Lowes Magazine Issue 115

PLANNING

Fear and the stockmarkets Lowes has written many times before about how fear of losses lead to investors making the wrong decision in times of stress. Investor behavioural studies have shown that losses have far more effect on us than our wins. Hence, when markets fall, the biggest threat to an investor’s wealth can be themselves. The knee- jerk reaction to stockmarket crashes is to take money out of the markets. However, often by the time that is executed the worst is over and all the investor is doing is cementing their losses – hindering their ability to recover from them when markets rise again. This hit to overall wealth can be particularly devastating where retirement income is involved. Chasing quick wins Equally as dangerous is chasing the stocks and sectors that are burning brightest at this moment, along with the rest of the herd. This can result in paying over the odds for investments and risk losing money as the market in that sector corrects. If we take the technology sector as an example, one very successful technology fund recently had to soft close its doors on new investments to protect existing investors because it couldn’t effectively place the new money. Trying to time the markets by jumping on and off investment bandwagons at exactly the right time to maximise returns is very difficult to do and rarely executed successfully. With both these scenarios, we advise our clients to think long term, to accept that stockmarkets will go up and down and not to panic or take extreme actions but to stay invested, to catch the eventual uptick in the market and benefit from what history tells us, that over time stockmarkets rise. Intergenerational wealth transfer The UK economy has been significantly impacted by the Coronavirus crisis and months of lockdown. UK GDP has fallen dramatically and Government debt has increased through furlough payments and other expenses related to combating the virus. With GDP down, effectively the wealth of the nation, the Government’s ability to borrow money reduces as does its bargaining power on interest rates. Consequently, it is almost certain we will be facing rises in taxes, or reduction in reliefs and exemptions in future Budgets. This invariably prompts people to pre-empt hikes in tax rates by transferring wealth between generations under the current tax rules – on the basis of better the devil you know. While this may seem a good tactic, actions driven by fear of an event often are not the best ones. There are three fundamental issues that need to be considered. Firstly, the result giving wealth away can have on an individual’s long-term finances and their looked for lifestyle in coming years, and particularly in retirement. Giving away capital now will reduce a person’s ability

to create wealth over time. Calculating potential growth based on past performance cannot be done with any certainty – we should remember that the global markets have experienced an 11-year bull market, where markets have risen year-on-year, and corrections are always possible. Hence, any consideration of gifting should only be made with money totally surplus to future requirements – if that certainty exists. Secondly, the tax implications of giving money need to be considered, for example in terms of inheritance tax, as the gift will be seen as part of the individual’s estate for seven years after it is made. Other tax efficient investments, such as Business Relief, may be worth considering, as money does not form part of an estate for inheritance tax purposes after two years. Thirdly, gifting money usually means that the person, if over the age of 18, has access to the money now to do with what they want. Use of certain trust arrangements can help here, in terms of exercising some control on when the money is accessed, nevertheless it can be an important consideration. These are just some of the considerations (and mistakes we see made) and which, as Independent Financial Advisers, we are able to help people navigate, particularly in the current economic and financial situation. Seeking advice is about keeping your head while everyone around you may be losing theirs – which is where financial expertise is invaluable. Why a cash buffer makes sense The recent fall in the stockmarkets – alongside dividend payments cuts or suspensions, such as by high profile traditional dividend payers such as Barclays, BT HSBC and Shell – have affected many people’s income streams in the past few months. Uncertainty of this kind underlines the value of holding a set amount of your assets in an accessible cash account. The nature of the markets means that at some point, income derived from our investments will go down, and so may not meet our expenditure needs, which can be particularly significant in retirement. This may force us to draw on capital, which is something we may not want to do as it can reduce our ability to produce the income we need in the future. In addition, if we are forced to sell, this can be when markets are at their lowest, meaning we transact at a loss and we have to sell more of what we own to get the income needed. A sensible option, therefore, is to hold money to cover several months’ expenditure – typically six months to two years – in a cash account. While this won’t be earning much in the way of interest and will be subject to effect of inflation, it enables income to be taken from that account when needed rather than extracted from capital, which will help those investments return to producing the required levels of income when stockmarkets recover.

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