A slight change in focus can produce a profoundly different understanding

The Psychology of Saving and Investment

The financial press is full of dramatic stories about saving and investment. People do not save enough and are doomed to die in poverty, if the stories are to be believed. The headlines list the enormous sums necessary in order to avoid this dire fate. If anything puts people off saving and investment it is these ‘helpful’ press stories.

The financial professions work off lots of assumptions which may not apply. The judgement of what you need in retirement is usually based on what you earned in your working life; the assumption of continuity of life style. Investment returns are assumed based on past experience. Regulatory and tax conditions are assumed stable. Life expectancy is assumed stable. The NHS is assumed to be there forever. Yet nothing is said about the one constant we do know about the future; uncertainty. This blog brings together many issues discussed in earlier blogs in the hope it may help planning. If nothing else it may serve as an antidote to the tosh you find in the financial press and even promoted by independent advisors.

Uncertainty is the key concept. I can recall the future I expected at retirement when I graduated in 1974. It did not look like today. Interest rates, annuity rates, and inflation rates are all much lower. Life expectancy is much higher. The tax regime is quite different. The state pension is quite different. So the fairly obvious conclusion is that planning over 40 odd years cannot assume much. Yet everything is assumptions.

The problem with uncertainty is that it is not amenable to probability calculations. Uncertainty deals with consequences. If the consequence is serious you must plan for the contingency irrespective of the probability of the event occurring. This is why we buy insurance. Unfortunately one cannot buy insurance for all possible outcomes and if we could it would cost too much. The best insurance for uncertainty is a slab of cash held in a risk free form. The instinct to hold cash is thus sound. The opportunity cost may be high, but the opportunity cost is the cost of insurance. It should be high.

The issue for most is how to accumulate cash or near cash equivalents. Not everyone is born expecting an inheritance or a subsidised loan from the Bank of Mum and Dad. One can save out of income and invest for return. One can also take risk by borrowing to invest (this is what house purchase with a mortgage amounts to). Leveraged investment offers large potential gains and large potential losses. If house prices fall you could find yourself insolvent and if you cannot make the payments you may have to resolve the insolvency. If you think house prices cannot fall check out 1988 to 1994. It may not be probable but it can be life changing if it occurs.

Saving is a good habit. It is more important to save regularly than to save a lot. Save what you can but save something. It mounts up and when you have a windfall or abrupt change in income you are likely to simply increase the amount you save. The habit takes over. The Apps which encourage people to save loose change are very positive in this respect. It is also surprising how much you can accumulate by relatively painless but consistent saving. It is the power of compound interest. It would be more helpful if the financial press focused on how easy it is to accumulate large sums from regular small savings than on headlines figuring the impossibly large sums.

How much you accumulate depends upon return. If you save £100 per month at 6% for 40 years reinvesting interest you will end up with around £200k. More important, 3/4 of this will be interest. Is 6% a meaningful number in today’s environment? If you invest in a low-cost index tracking equity fund with dividends reinvested it is most certainly meaningful. One of the most interesting observations is that you can can invest £240 per month over 40 years at 6% and end up with ££603k. Witchcraft? No, tax relief. Even non-taxpayers can invest £300 a month in a pension and get 20% tax relief (hence £240 pm net cost). The shocking headline figure that people need at retirement over and above the state pension is usually £240k. This can be achieved saving £100 pm net (£120 pm with the tax relief). If you get an employer contribution as well it is net even less. Really it is all very doable.

Of course I am assuming 6% return on average over 40 years with dividends reinvested. Is this reasonable? History says it is reasonable though this is not much help. The point is you can always save a bit more as your circumstances allow. If you start by saving £100 pm in a tax efficient way then you are on course to achieve a good sum at retirement. It is a good base from which to work as your circumstances change. And it is less challenging seen as £100 pm. What about stock market volatility? What about it? You are investing monthly over 40 years. You averaging in and will not be liquidating until 40 years (maybe not even then). Stock markets tend to go up although they do so through strange and wonderful paths. Volatility is of no interest to you so why does anyone even mention it?

What about when you get to retirement? Now you have to generate an income from capital. You can buy an annuity which disappears when you (and your spouse if relevant) die. If is a risk sharing exercise with those that live longer than expected being subsidised by those that die early. Or you can go into income drawdown. You invest the capital and live off the income (and capital if you wish) but anything left can be left to anyone you want if you die (tax-free if you die before 75). The annuity pays out as long as you live but drawdown can run out if you overspend. Not difficult to see why the state prefers you to buy an annuity.

Much is made of stock market volatility once again and once again it is not wholly relevant. If you determine to live off natural income from your fund (dividends, coupons interest) then you will not be liquidating so why does volatility matter? The only thing that matters is the volatility of dividends etc. They tend to rise but there may be cuts in some years. You need to keep a cash buffer if you are running on a tight budget or have room to tighten your belt. Neither are that challenging to organise. Can you match an indexed annuity with dividend income. I have already demonstrated that you can in a previous blog.

There are 3 big implications from this light-hearted blog. First, get people saving by showing how little net they need to save to accumulate a pot for retirement. Second, market volatility is not relevant to individuals saving consistently for retirement. Third, market volatility is not relevant to individuals generating income in retirement though dividend volatility is very relevant. One wonders therefore why the FCA is so obsessed with identifying risk preference.


Ordinary People

I am puzzled by the great pride with which many declare themselves to be Ordinary People. What does it mean and why are ordinary people so proud of their status? Despite being self-proclaimed ordinary such people always insist their views and preferences are important and even the only legitimate views and preferences. Moreover, despite their legitimacy they always seem to feel that these views and preferences are not being taken into consideration by those in whom power is vested. Ah, there we are, ordinary means legitimate but not powerful. The implication is that those in power are somehow less worthy by virtue of having power if they have views and preferences that do not correspond to those of ordinary people. Legitimate power vests only in those that reflect the virtuous and legitimate will of ordinary people. I suspect this is how ordinary people understand democracy. It is to them a dictatorship of the masses. So let us explore ordinariness a little more.

The expression ordinary people often comes in the form of ‘average’ or ‘real’ or ‘common’. There is a sense of a homogenous mass or majority. Ordinary people are most people. They are the vast majority. In practice this mass includes everyone that feels disempowered though within the mass of ordinary people there are subgroups that feel they are the legitimate ordinary people. Immigrants for example may not be ordinary people because they are not entitled. Ah, we have another characteristic of ordinariness; a sense of entitlement. So ordinary people are taking shape. They are disempowered but entitled and legitimate. Ordinary people are beginning to sound quite special. No wonder they are so proud of being ordinary.

Legitimate power, according to the common people, can only be held by those that reflect the legitimate views and preferences of ordinary people. In short, our ordinary people are actually very powerful. They are not disempowered at all. They use the claim of disempowerment as a strategy to ensure those nominally in power answer to them. Collectively they are powerful even if individually they claim to be disempowered. They can hold those in power to account. So ordinary people are entitled, legitimate, and those in which power ultimately sits. So when someone claims to be ordinary they mean anything but ordinary.

Many reading my little exercise will probably think this is as it should be. It is a description of the foundations of democracy. But look a little deeper. Our (UK) representative system allows only an indirect power to ordinary people. They exercise this limited indirect power by selecting a representative. The group of representatives selects an executive which makes decisions subject to the approval of the body of representatives. Other systems select the executive directly but vest power in the representatives to ensure checks and balances. Laws are made but implemented by an independent judiciary. In this representative system irrespective of who is elected the executive is charged to consider the interest of all the population, and not simply their own subset of supporters. It is a pluralist system. Ordinary people however are not pluralist. They have no interest in those they do not accept as ordinary people. They happily treat those not ordinary as second class citizens and even illegitimate. Ordinary people are typically discriminatory and dictatorial.

Today the world seems to be losing its representative democracies. Power is being transferred to those individuals that reflect the ‘legitimate’ and ‘entitled’ views of ordinary people. The latter have taken control and are inflicting their discriminatory and dictatorial practices on those they do not regard as ordinary people. The world has become an ugly place because ordinary people have asserted themselves. Next time you identify as an ordinary person you might want to reflect on what is written here.





The Brexit Revolution

The EU membership referendum has detonated social change and revelation that goes much further than even the enormous act of simply leaving the EU. It has demonstrated how thin is the veneer of pluralism and civilised democracy. It has revealed, what some of us always knew, that England* is a racist society squirming for so long under the repressed narrative of entitlement. The referendum lifted this repression with devastating consequences. It has revealed how people can be manipulated through their own primal prejudices to endorse actions that are not in their own self-interest. It has revealed how people vote habitually and without thought and often against their own priorities.

Racism was the primal prejudice that was manipulated in the case of the EU referendum. It is not unique to the UK. It exists in all societies. It is encompassed in a narrative of entitlement that has particular relevance in a former colonial power. There is a sense in which the referendum was about taking back control. It was, as I have argued in earlier blogs, about taking back the right to object to things that ‘political correctness’ had removed and the EU is, not unreasonably, associated with the removal. In particular, the single market had repressed the narrative of entitlement.

The English do not object to immigration so long as the immigrants ‘know their place’. This is the narrative of entitlement. There is a large minority that has an emotional need to feel more entitled than newcomers that have different names, different skin complexion, speak a different first language, and have a different religion (or indeed have any religion). So long as the newcomers can be insulted with impunity, and are seen to be second class citizens, they can come and live here and work here. There are jobs the English do not want to do (or Cypriots don’t want to do in Cyprus) so they can be very useful. But they must know their place. This has been my experience of living in England since 1954, with a dark skin, foreign name, and ability to speak another language.

It is not about immigration numbers. It is about the right to determine who comes to live in England. To arbitrarily exclude and remove some without the need to give reason. It is about power and where this power resides. Everything is about power and where this power resides. The EU created a class of foreigner that had the same rights as the Englishman. This really would not do for a large minority. It undermined the narrative of entitlement. By focusing on this repression of the narrative of entitlement the populists were able to persuade enough people to marginally reject EU membership. They did so even though the losers in economic terms will ultimately be the very people who enabled the referendum result. Such was the brilliance of the populist anti-EU campaign.

The anti-EU position cuts across traditional party lines in a peculiar manner. The majority of declared Labour voters favoured Remain and still do so if the polls are to be believed. Yet the Labour leadership, and the manifesto at the last general election, clearly stated the intention to ‘honour the will of the people’. The continued support at the polls for a Labour party committed to leave the EU by people who would prefer to Remain has puzzled many. It would seem that having a Labour government trumps EU membership for these people. The implication is that they believe that ultimately the worst consequences of leaving will be offset by a Labour government. Alternatively they vote habitually and without much thought and maybe hope that somehow with a Labour government we will not actually leave. They are of course deluded but there many of them.

There is a significant minority (I include myself in this) that look upon this with alarm and confusion. Are people really this stupid? It is now dangerous to walk down many roads chatting in a foreign tongue (something my wife does all the time to my alarm). Overt racism is no longer socially unacceptable for many. For those of us in the hard Remain camp there is a new social divide. It is not wealth or education but how one voted in the referendum that differentiates us. Increasingly how one voted at the last general election is also becoming relevant. Continuing to vote for a Corbyn led Labour party is also becoming a social division. Society has been riven by the referendum and it is a much wider chasm than I think people grasp. There may be trouble ahead…

*I deliberately refer to England and the English as this seems to be a uniquely English phenomenon in the UK. My experience with those that identify as Welsh, Irish, and Scottish has been quite different.


I posted the question of the Labour voter on a comments page and this was the response. Make of it what you will:

Many commentators in this and other newspapers seem to think that there is only one issue in politics – namely Brexit. However, that is simply not the case for the majority of the electorate. I am a Remainer and the Labour Party policies are those that resonate for me. I wouldn’t consider voting for another party. As for Jeremy Corbyn, he voted Remain and has stated he would again (unlike May who refused to say how she would vote). Labour’s policy is to remain in the customs union and the single market, although they can’t use those exact words yet for fear of alienating a section of their potential voters. Their plan is to let the Tories self-destruct first.

Passive V Active Strategy

An article in today’s FT perpetuates a common confusion in comparing passive and active portfolio strategy. It is extraordinary how often supposedly quality journalism gets it wrong. The offending statement is provided by a Mr Rajan of Create, the survey company that is the subject of the article, and repeated by Chris Flood without clarification:

“Passive investors can suffer full market losses when the market turns, possibly more than active investors who can switch into cash,”

A portfolio strategy begins with an objective and identification of the acceptable level of risk. It may be that the objective is unattainable given the identified level of risk (except by chance). Once this conundrum is reconciled then risk is controlled through asset allocation. This will be a balance of asset classes across which the portfolio will be spread (cash/bonds/equity/property/commodities). In a passive strategy the balance will typically be fixed but in an active strategy some variation in the mix is possible over time.

Passive strategies will typically use index tracking funds in order to make investments. These are low-cost and give exposure to the various asset classes. They consist of market weighted portfolios of individual assets designed to be representative of the class. Hence FTSE 100 consists of 100 stocks weighted by market capitalisation and is representative of the UK equity market (in theory). However, the portfolio strategy need not restrict itself to low cost trackers. It can use discrete active funds. These are tailored to one client. We now see another use of the terms active and passive.

A discrete active fund may have an index as a benchmark but can deviate asset selection from the benchmark components. It can include assets not in the benchmark and change the weights of those that are in the benchmark. It must be discrete because in order for the asset allocation to be achieved (whether asset allocation is passive or active) as the fund must always be fully invested in the asset class it represents. It cannot hold cash. Read the above quotation again. If it held cash it would negate the asset allocation decision.

There are many public active funds that are not tailored to a specific client. They are open to all. These funds may choose to hold cash during uncertain markets. Tracker funds, by definition, cannot. But to compare these is not meaningful because it ignores asset allocation. The article addresses a survey of pension funds which always have a strategy and if they do not someone should arrest the trustees.

An individual might see investing in active versus tracker funds as a meaningful choice. It is not. The active funds determine the asset allocation and importantly, cash holdings. It is an ex post outcome not a choice. This means the risk is unknown to the individual ex ante. Using tracker funds the individual can control risk ex ante through choosing how much to invest in each asset class and keeping to this choice. The individual chooses how much cash to hold.

The choice debate between using tracker funds and active funds is usually carried out in terms of performance and cost. This ignores the most important dimension; risk. If the individual knows her risk tolerance (and if she does not why is she investing) it is most easily attained through use of tracker funds (whether strategy is active or passive). Use of active funds means it is an outcome not a choice.

To sum up, use of tracker funds does not imply a passive portfolio strategy. Asset allocation can be varied. Portfolio strategy is about risk control. The use of tracker funds enables asset allocation, and hence risk, better to be controlled. The use of active funds creates some ex post variation in asset allocation (largely through cash holdings) and thus makes risk an outcome not a choice.


Counter-Party Risk

The demise of the broker Beaufort Securities has awoken awareness of counter-party risk. This is the risk that the counter-party through which you traded and has custody of your assets might fail. The risk might initially look small given that client assets should be held in segregated accounts and not be accessible to the CP. There is always fraud of course and maladministration. The BS case determined that whilst the company cannot access the assets, the insolvency administrator can. If the CP goes bust and the winding up costs cannot be covered by the company’s own assets then the client funds can be tapped. The FSCS offers a small amount of protection. It will indemnify a client for up £50k for losses arising out of CP failure. For a bank deposit the sum is up to £85k. For an insurance product the indemnification is usually 90-100%.

The general £50k CP indemnification is not very much. A typical SIPP or ISA will exceed this amount over time. The first consideration in choosing a CP (that is not an insurance company selling an insurance product) should be the viability of the CP. How much capital does it have relative to the regulatory requirement? It is this capital that provides the buffer in the event of insolvency (or fraud or maladministration). Shareholders want to minimise capital held but clients want as much as possible. Most clients choose CPs according cost or reputation. These are important criteria but irrelevant if the firm goes bust and the cost of insolvency wipes out the capital buffer. The first thing to consider is how likely is the CP to fail and what buffer is available. It is a difficult judgement but still needs to be made.

In the case of bank deposits one can hold several deposits with separately licensed banks. It is less appealing to do so with brokers because fees often decline with funds held. This also raises the complication of cash held within broker accounts. It is not always obvious how it is held and with which banks. On balance it is better if it is held in a cash fund which invests in a wide portfolio of short-term liquid assets. There is little individual protection if it is held as a commingled fund with a bank or group of banks. At best, if the CP is a bank, it might be held as an individual personal bank deposit. The cover is £85k minus any other funds you have with this bank.

One important aspect of the annuities versus income drawdown debate that rarely gets a mention is CP risk. The annuity is typically treated as a long-term insurance product by the FSCS and is thus 100% indemnified by the FSCS against failure of the provider.  Income drawdown is an investment product and is only covered up to £50k. Given that certainty of income in retirement is important this is not a trivial consideration. Firms do fail and if your drawdown provider fails you may have a problem.

How does one choose a CP? There is no foolproof method. Take a look at their accounts. Keep track of press comments. Look at the complexity of the company. The more complex and varied (and illiquid) their product mix then the more capital you might want to see. But you cannot see fraud or maladministration until it is too late. It might help if there is a parent with deep pockets and a reputation to protect. This blog is to remind you not to forget that not all CPs are equal. I have never lost sleep over market volatility. I have lost sleep over CP risk.

ID cards and Crypto-Racism

There have been a spate of press articles explaining why ID cards are not the solution to illegal immigration. These articles have emphasised the dangers of ID cards and in particular the possibility of being asked to ‘produce ones papers’ once ID cards are introduced. Clearly the writers have watched too many WW2 films. Moreover, they are all invariably white folk with Anglo-Saxon names.

The need to produce ones papers arises if there is an identity system in place, whether an ID card exists or not. I have been visiting Cyprus since 1970. An ID card has existed since before this date. No one has ever stopped me in the street and asked me to produce my papers. Maybe this is because I look like a Cypriot. I have had to identify myself at banks, land registry etc and my UK passport has sufficed. On only one occasion did it not suffice. I was unable to get a land line into my holiday home because I had no ID card. My wife, who is a dual Citizen and has said card, did the honours. It has occurred to me though that owning property on the island and visiting regularly, it would be easier if I had an ID card.

In the UK there is now an informal Identity system. Photo ID has become commonly required. Members might be asked to produce it to attend their home football stadium for example. ID is required to start a job, get a driving licence, rent a flat, use a solicitor and so on. The initial driving force was anti-money laundering and anti-terrorism, but it has come from illegal immigration since T. May was Home Secretary.  If you have a non-Anglo-Saxon name or look a bit dark or maybe just speak with an accent, you are much more likely to be challenged than if you are white and have a ‘normal’ name. People of foreign extraction and living in the UK legally should welcome an ID system. You only have to prove who you are once to get the card, and then just show it. As it stands you have to prove your status every time someone asks.

So why do white folk object to ID cards? Primarily because often no one asks them to prove their status now, and they resent being on the same footing as ‘foreigners’. Sure we all have to take our passports when we do some stuff but if we (for some strange reason) do not have one, but look the part, a utility bill, a council tax bill, a P60 etc may suffice and indeed we may not be challenged at all. As long as ID is discretionary, those that look foreign will be challenged, but those that fit the native stereotype will not. The objection to ID cards is a subliminal racist impulse. It would put all UK residence on the same footing and we cannot have that now! Once gain the narrative of entitlement prevails.

The introduction of ID cards would be a solution to illegal immigration. How could it not be? It would present the legal but undocumented with a challenge but not a new challenge. They are already challenged. It would be necessary to allow some form of amnesty for the undocumented in the initial introduction of ID cards, to avoid injustice. The authorities should need to prove they are illegal, you know, like innocent until proven guilty, (what a novel idea). Once ID cards are in place. status is established and any new illegals can be identified.  The only people who object are those that want their skin colour, name, and accent to be their ID. As for fearing a police state, it is easier to introduce one if there are no ID cards. If you want an excuse to allow police to detain people for no reason, then introduce a law that says you must identify yourself to the satisfaction of the police, but allow the police discretion in what they find satisfactory, and then have no ID card. Much like the Windrush victim situation vis-a-vis the Home Office, no? ID cards are protection and put all citizens on an equal footing irrespective of visual appearance, name, and accent.

The Power of Compound Interest

Compound interest is a simple concept but the significance is not widely understood. An exercise that I carried out for one of my offspring may have wider value. Assume you save £200 in an ISA for 35 years. Assume two possible rates of return, 5% and 10% and two possible fee structures, 0.21% and 1%.

  1.  At 5% with fee of 0.21% you end up with £216,901.
  2. At 10% with a fee of 0.21% you end up with £719,362
  3. At 10% with a fee of 1% you end up with £588,356

First doubling the rate of return from 5-10% increases the amount saved by 232%. Second increasing the fee from 0.21% to 1% reduces the final sum by £131k in the case of a 10% return. The impact of compounding is non-linear.

The lesson is that saving even relatively small amounts in low-cost vehicles can have a huge impact. Moreover taking slightly riskier but potentially higher returning investments has a disproportionate effect on terminal wealth. If you save in cash and get 2% (zero fee) over this period you will end up with £121,509. Over 35 years it pays to take some risk. If you wish to play around with the numbers (and check mine) I used this calculator and deducted the assumed fee from the return.

What kind of return can you expect from the FTSE 100 over 35 years. The answer is no one knows. Historical studies (1900-2017) suggest UK equities return around 5.5% real so with inflation averaging 2.5% that gives a nominal return of 8%. However does 35 years constitute the long-term? Looking at sub-periods one gets quite different outcomes, some better and some worse.

A different way of looking at this is to note that total return figures include dividends being reinvested continuously. This enhances the compounding effect. The FTSE 100 is presently yielding close to 4%. It consists of rather solid but unexciting stocks and it is not really a UK INC investment. The bulk of earnings are generated in foreign lands so it is like owning foreign indices . However it lacks the excitement of high-tech stocks and contains a few dying industries (tobacco, oil). It also has a number of battered banks and financials in the selection. The last 18 years have been tough for the FTSE 100 but it has still produced a positive return for a sensible investor. If you had invested £1000 31/12/1999 and reinvested dividends you would now have £2193, a compound annual return of 4.6%. Not amazing but considering the nature of the period, respectable. Your £200 pm would also have compounded at 4.6% over this period.

For the adventurous investor more diversification into overseas indices makes sense or maybe more UK stocks, so go for FTSE All Share index. The principles remain the same. The appeal of the FTSE 100 is simplicity and cost. Vanguard offer a FTSE 100 tracker unit trust that charges 0.06% and a platform fee of 0.15%. Not sure it comes any cheaper.

The key is consistency. Pick a regular investment level that you can commit to for 30-40 years. It does not matter how small it seems now because you can always adjust up as income grows. Moreover compounding may surprise you. It is better to save something than nothing (unless of course you aim is to throw yorself at the mercy of the welfare state). The trick is to keep investing something. It may be through an ISA or pension plan (the latter has tax relief and employer contributions, so even better). Set up the direct debit, choose the accumulation fund version, and then check it again in 30-40 years. You may be surprised.

Windrush and Identity

The Windrush affair has highlighted something many of us instinctively understood from the start. In the absence of ID cards the passport was an ID document. I arrived in this country as a name on my mother’s passport a few months old. It states she is a British Subject by birth. British subject was the term used for British Citizen at the time. She was born British albeit in a colony. So was I and my siblings. So it seems was my father. The same must be true of many from the Caribbean colonies. So why are many from the Caribbean in this mess?

I acquired a British passport in my teens and have renewed continuously since. I can only assume many from the Caribbean did not do this. Which begs an interesting question; how did they manage? I found myself using my passport as a form of ID on frequent occasions from my teens onwards and not just for travel. It was not a legal requirement to have a passport but it made life so much easier. In my experience the need to prove your citizenship has existed at all times and is not a new phenomenon, especially if you are darker than average (as I am) and have an ‘unusual’ name (as people still exclaim). I always say ‘yea it is’ because it is unusual even for someone of Cypriot origin, though I know that is not what they mean. If you meet a Hatjoullis from the UK they are almost certain to be related to me.

A modern driving licence with a photo ID requires proof of identity but once acquired will satisfy ID requirements. When I moved across from paper they used my current passport photo to set it up, so clearly systems are linked in some way. I am now wondering what happens if you have an old paper licence but have never had a passport and decide to get a modern photo ID licence. Do you still need to identify yourself? I imagine you do and that it might prove tricky to satisfy the DVLA.

It has been suggested to me that Cypriots and Maltese that might be in a similar position may be being protected by EU citizenship at the moment. In which case there should be a few more cases involving non-Caribbean immigrants if we leave the EU. If you do not have a British passport and can get one I suggest you do asap.

As an aside I should like to add that people from the colonies that came to live in the UK before their colony became independent are not strictly speaking immigrants. They are not foreign-born despite being so classified today. The 1948 Nationality Act made every British subject a Citizen of the United Kingdom and Colonies (CUKC). This formally entitled them to live anywhere in the British Empire such as it still was. Moving to London from Cyprus in 1954 was arguably no more migration than moving from Newcastle. Of course, the formal status was not the reality and the volume of movement was controlled by the issuing of passports which was always in the hands of a British administration. Subtle but effective. So I can say I was born British to parents born British even though I was born in Cyprus. Ironically this is a consequence of the Empire trying to make every colony a little piece of England. Oh yes, it was an English empire. Ask the Scots, Welsh and Irish.

The solution to the present debacle is ironically an ID card. For the undocumented this may initially make life even more miserable so an amnesty might be in order unless illegality can be proven. The onus of proof should be on the state. It must prove they are not citizens rather than they prove that they are. Once the ID system is in place anyone not complying can easily be identified. Yes, ID cards have risks but the benefits clearly outweigh these risks. In any event, what Windrush has proven is that there is already an informal ID system in place so there are no new risks really.

The New State Pension

If you are male and born after 6 April 1951 or female and born after 6 April 1953 then the maximum UK state pension you can get is £8546.2 pa from 2018/19. You may get less if you do not have enough full years of National Insurance Contributions or were contracted out and thus paid NIC at a reduced rate in some years. You can get a projection of what you are likely to get online (Government Gateway). What interests me is what is the present value of this pension. It turns out that it is a difficult question to answer.

One way to value the state pension is to look at what it would cost to buy such an income through an annuity. An annuity is a private risk pooling exercise organised by an insurance company. People pay in a lump sum and get a pension income. The pension income is based on the average life expectancy of the pooling population and some bond yield. Those that die young subsidise those that live long. The pooled funds are invested in suitable assets and hence the link to a bond yield. The higher life expectancy and the lower bond yields then the lower the pension income from a given lump sum. The problem is that there is no standard annuity offering that matches the UK state pension.

The closest one can get to the state pension in the annuity market is a single person, no guarantee period, RPI linked, pension. A £100k seems to buy around £3335 pa. Shopping around may yield more or less but this sort of number pops up from a number of comparison sites. This would present value the state pension at £256k. But the UK state pension is much more than this annuity.

First, the state pension goes up by at least 2.5% pa. The RPI could increase by less than 2.5%. Second, the state pension increases by the higher of the average growth in wages or the increase in CPI (and at by at least 2.5% whatever these turn out). The index linking of the state pension is exceptionally strong and far stronger than simply the RPI. In periods of deflation the state pension increases substantially in real terms. In periods of inflation, when wages growth might be expected to outrun the CPI, it holds its real value relative to employment incomes which are probably achieving real growth. It may not seem much but it is the best value pension income available. It is the best quality of retirement saving anyone can make. If you have gaps in your NIC contributions that you can make up through payments, this is a very good investment*.

The problem of course is that things change. The state pension is a political decision and the terms could change at the next budget. Retirement dates have already been pushed forward for many. Millennials face retirement at 68. Retiring at 68 is not much of a push forward in practice. Life expectancy has advanced more than 3 years since the male retirement age was first set at 65 (1925). The female retirement age has advanced relatively more since being first set at 60 but this was odd in any event. Female life expectancy was significantly greater than male when the state pension was first established so allowing women to retire sooner was counter-intuitive**. Today life expectancy at age 65 for males is around 83 years old. This compares to around 76 in 1950. This explains the so-called pension funding crisis. The delay of 3 years in retirement saves three years of payments and adds three years of contributions, which basically fills the ‘gap’. The state pension retirement age should now stabilise again unless there are significant changes in life expectancy at retirement

  • *The process of making up NIC gaps is quite complex. HMRC collect money and provide a record of NICs and give an estimate of pension at retirement based on NICs and continued contributions. However only the DWP can tell you if making payments to fill the gaps will boost your pension. Finding the right person to speak to at the DWP is also tricky as their telephone menu is not intuitive. If you want to boost your pension by filling gaps (probably with class 3 voluntary contributions) then speak to DWP pensions service first. They will tell you what it is worth paying. Then call HMRC pension service to pay. You may also need to call DWP to remind them you have paid if you are at or close to retirement. The two groups are not informationally linked.
  • **Initially, in 1925, men were paid a married couple pension once their wife reached 65 but, as wives were typically younger, husbands had to wait a long time (and often died) before getting the full married pension. The female retirement age was reduced to 60 (in 1940) to alleviate this but they forgot to equalise it when women started increasingly to receive pensions in their own right. Indeed the UK government was forced to equalise by the EU. The process started in 1995 but took a surprisingly long time to complete given the pension funding crisis.

FTSE 100

FTSE 100_20180408_12.41.png

The FTSE 100 is a curious index. It is meant to symbolise the UK equity market but most of the market capitalization generates income abroad. It is thus positively sensitive to sterling weakness. This means it is not overly sensitive to Brexit since it is not very sensitive to the UK economy and actually will benefit from any renewed Brexit-induced sterling weakness. It has a dividend yield just shy of 4%. It has failed to benefit from the Fintech revolution because it contains no such stocks. At present this is not a handicap as these stocks are having some issues.

It is dominated by financials (which are finally showing signs of life), pharmaceuticals, oil, tobacco, alcohol, and mining. Boring but solid (and arguably unethical). Oil is on its way out but companies such as Shell and BP have made structural adjustments to adapt to this long-term trend. Mining is getting a new lease of life. Even utilities such as National Grid, which has suffered from the nationalisation threat, has invested substantially abroad, with much revenue now coming from the US. The years of underperformance have not been wasted. The component companies have been adjusting.

I was thus quite excited last week when I noticed the above chart. There is a notable divergence in the RSI. The contract made a new low but the RSI (a momentum indicator) did not. This means the index, given any excuse, will go up and is reluctant to go down any further. Indeed it started to outperform the US last week. Moreover, the new low only briefly took it below the 6930 area. This horizontal is derived from a monthly chart and basically marks the peaks since January 2000. The FTSE 100 is comfortable above this level and this too is bullish.

The Brexit event has seen foreign investors flee the UK and the FTSE 100 has suffered with the retreating tide. But it is not a logical sell just because of Brexit. Indeed it is, as noted above, likely to benefit as sterling declines. There thus seems a prima facie case for the FTSE 100 outperforming in the coming months and indeed maybe even performing well in absolute terms.

  • The FTSE 100 closed at 7518 on Friday 27 April 2018 so the FTSE gain from the chart is 5.2%. The S&P 500 rallied 2.7%. The divergence signal was very strong and this illustrates the importance of noting such chart based signals.
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