In The Spring Budget Phillip Hammond reminded us of the ISA allowance rise. As of April 2017 you can invest £20,000 p.a. into a stocks and share’s ISA (or cash) with all the gains and dividends enjoyed tax free.
The ISA, i.e. Individual Savings Account, is a platform that makes it very easy for anyone to invest – providing you are over 18 (with Junior ISAs available for those under 18). The minimum investment for most ISA platforms is around £25 a month direct debit, or a lump sump of £500.
Before I explain how it works, lets look at an example:
A quick ISA calculation shows that if you invest £100 a month for 10 years and achieve a 7% growth rate – seen as a standard for long term investing – your ISA pot will be just over £16,000. This equates to a deposit on an average home (outside London), or a nice pay off to purchase a holiday or car. Of course the real benefits come from the discipline of putting aside a certain amount each month. Say you are a post-grad aged 20, that same pot will be worth £231,000 when you hit 60. Assuming your income continues to rise throughout your career, and you can afford to invest an extra £100 a month every decade, by the time you are 60 your pot will be worth £409,434. This is a tax free sum, on top of your pension (n.b. don’t prioritise over your pension!). These calculations included a base charge of 1.25% (certain choices may reduce or increase this). As with all investments there is no guarantee of future returns.
How does it work?
Let’s take the Hargreaves Lansdown platform as an example. Once you set up an account and you will be able to begin a minimum monthly direct debit of £25. Every month the company will debit £25 from your bank account and place it into your investments. For the price of a (reasonable) night out you can then get on with life, and probably forget you’re even paying.
Starting out at £25 a month is an easy way to develop exposure to the feel of the markets and enjoy the process of making investment decisions, without the overwhelming fear that you could squander all your money. This is sort of exercise is even more important for the millennial generation, who will typically be faced with defined contribution pensions and thus they need to be comfortable making their own investment decisions regarding the future.
‘I haven’t the faintest idea of what to invest in’. Hargreaves Lansdown have thought of that and they offer a range of ‘multi-manager funds’. For example the ‘Equity and Bond’ fund is run by two managers who invest your cash into an array of investments, with a rough 50/30/20% split between equity/bonds/total return. This is typically a more ‘sleep easy’ fund, as it is diversified across the main asset classes. Other funds with buzzwords such as ‘Specialist’ and ‘Growth’ are higher risk, with ‘Income’ typically being lower risk. Equity is generally riskier than Bonds. Of course if you want a higher return you’ll need to take the extra risk.
‘What are the charges?’ The ‘Equity and Bond’ fund charges 1.39% on top the 0.45% platform fee. Therefore you can expect 45p in charges each month (11p of platform charges from cash, 34p fund charges out of returns). If you decide to invest yourself you can typically expect an average fee of 1.0% + 0.45%. Index trackers cost significantly less, e.g. HSBC American Index charges 0.07%. With evidence showing active managers struggle to outperform their benchmarks, a tracker fund can be seen as a cheap way to play the market.