The Association of British Insurers has the following risk categories for managed funds:-
- Defensive Managed: A maximum of 35% total equity (including convertibles). A minimum of 85% Sterling-based assets.
- Cautious Managed: A maximum of 60% total equity (including convertibles). A minimum of 50% Sterling-based assets.
- Balanced Managed: A maximum of 85% total equity (including convertibles). A minimum of 50% Sterling-based assets.
- Stockmarket Managed: A maximum of 100% total equity (including convertibles). A minimum of 50% Sterling-based assets.
Admittedly all these categories have the word managed after them but I think that for most people the amount invested in unprotected stockmarket investments would be too high.
Another reason, as our regulator, the Financial Services Authority has recently pointed out, a lot of assets tend to rise and fall at the same time. My view is that many clients should have commercial property in one form or another in their portfolio. There has been a lot of press comment in the last few weeks saying that UK commercial property has come to a peak. I don’t personally think that this is so because the UK economy is still growing fast. So whereas the internet has reduced the attractions of shopping on foot and so the attractions of some retail premises, conversely demand for offices (which was very dull 3 years ago) is now top of the pops. What is certainly true is that rising UK interest rates have largely eliminated the obvious benefits of gearing-up or borrowing money to purchase a commercial property. So demand for commercial property may well slow but you have to remember that, particularly in offices, there should still be good rental growth which, in time, will push up commercial property prices again.
So what types of commercial property vehicles could be attractive?
- I still like life company investment bonds investing in commercial property with no up-front charges but an early but reducing exit penalty. They do not gear-up and buy big "trophy-style" properties. Their portfolios also normally have quite a lot of cash and some property shares via unit trust
- The second category is the more adventurous property fund such as run by Noble which does gear-up to around 50% and invests primarily in unloved buildings which it can refurbish and revamp and then let at much higher rentals; often it simply refurbishes the common parts and then switches clients around so that those who want more space get it and those who want less space get it. Tenants in the same building don’t normally talk to each other!
- Finally, there will soon be the European commercial property funds available to UK private investors. They will be welcome because rental yields in central Europe (notably Germany) are higher than the UK so there should be some grounds for capital appreciation. Norwich Union has already launched a European commercial property fund within its investment bond range and, I believe, has purchased its first property in Germany. It also appears that New Star is about to launch a commercial property fund along the lines of its most successful UK commercial property unit trust and so presumably have a majority of direct property investments, European property shares and European property fixed interest securities plus cash.
And why is that important? A number of investors invest in investment bonds and take a 5% “income” which is actually a return of capital with tax deferred for at least 20 years. And as that 5% is not initially taxable, it is very attractive to high rate taxpayers even though an investment bond fund itself pays a 20% internal tax charge on income, rents and capital appreciation.
And it is the steady capital appreciation which I like because it should exceed the 5% withdrawals. The nightmare I have is investors who invest in equity funds via investment bonds and you can imagine the scenario of 5% withdrawals and rapidly falling stockmarkets. The upshot would be a very sharp and sudden fall in the value of a fund. For equities, investors should stick to OEICS (Open Ended Investment Companies) and unit trusts. They can go down in value as well but any dividend payouts are quite separate.
And with a bedrock of commercial property funds, I believe the average investor can be more adventurous and invest, for example in emerging markets and possibly on a regular basis to benefit from so-called "pound cost averaging". This term means that investors regularly invest month after month a set amount for as long as they like. They obviously buy more units when prices are depressed (when most people don’t buy) and fewer units when prices are high (when, unfortunately, most people do boy). It is a mechanistic system which works well for more volatile markets such as emerging markets. If you would like me to draw up a portfolio of commercial property funds and/or emerging market funds for you on a lump sum or regular basis, please let me know.
