Critique (another) investment strategy please

racing_blue

I read a few gloomy articles about interest only mortgages in the weekend papers, and would like the ladies and gentlemen of the jury to cast an eye over our plan please.

I/O mortgage: £400k
ISAs current balance: £113k

Our plan is to continue to invest the full s&s ISA allowance, x 2 adults, each year. We hope this will result in our IO mortgage being fully offset within about 10 years. (Whether we then pay it off is another question.)

If we model 3% growth per year -appreciating that the reality will more likely be a sawtooth- I think the ISA projection would look like this:

2014, £137K
2015, £165K
2016, £196K
2017, £227K
2018, £261K
2019, £296K
2020, £333K
2021, £372K
2022, £413K
2023, £457K

The allocation strategy is buy and hold low cost index funds, with a UK emphasis:

cash, 20%
gov & corporate bonds , 20%
UK large cap, 12%
UK small cap, 6%
UK value, 6%
International lage cap, 12%
International small cap, 6%
International value, 6%
emerging markets, 6%
REIT, 6%

Rebalancing on the hoof with new funds dripped in every 6-8 weeks, and split across 2 platforms

Am I missing anything glaring?

Thoughts and criticisms welcome- thanks.

AlwaysLearnin

The investments certainly don't look ridiculous to me, however I'll leave for other more knowledgable posters to comment.

Two points that I thought whilst reading were:

• Did you consider vanguard life strategy with a couple of side funds. Not your exact allocation, but a trade off with ease.
• As your pot grows, 20% cash will be a lot.

Good luck

Jegersmart

Consider changing to repayment mortgage, it will reduce your risk.

imho

J

Shaolin_Monkey

Using investments to pay off debt is a higher risk strategy, as mortgage endowment customers found out. Just a few things that spring to mind:

If when the mortgage is due to be repaid in ten years, the 'sawtooth' is at a low point and you have a shortfall, will you be in a position to extend the loan, or use other capital to cover the shortfall?

What is the interest rate? If it's more than the 3% growth assumption surely it makes more sense to reduce the debt rather than invest?

What is the 20% cash? Will some of this investment be going into cash ISA's or is it just going to be cash sitting in a S&S ISA account? S&S ISA's don't allow you to hold cash other than that which you intend to invest in something risk based. Cash or money market funds are not eligible investments. The return on cash over 10 years will be negative in real terms as any interest received will not outpace inflation.

What actual funds are you going to use to achieve the allocation proposed? What will you use for "UK Value" for example? Also I don't know of a UK small cap tracker. Or are you just going be using broad funds like say an All Share tracker and these are just estimates of the allocation resulting from that?

Perelandra

3% seems to be quite a low assumption- since that seems to be in nominal terms- and do there's probably quite a lot of prudency built into these figures; 10 years seems realistic, albeit at the whims of the stockmarket's "sawtooth" that you refer to. From the maths, it looks as though you may have assumed 3% growth in the ISA limit each year as well? That would imply zero % real growth in the investments.

I have 2 questions around the cash element, though.

You may want to consider holding the cash element outside of the ISA. There's no particular need to tuck that into a tax wrapper, since you have the Offset mortgage. If you wished, you'd therefore be able to save/invest up to the ISA limit for the other 80%, and the 20% in the offset account (£14,400 each p.a.).

Would your intent to be rebalance this 20%, along with the other investments? If so, it may be difficult to actually do that, since the rebalancing required could be quite large one year to the next, but you won't be able to hold that cash within the ISA (at least not in a worthwhile way).

kidmugsy

racing_blue wrote: »

Am I missing anything glaring?

Yep, a metal that glares when the sun falls upon it, and is to be found in them thar hills.

TCA

Perelandra wrote: »

You may want to consider holding the cash element outside of the ISA. There's no particular need to tuck that into a tax wrapper, since you have the Offset mortgage. If you wished, you'd therefore be able to save/invest up to the ISA limit for the other 80%, and the 20% in the offset account (£14,400 each p.a.).

I'm not 100% sure but I don't think racing blue has an actual offset mortgage, just an interest-only one. But I'd agree with all the points raised on the cash element. What's the purpose of this 20% cash and is the intention for it to sit within an ISA? Is your current £113k ISA balance all S&S or part cash?

Perelandra

TCA wrote: »

I'm not 100% sure but I don't think racing blue has an actual offset mortgage, just an interest-only one. But I'd agree with all the points raised on the cash element. What's the purpose of this 20% cash and is the intention for it to sit within an ISA? Is your current £113k ISA balance all S&S or part cash?

Oops, misread.

racing_blue

Thanks for all the replies

AlwaysLearnin wrote: »

Did you consider vanguard life strategy with a couple of side funds. Not your exact allocation, but a trade off with ease.

Yes, very much so & in fact have about 20% of the total in a Vanguard 100% equity fund. The main reason I haven't plumped for a 60/40 lifestrategy fund is concern about putting all those eggs in one basket marked "Vanguard". I do not know if this a rational concern (the same goes for splitting the funds over 2 platforms?)

AlwaysLearnin wrote: »

As your pot grows, 20% cash will be a lot.

Point taken. I'm kind of hoping that as the pot grows this component will help reduce the risk of failing to meet the investment objective- maybe this is not necessary?

Jegersmart wrote:

Consider changing to repayment mortgage, it will reduce your risk.

Two things steered us away from a repayment mortgage.

First, we don't have the income to max out the ISAs AND repay the mortgage at the same time. And though we have no crystal ball, can see a scenario where we sell our house before the mortgage term ends (we are 2 years into a 25 year IO loan) and buy something a lot cheaper. In which case, a large multi-year ISA pot would trump a sudden house equity windfall, as the ISA income would be tax-free. Does this make sense? I have trouble explaining it I think.

Second, I accept that a repayment mortgage will offer a 100% chance of meeting the objective, but see the "price" as 0% chance of outperforming. To a point, I'm happy to accept a risk of showers if there is a good chance of sunshine!

Shaolin_Monkey wrote:

What is the interest rate? What is the 20% cash? What actual funds are you going to use to achieve the allocation proposed? What will you use for "UK Value" for example? Also I don't know of a UK small cap tracker. Or are you just going be using broad funds like say an All Share tracker and these are just estimates of the allocation resulting from that?

1. Interest rate is less than 3%. fixed until 2016 then variable
2. Cash ISAs
3. I'm basing this portfolio on http://www.merriman.com/PDFs/UltimateBuyAndHold.pdf but trying to find UK workarounds where I can? For the "UK value" I'm using Powershares FTSE 100 RAFI for example.

Got to go but thanks for the replies so far, I'll think about the rest & reply soon

racing_blue

kidmugsy wrote: »

Yep, a metal that glares when the sun falls upon it, and is to be found in them thar hills.

:rotfl: There was some reason why precious metals and commodities were left out of the Merriman article though- i think the suggestion defensives were covered by gov bonds & risk amply catered fow with equities? Maybe something else

TCA wrote:

don't think racing blue has an actual offset mortgage, just an interest-only one. But I'd agree with all the points raised on the cash element. What's the purpose of this 20% cash and is the intention for it to sit within an ISA? Is your current £113k ISA balance all S&S or part cash?

You are right, it is an IO mortgage and it is not an offset mortgage. At the time we took it out the best 5 year fix rate was under 3% and the best fixed term cash ISAs 4%- which seems wrong, but there you go. I guess this is part of the reason why some is in cash. That and the derisking- I like the appeal of a 60:40 equities:fixed income split & wonder if a small scale private investor can consider cash ISAs fixed income?

Thanks again, food for thought

TCA

So your £113k is currently 60:40 equities#cash and your future ISA allocations are in the same ratio, so 60:40 is the end target?