And here we are again – Individual Savings Account or ISA season. Prepare to be bombarded with literature and advertisements, highlighting the pros of investing a maximum of £20,000 in this tax-free vehicle. In general the message is a good one – an ISA is an excellent way of investing a meaningful amount of money where any returns are tax-free. This is especially effective when you do this each year and take advantage of the compounding effect. Remember that ISAs do not have to be invested in only cash - a misunderstanding I often hear from retail investors.
A few things to think about:
Do not get psyched out by the somewhat unhelpful advertising message of the investors who now have £1 million ISA portfolios. Go about this in your own way, calmly and with careful thought.
It makes sense to invest in ETFs and mutual funds. Single stocks are good if you have a particularly strong idea and want to concentrate the investment. Mutual funds and ETFs broaden the risk profile of the portfolio and in many cases charge low fees. Avoid paying high fees unless you are looking for a specific skill or discipline that is unusual and can therefor command a higher fee. Retail investors can under estimate the negative impact of high fees on their returns, especially over the long term.
Review your previous ISAs and other portfolios and look for grouping or concentration of your risk. For example, if you have only invested in the FTSE then do you want to add to the bet on the UK? If so, that is fine, but make it a conscious decision. It can be prudent to avoid too much exposure to one particular market or theme - this is also known as ‘diversification’ or not having all your eggs in one basket.
I like to use themes to guide the investment process. It is a useful way of focusing the mind and the investment. This year I will continue with inflation as my major theme as I believe the significant amount of money and stimulus in the system is inflationary. I am looking at ETFs and funds with exposure to commodities and large capitalisation global mining stocks including gold miners. Within commodity funds I am avoiding over exposure to oil and energy as I also like the softs and agriculture as the world’s growing population needs to be fed. To this I will add a little FTSE100 as I am happy to own the index mid 6000s and a small exposure to volatility. Volatility is an interesting instrument as it reacts positively to a pick-up in underlying market volatility or market turbulence, and this will help build in a hedge to my equity investments.
And now on to timing - markets in general are riding high, fuelled by huge stimulus and significant investor positivity. In many cases valuations and market levels are flashing warning signals. It has been historically difficult to call when a market correction will come and this time is no different. To manage this risk, I plan to invest into my ISA gradually throughout the year. This is also known as ‘dollar averaging’ and means there will be an average price to my investments as opposed to one particular day in the year. Come up with a plan that suits you - diarise this and stick to it. This in general is good practice and also protects your ‘mental capital’ – it is depressing and debilitating to sink your whole ISA into a market that then promptly corrects by 20%.
My final thoughts are to enjoy the process and avoid being bullied out of your plan. Check in on your portfolio and do not be afraid to take profits if your investment has achieved its goal or sell if something is not working. This is not rocket science, be confident - if you are smart enough to earn it, you are smart enough to invest it.
To find out more about Saxo’s Stocks and Shares ISA, click here.