April – what a busy month!
As I write this on Monday 29th April I am amazed how time goes when you are so busy. Some great things have happened and I am delighted that Interface is more robust than ever and looking to the future. Further additions of support and other client services have been added or soon will be. My financial year end was on 31st March and this signals a time when reports have to be presented to Companies House, to HMRC, and to the FCA (The Financial Conduct Authority took over from the Financial Services Authority on 1st April 2013).
Thank goodness that I have the expertise of Sue Nuttall of Jacana who spends hours every month analysing all business written and income received in anticipation of the 6-monthly reports to the FCA. The amount of detail and categorisation that is required has grown exponentially since I became directly authorised in March 2005. Then there is the other side of the required reporting to the HMRC and Companies House – my accountant Simone Freedman and bookkeeper Stephanie Hankin both do a wonderful job of monitoring inflows and outflows and ensuring that we pay the correct amount of Corporation Tax (and I do mean the ‘right amount’ – not too much and not too little!). Our accounts were submitted on 19th April before HMRC had even requested the Corporation Tax returns and I’m waiting for my account from HMRC so that I can contribute to the Exchequer – I hope that George Osborne makes good use of our five figure sum.
From my blogs you will know that I keep a daily lookout for financial news and it will come as no surprise to you when I tell you that over 20% of advisers have gone over the last 18 months – that’s one in five no longer advising. A surprising detail is that the RDR changes that were implemented on 1st January had a more marked effect on the number of bank advisers. There are now about 50% less bank advisers and depending on your experience that may or may not be welcome news. A fact that shouldn’t have surprised me was that 11% of former independent financial advisers are no longer independent but have opted for ‘Restricted Adviser’ status – that’s another one in ten advisers who no longer provide independent financial advice.
In case you haven’t spotted the connection between the two themes above the demands of reporting on top of the many other changes that have been given to financial advisers have meant that many have left the profession and it is thought that many more will follow. My solution has been to engage more support and outsource further work so that I can spend time where it matters – with my clients.
Next month I have outsourced my e-newsletter and it will appear in your inbox in a different format. You will recognise it because it has my photo on the front. I intend to continue my blog and send you a link so that we can keep in touch but the technical articles will form part of the e-newsletter.
Ric Edelman’s “Rescue Your Money”
Last month I promised that I would look at ‘diversification’ and ‘costs’ and this will bring my review of Ric’s book to a conclusion. Ric’s statement is an excellent starter:
“People often tell me they are diversified. They brag that they own ten – count ‘em, ten – mutual funds.” … and a client bragged that “he had eighty mutual funds” … and he said that “he was highly diversified. A close look revealed … he wasn’t diversified. He was redundant.”
Diversification is not about the number of funds that you hold but the number of stocks (shares) that you hold and Ric goes on:-
“We minimise redundancy. For example, our clients typically own upwards of ten thousand stocks from forty countries. And they do it by owning from four to twenty two funds.”
“We don’t buy individual stocks and bonds. Too risky for us. Too risky for our clients.”
“We don’t use retail mutual funds – instead, my firm recommends exchange traded funds and institutional shares for our clients.”
Two of the more “onerous business practices” mutual funds use, which cause investors to incur greater risk, higher fees, and lower returns are Turnover and Fees.
Turnover is the enemy of long-term investors. The average stock mutual fund experiences 80 per cent turnover annually. This effectively switches you from a long term investor to a short term trader! Trading forces you to pay more taxes and of course all that trading increases your charges.
Someone has to pay the brokerage commissions when your fund buys or sells a security but they aren’t obvious because they aren’t on your statement. There is a fee on your statement called an annual expense ratio (in the UK this is usually called an AMC or annual management charge). In the US the average annual expense ratio for all retail mutual funds is 1.23% a year.
The expense ratio covers the routine costs of fund operations: staff, facilities, marketing and so on. It does not include the cost of trading. The average retail mutual fund charges 1.44% annually in trading expenses. So in all the average retail mutual fund charges 2.67% a year. Based on a the stock market’s average return of 9.6% a year that means you are giving away 28% of your profits annually.
In one of Ric’s other books “The lies about money” he reveals twenty five deceptive practices used by the mutual fund industry – turnover and fees are just two of them. That book of 15 chapters and over 300 pages is packed with data and full on technical stuff which shows why Ric believes as he does – I loved it when I read it but it is probably not a book for the light hearted!
That’s why Ric (and me at Interface) say no to retail funds and recommend institutional funds only.
An Institutional Fund – what is the difference to a retail fund?
An institutional fund is typically marketed to institutions and often requires you to invest millions. That’s why you’ve never heard of them. As a retail investor working with a retail advisor at a retail brokerage firm, you don’t have access to them. Those with billions to invest approach the investment decision differently from those of us who have smaller amounts of money. If you have £1000 to invest you have to choose what to buy but if you have £1 billion to invest it’s no longer a question of what to buy. You have no choice but to buy everything. It’s no longer a question of what to buy but instead a question of asset allocation.
Institutional funds engage in very little turnover because there’s nothing left to buy. That means expenses are lower, and so is the annual tax liability for shareholders.
There are other cost savings too. If you’re going to buy everything, you don’t need a high-priced portfolio manager backed by a team of security analysts. All you need is a clerk to handle the transactions.
“Although many institutional funds are not available to retail investors like you, some are. For example, my firm provides the funds of Dimensional Fund Advisers to our clients. Another thousand* or so other financial advisers also have this ability.” [*In the UK that figure is only a few hundred.]
“So now you know the secret to successful investing. Build a highly diversified portfolio consisting of low-cost institutional shares. Buy low / sell high through strategic rebalancing, and maintain a long-term investment horizon.”
If you prefer you could do this yourself but if prefer not to spend your time on researching investments, monitoring your portfolio, regular rebalancing, handling the paperwork, ensuring that you are following the regulations, maintaining your knowledge about tax changes and reporting to the tax man, then you may choose to delegate to an adviser who can do all of this for you. That is why our clients use our services or the services of the small number of advisers who have a similar understanding of the market and have you at the forefront of what they do.
Back in chapter one the one major investment goal that everyone should have was financial security. The best way to achieve it is to generate above average returns with below average risks and below average costs. If you follow the advice given by Ric and discussed in my blog over the last few months you will be well on your way to achieving the financial security you want for yourself and your family.
If you would like to follow Ric Edelman why not subscribe to Ric’s email “The Truth about money” by clicking this link?
At Interface Financial Planning we believe that education will empower you. We aim to provide you with knowledge and understanding at every opportunity.
I hope that you have all enjoyed and learned from my book reviews over the last 12 months or so. I have decided to spend time on other projects for the next few months and I may return to my educational blogs in the near future.
And as a closing comment:
If you are one of my clients, relax, it’s already taken care of.
Alan Moran Interface Financial Planning April 2013