken them when the economic rebuilding started to occur.

I don't know if anyone was 'tied in' to an endowment mortgage. There was an escape route, which many, myself included, chose to take. It was possible to switch to either full or part repayment mortgage. I switched to full, and managed to pay off my mortgage several years before the Endowment matured. The final value of the Endowment was 75% of the target amount.

I'll leave others to answer the second part of your question.