Investing over four years...

Voyager2002

So my total investment 'pot' is just under 200,000, and in about four years time I will need to pay off an interest-only mortgage of 55,000. Do I (a) maintain a highly diversified portfolio of equity investments, given that it is likely that at least some sectors will be up when I need the money so that selling to get what I need would not be a disaster; or (b) put 55,000 into something equivalent to cash or at least in a low-volatility sector such as infrastructure?

Oh: I have only dipped my toe into peer-to-peer lending and tend to think that the risks of this activity, particularly how it would perform in a downturn, are unknown. Any differing opinions?

Keep_pedalling

Why not pay off the IFM and invest the rest?

capital0ne

Voyager2002 wrote: »

So my total investment 'pot' is just under 200,000, and in about four years time I will need to pay off an interest-only mortgage of 55,000. Do I (a) maintain a highly diversified portfolio of equity investments, given that it is likely that at least some sectors will be up when I need the money so that selling to get what I need would not be a disaster; or (b) put 55,000 into something equivalent to cash or at least in a low-volatility sector such as infrastructure?

Oh: I have only dipped my toe into peer-to-peer lending and tend to think that the risks of this activity, particularly how it would perform in a downturn, are unknown. Any differing opinions?

Option (a)

Audaxer

I would choose the first part of option b:
(b) put 55,000 into something equivalent to cash

ColdIron

If you have two objectives it makes sense to me to structure your 'pot' to satisfy both objectives rather than take a chance with what you have working out for the two. The obvious problem with (a) and a near term fixed obligation is that conditions may be against you and you may be forced to sell at depressed prices leaving you with a smaller pot

bowlhead99

capital0ne wrote: »

Option (a)

Audaxer wrote: »

I would choose the first part of option b:
(b) put 55,000 into something equivalent to cash

Hmm, dissention in the ranks!

At the moment, the debt obligation is circa 27.5% of your investment pot. You could use 27.5% of your investment pot in cash or near-cash instruments, to cover that debt, leaving about £145k left over.

Imagine the retuns on the 'highly diversified equities' for the next four years are a random walk which goes +3%, -2%, -38%, +9%.

As a result, your £200k will turn into £136k.

So, instead of using 27.5% of your investment pot to clear your mortgage, you will have to use 40% of your investment pot to clear your mortgage. Leaving you with only about £80k of investments at the bottom of the market slump, from which to recover. From there you would need about 80% positive returns in the future years to get your pot up to the 'debt settled and £145k of investments remaining'. That could take some time.

If market returns are worse (and you are probably aware that it would not be impossible for global equities to fall by 50% or more from peak to trough in a given period of say a year, year-and-a-half period) you would be looking at spending an even bigger proportion of your wealth on settling the debt.

So, you have a choice: move 27.5% into cash or 'safe' assets over the coming months to ensure your debt will be covered when it falls due; or risk using up a lot more than 27.5% of your assets to clear the liability.

Of course, the 'risk' or 'gamble on 4 years stock market return' method could produce a positive or negative result. General consensus among any competent financial advisors reading would be not to use 100% equity products (and quite likely, not even use investments at all) for a fixed 4-year objective.

One factor worth considering - how likely is it that the interest-only debt *must* be settled in 4 years, rather than being able to be kicked down the road on another product (interest-only or repayment basis)? You could perhaps clear some of it and leave some of it running. It is of course wise to have a plan to deal with the debt, but dependent on your personal circumstances and credit conditions at the time, settlement may not be the only option.

IMHO you are sensible to recognise that p2p has only really existed over a period of time in which interest rates are falling and asset prices (house prices, bonds, equities) rising.

There has been little real terms growth in wages over the last several years and people have not really built their emergency funds back up from the credit crunch days, yet they are still being offered 3% (0% in real terms) on unsecured £15k loans at high street banks such as Sainsburys, or 3 years 0% balance transfer rate on a Tesco or Virgin credit card. So, if a borrower is short of funds but wants to clear off his p2p debt by moving it to a mainstream lender, he can do so. If that crutch disappeared, he might default on his unsecured p2p debt in preference to defaulting on his mortgage or his other debt.

So unsecured p2p loans to consumers could have an uncertain time in a recession or credit-crunch period; and asset-backed business loans may turn out to be less fruitful than hoped - or some platforms might fail causing huge hassle and outright losses even if many of the underlying borrowers are sound. P2P could form part of a balanced portfolio of course, but I wouldn't use it for all of my 'near cash' funds for settling the mortage being called in.

Finally, you mention infrastructure as being low volatility. This can depend on the infrastructure asset in question. For example, supplying electricity is not too cyclical, we all need it even in a recession. However a ports or logistics business might have much more cyclicality with the wider economy. And even within infrastructure sectors, some infrastructure projects can give you a more 'bond-like' return over time, while others are heavily debt-financed and offer a (modest) equity-like return profile.

First State's global listed infrastructure fund (which just invests in shares of listed infrastructure companies around the world, like National Grid or East Japan Railway) is up over 100% in sterling terms in five years. Something that can double in five years could certainly drop by a very big percentage, so would be a bit reckless to pile £55k in that and hope it would still be there in four years time.

As an alternative, probably what you mean is investing into investment companies which invest directly into infrastructure projects rather than into listed infrastructure companies - would include things like INPP, HICL or John Laing. But while such investment vehicles have had a good run, there are still possibilities for things to go wrong and the price you have to pay to buy a share (or what you could get back by selling a share) could be different from the underlying asset value by a double-digit percentage, that premium or discount depending on supply and demand. They tend to go up in value when other assets with decent income yield get expensive, as is currently the case.

One of the things you mentioned was 'highly diversifed'. Diversification is useful. If you are not sure which way you would lean (in terms of taking the risk that it costs you 40% of your assets to clear the mortgage instead of perhaps only 20% if you have a lucky run for the next few years), then you could perhaps do 'a bit of both'. I tend to agree with Coldiron in terms of having some of your pot positioned for the long term and some positioned for your short term obligations.

Good luck with whichever way you end up going.

Alexland

Audaxer wrote: »

I would choose the first part of option b:
(b) put 55,000 into something equivalent to cash

I would agree unless you can arrange an extension to the mortgage such that you can still repay 'early' in 4 years without penalty or later if you need to wait for markets to recover. If so I would organise the extension now as the lender may not be offering it when you need it.

Alex

ValiantSon

Is there an advantage in keeping the mortgage for another four years and paying the interest on it over that time? While you may be making much better returns on the £55,000 with your investments, it is conceivable that you could see those fall considerably. As I see it you are currently in a situation where you have effectively borrowed to invest. Personally, this isn't something I would be comfortable with.

If it were me I would pay the mortgage off now and then start investing the money saved every month on interest payments.

Alexland

ValiantSon wrote: »

As I see it you are currently in a situation where you have effectively borrowed to invest. Personally, this isn't something I would be comfortable with. If it were me I would pay the mortgage off now and then start investing the money saved every month on interest payments.

Many people are in this position when they invest in Pensions and ISAs alongside repaying their mortgage. It looks like the OP has around 4x cover so I doubt they are loosing any sleep at night.

It doesn't really work when market returns are low or negative but over long periods of time investments should outperform the mortgage interest rate. The only problems are the OP is running out of runway on the mortgage and returns are likely to be low in the medium term.

Alex

ValiantSon

Alexland wrote: »

Many people are in this position when they invest in Pensions and ISAs alongside repaying their mortgage. It looks like the OP has around 4x cover so I doubt they are loosing any sleep at night.

It doesn't really work when market returns are low or negative but over long periods of time investments should outperform the mortgage interest rate. The only problems are the OP is running out of runway on the mortgage and returns are likely to be low in the medium term.

Alex

That's kind of my point, though. Risking loaned capital so close to when the capital is due to be paid back is not a great position to be in. There's a difference between this position and investing spare cash each month while paying off a repayment mortgage. Equally, if an interest only mortgage had been bought and an S&S ISA (plus other investments?) was the vehicle for repaying the capital then, over the life of a standard 25 year mortgage, there wouldn't be too much to worry about (assuming sensible management of those investments and de-risking over time).

Four years is a pretty short time frame to be considering risking the capital over. Unless the interest rate is so low that even in a savings account they are better off holding on to the £55,000, then paying the mortgage off now and then rebuilding investments with the saved interest payments makes more sense.

They may currently have four times that which is owed, but they may not in four years time. I'm sure that, even with terrible market conditions, they will still have enough to cover the debt, but they may not have a lot else.

Alexland

ValiantSon wrote: »

They may currently have four times that which is owed, but they may not in four years time. I'm sure that, even with terrible market conditions, they will still have enough to cover the debt, but they may not have a lot else.

Yup which is why I suggested extending the runway by trying to arrange a mortgage extension which could be used if required. Still the OP is an experienced forum member so I am sure they won't let themselves get into that worst case position.