Investment planning

Jean had been widowed at 50. Her husband’s job had left her with quite a good pension as well as the insurance money, plus she had an inheritance from her parents, which came to a total of $300,000. Her job as a part-time school secretary didn’t pay that well and it was the first time she’d ever had to think about investing money. She knew she should be OK but was worried about how much of her capital she could spend. She didn’t want to run out of money and she wanted to help her two children a bit but she didn’t know if she could afford to. This is what we did.

Firstly we worked out how much she needed to live on – which came to about $50,000 a year. Her pension and earnings came to about $40,000 so she had an annual shortfall of $10,000. Her E money was $40,000 and she had a $10,000 shortfall.

Then we worked out what size Reserve fund she needed. Her shortfall was $10,000 per year so we decided it would be a good idea for her to keep 5 years shortfall in her bank savings account. That used up $50,000 of her money.

Finally we looked at her capital. She had $300,000 but I’d made her put $50,000 into her Reserve so now she had $250,000 left. She could have looked around for shares to invest in, but she needed to spread this money widely between different geographical areas and different currencies. We also didn’t want to invest it all at once. So we used a range of widely spread, managed funds. Each month for the next year we put just over $20,000 into these funds. So Jean got an average price over a whole year and thus minimized the chances of having all her money caught by any sudden market crash.

She takes no income from this Investment money – if she needs money during the year she takes it from her Reserves, which makes things much simpler. She only spends what she needs and it’s easy for her to keep a track on how much she’s spending.

That was about 15 years ago, and each year since then, we’ve followed the same plan. Once a year (actually we do this on her birthday) we look at the value of her Investments in these various funds. If there’s a profit (including any accumulated interest or dividends) we take enough to bring her Reserves back up to $50,000 and leave the extra profit invested. If the profit is higher than she needs (after allowing for inflation) then she takes out some extra and uses it to change her car, to go on a special holiday or to give to her children. If the Investments aren’t up in value then Jean simply leaves them alone and relies on her Reserves for another year. She can last for up to five years of poor investment returns without having to draw any capital. And Jean knows exactly where she stands.

Once the initial set-up has been done then everything else is easy. Jean has enough for herself, has some in reserve, with the remainder invested wisely and whenever she’s got any spare she spends it or gives it away.

Elaine and her husband ran a successful business but the marriage ended in divorce and Elaine came to me with over $1 million to invest. She actually went to someone else first but then came to me because she wasn’t getting a sufficiently good return. This is her story.

She had done her sums and calculated that she needed an annual income of $100,000 and she wanted it guaranteed. The previous adviser had failed to deliver and she thought I might be able to do better. I pointed out that she was asking for a guaranteed return of 10%. I refused to take her on as a client and suggested that she come back and see me when she’d got her spending under control. Anyway she came back to me about three years later in quite a frightened state because her capital had fallen to about $500,000. We slashed her budget, put a considerable amount into Reserve and did some sensible investments. Elaine’s now a bit older, and wiser and much safer.

Allen & I had great fun doing his investments. I did the usual planning but he kept wanting to know what sort of return he’d get and I said that it all depended on how markets and investments performed over the years ahead. He kept examining the records of previous years and he reckoned that he could do better than the investment managers that I was using. So we agreed to a competition. We divided his capital into two equal parts and I followed the usual, conventional approach and spread half his money between a number of international and national fund managers. Allen took the other half and invested it himself directly into shares and avoided our charges.

Every year we’d look at the results and most years he’d be ahead. It looked like Allen was winning.

But after 5 years he threw in the towel, cashed his shares and asked me to put the money with the other investments that we’d done for him. When I asked him why, he said he’d only beaten the conservative funds by looking at the newspaper and Internet every couple of days, taking risks, and following his instinct. On the other hand he’d had several scary moments and his wife had drawn the line at him watching ‘the markets’ even when they were on holiday. In the end, when Allen took account of his time and the stress involved, the increased profit was negligible. But we’d had fun and Allen had been partly right. Whenever I have a client who wants to take risks by buying and selling individual shares, (and it’s usually men who do this) I suggest he keeps some of his money back, learns about direct investment and has a go himself. Sometimes it pays off and sometimes it doesn’t but it’s an approach that does appeal to some investors.

Adam was an insurance client of mine who came to me one day asking me to invest $100,000 for him. He didn’t want any fancy plan, just a good return on his money. But I was sure he didn’t have that sort of money – he ran a petrol station and a car hire business and whilst he was doing OK, he couldn’t have had that sort of money lying around. And he didn’t. It wasn’t his money – it was the average amount of money that he collected from his forecourt which then sat, in his business account, until the petrol company collected it six weeks later. The interest rate he was getting from the bank was very low and he was sure he’d get a better return from shares - at that time world stock markets were rising fast. I pointed out that if they fell at all in the next six weeks then not only would he have gone out of business but he’d probably end up in jail. He seemed to think that it was possible to predict the stock market and sell shares before they fell! Anyway I sent him away with a flea in his ear – in fact I was so blunt that I lost him as a client but I did save him from wrecking his business and probably his life!

Then there was the client who didn’t want any advice from me because he was getting a 15% return on his government bonds. Admittedly this was a few years’ ago when interest rates were very high but this was still about 5% higher than elsewhere. It turns out they were Government of Mexico bonds and were denominated in pesos. He honestly didn’t understand the size of the risk he was taking.

I also had a very posh client from the UK who gave me the same story. His money was invested with a broker who was into UK Government Bonds and was getting him a rate of 2% above the normal rate. 2 years later the broker was in jail for fraud. He’d been ‘robbing Peter to pay Paul’ - the payments to existing clients had been coming from the capital that new clients had been investing – a classic pyramid scheme. Same old story – if something sounds too good to be true, it usually is.

Because planning ahead makes you clear about what you need and a proper plan should protect you from Murphy’s Law!

It’s about being in charge of your own money. You might need some assistance from an experienced adviser but the more you understand about the basic principles of investing the more able you are to get your money working for you.

The money is invested on your behalf – it should never, ever go into the adviser’s account. The safest system is to write the cheque… or direct transfer… to the fund managers.

The downside is that you will have some homework to do – using your own judgement will be based on your own knowledge. Giving your money to an adviser and letting him or her get on with it, doesn’t work. And remember your common sense is your biggest asset – if an investment sounds too good to be true then it usually is. Be wary of any investment that promises returns above the ‘norm’. And never, ever borrow money to invest.