I work in the Finance industry – I am an insurance underwriter. The Finance industry – banking especially – has a terrible reputation, mostly with good reason.
For many years banks and pension providers have consistently and systematically been hoodwinking their customers into paying far too much in charges for some pretty poor products.
Consequently, I frequently see comments from Joe Public in online comments sections like this:
“Pensions are a scam – never get one”
“Pensions are a ponzi scheme”
“Never invest in the stock market – its just like gambling in a casino”
Given the bad press of the last 5 years such comments come as no surprise. Undoubtedly, some pension funds have performed terribly, and have ridiculously high charges. However, that doesn’t mean all pensions are bad – you can get low cost pensions and you can do many things to ensure that you don’t get ripped off – you just need to know what to look for.
The level of financial ignorance among the general population angers and frustrates me. What angers me even more is that our elected politicians will not make even basic financial education a required element in the national school curriculum. Consequently, millions of people have no idea how simple financial products work and have no notion of how to tell an expensive (i.e. very bad) financial product from a cheap one (yes, they do exist).
For most people, a pension or an alternative savings vehicle to provide for their old age will be the biggest single purchase of their entire life. Yet most people will spend more time and effort choosing the new paint colour for their second bedroom.
I feel lucky. I had an epiphany about four years ago when I read this book http://www.amazon.co.uk/The-Long-Short-Investment-Intelligent/dp/0954809327. Everyone should this this book in my humble view. Reading Professor Kay’s excellent book led me to learn much more about personal finance and now it has become a bit of a hobby.
I have learned the following key lessons about financial products and investing:
1. Most financial advisers are self interested and will try to sell you something that pays them the most commission. Avoid them as much as possible. With the correct knowledge and a patient disposition, you can do most of it yourself, much more cheaply and you will probably get better results.
2. Most Fund managers cannot beat the market and charge you a fortune for pretty poor performance. Avoid them. I’ve seen many figures and stats bandied around, but for now I’ll say that a conservative estimate is that around 80% of fund managers (i.e. highly paid people who run Unit Trusts and Pensions Funds) do not beat the performance of the market that they can most appropriately be compared with in the medium and long term. For example, the manager of a UK equity (shares) fund might be compared with the UK All Share Index or the FTSE 100/250 indices.
Charges have reduced a wee bit recently, but they are still exorbitant. A few years ago, for most unit trusts, one would have to pay a scandalous 5% initial charge (you invest £100 and the fund manager trousers £5 for doing nothing, investing only £95 of your hard earned cash) plus an annual management charge of between 1.5% and 2%. You can generally avoid the initial charge now, but they still sting you for the annual charges regardless of their performance.
So if fund managers charge you say 1.5% per year (there are other ‘hidden’ charges – another scandal) to consistently under perform the market, a logical and sensible alternative would be to buy the market for a lower cost.
What does ‘buying the market’ mean? you may ask – in simple terms, you purchase a tracker product that will give you the market return less a small charge which goes to the company selling the product. Its a much lower charge because computers do most of the work and there are no high salaries to pay for fund managers, researchers etc. This charge can be as low as 0.1% of the annual value of the tracker fund – though something around 0.25% might be more usual – So you can pay say 0.25% in annual fees compared with 1.5% and get a better result 80% of the time. Who wouldn’t do this???
What’s more, due to the effects of compounding (more of which in a later post), the overcharging of our fund manager just makes things worse and worse over the years. Say you invested a one-off £1000 – the difference in cost between 0.25% and 1.5% charges would be just £12.50. Hardly worth bothering with?
Lets do a little exercise. Say you had invested your £1,000 in 1992. We’ll be generous to our fictitious fund manager and say that he was able to beat 80% of his rivals and achieved the FTSE All Share Return each year (but charged you his 1.5% fee every year) and we’ll compare the result with a fictitious All Share Tracker charging 0.25% per year. For this exercise, I’m ignoring dividends (more on these later).
Here’s approximately what your £1,000 would be worth at the end of 2012:
Fund Manager £ 2,114.52
Tracker £ 2,464.34
So an initial £12.50 difference in costs, when compounded leads to a difference of £349.82 or 16.5%. That’s a bit more significant eh?
The thing I dislike most in life is being ripped off and after reading Professor Kay’s book I realised that the finance industry had been ripping me off for most of my adult life and it had certainly cost me thousands, probably tens of thousands of pounds. For example, I had one of the very worst financial products for the 1980s – an endowment policy.
Initially sold alongside my first mortgage in 1989, I had sensibly remortgaged long ago onto a repayment basis, but I kept paying the endowment premiums each month, thinking that I would receive a wonderful cash windfall after 25 years.
After 19 years, I realised to my horror and disgust that my return on this ‘investment’ equated to less than 1.5% annualised each year. I could have done much better in a simple post office savings account. So I surrendered the endowment immediately and took the paltry cash payment to started my own little investment portfolio. I won’t give you detailed figures, but so far I am very happy that I did.
The second Tuesday of each month means a track session for Valley Striders at the Leeds Met track at Beckett Park. Tonight was a warm up, 1 mile at threshold (10K pace supposedly) and then 10 x 400 metres with just 60 seconds rest.
I had my mojo for some reason tonight! I ran the 1 mile in 5.40 – around 20 seconds quicker than my 10K pace and then completed the 10 x 400s in an average of 74.7 per lap with a quickest at 73 and slowest at 78. The 73 was the final interval.
A great session!
My next races come during the week between Christmas Day and New Year’s Day – the Chevin Chase on Boxing Day and then the Ribble Valley 10K on December 29th. For some reason, I’ve never run well in the Chevin Chase, its a 7 mile off road trail race with two hard climbs, it just doesn’t suit me. I’d be happy to beat 50 minutes, which I have never achieved so far.
I will be going all out at the Ribble Valley 10K to see if I can achieve the sub 37 10K time that I targeted at the start of the year. That will be very tough I think, as a minimum I would like a new PB (currently 37:37 achieved at the Abbey Dash last month)