The current turmoil of the markets has been well documented - at the time of writing we have just had the largest drop in the markets since September 2001, with the FTSE losing 5.5% in one day.
This month I would like to look at one of those areas that pension investors are rushing towards if they have not done already, and that is cash.
Now, for a start I am not saying that this is where investors should be looking to move. Many would argue that the FTSE in particular looks very cheap at present and that this may represent a good buying opportunity.
What has been apparent to me over the last six months or so when advising, particularly on new money, that there is little to choose for cash investors in pensions.
For most using insured pensions or platform based SIPPs the cash deposit choice is normally restricted to one or two life office cash funds. There is certainly a difference in performance between the cash funds of different insurers, the problem is that you do not have the choice as you might with other funds.
Most insured pension providers have given access to a range of external fund links in almost every other sector but cash.
For a small investor that is saving £50 per month in the managed fund this is not going to be an issue, but should those larger investors care?
Under performance of the sector of 0.25% per annum in cash fund, and assuming cash represents 5% of the fund can result in a loss of 5.126% on the overall portfolio over ten years. Put it another way a transfer value that started at £100,000 would be worth £5,126 less after ten years if your life office's cash fund underperforms (obviously assuming all other funds perform the same).
However, what really exercised my little grey cells are the clients that are using SIPPs, be they the platform based variety or the full blown SIPP.
I was very interested in the interest rates that are available to offshore bond investors. Could pension investors access the deposit rates available from banks such as AIB which were at least 1% per annum ahead of those returns offered by the life office cash funds, and in many cases closer to 2%.
Well to the first question, can an offshore bond be held as an asset of a SIPP, both through legislation and systems? The answer was a resounding yes.
The second question, would the costs make the exercise worth while?
Well, if the full SIPP fees are already being paid then the answer is yes assuming your offshore bond is competitively priced. If you can access the offshore bond at a cost of 0.25% per annum, clearly the gain is going to be 0.75% on a higher interest rate of 1% per annum.
Perhaps what is more interesting is whether it is worth taking on the extra costs of an offshore bond to access these higher interest rates rather than using a TIP to access cash?
As with most issues in financial services the answer is, it depends, but an extract from my number crunching suggests the following:
Life office cash returns - 5%
Offshore bond deposit account - 6%
Cost of SIPP - £500 per annum (offshore bond solution only)
Cost of offshore bond - 0.25% per annum
Investment in cash - £200,000
Return over five years from life office fund/UK bank account - £252,493
Return after five years from an offshore bond via a full SIPP - £261,699
This is a gain of 3.65% over five years.
I am including UK pension cash accounts (such as Cater Allen, Royal Bank of Scotland) in my analysis with the life office funds as the interest rates offered, while a little higher, are broadly in line with the returns of life office funds. They certainly do not match those currently available offshore.
But what happens when you do not want to hold cash - are you left with an offshore bond with penalties that you do not want? Or are there other uses you can make of it?
To be continued next month ...
To promote 'long-term investment'
Switching 'hard and expensive'
Smaller funds still packing a punch
To drive progress