Contributed by BILL BLEVINS
Financial Correspondent, Blevins Franks
STOCK MARKETS are looking healthy at the moment and should provide good returns for those who invest wisely. However, not everyone is happy to invest in stocks and shares – they may wish to participate in stock market rises, but are not comfortable with the potential volatility. In any case, no-one should invest all of their capital directly in the stock markets.
Many people tend to weigh up whether to invest in equities or leave their money in cash. It can be a tough decision. Equities have the potential to provide attractive returns and, over the long-term, have always performed better than cash. Their capital growth helps to protect against inflation and they can be ‘wrapped’ up in tax efficient structures. However, stock markets can be volatile and your capital is not protected.
Looking at cash, the only returns offered are those provided by the interest rate, which can vary dramatically over a short period and inflation always eats into the rate, meaning you earn less ‘real’ income than you realise. Your cash is therefore at risk of being eroded by inflation, which is dangerous if you have a set amount of money to live on for the rest of your life. You also need to pay income tax on your worldwide interest earnings.
Luckily, there is a means of investing in the stock markets at the same time as protecting your capital: Guaranteed Investment Bonds. These investments are often overlooked, yet they can form a useful part of most people’s portfolio and have many different uses.
Guaranteed investment bonds allow you to invest indirectly in the stock markets, thus giving your money the opportunity to benefit from stock market rises, without risking your capital. The key is to select a bond that offers a 100 per cent capital guarantee. Even if markets fall over the term of your investment, you will not lose any of your capital. You will receive your entire investment back at the end of the term (provided you hold it till the closing date). At the same time, the investment will provide a return linked to a stock market index or indices.
Here are some of the uses of a guaranteed investment:
As a risk reduction strategy:
Holding a diversified portfolio always helps to lower risk. Including a 100 per cent capital guaranteed as part of the diversification lowers risk further, because that capital will be protected whatever happens. At the same time, the investment, along with the other assets in your portfolio, will help you earn returns over the longer term and protect your money from inflation.
To protect your cash from taxation:
For those who do not want to take any risk at all with their money, a 100 per cent capital guaranteed investment is a viable alternative. The only risk is the interest that would otherwise have accrued on the deposit. By placing your guaranteed investment within an insurance wrapper, you would protect your money from tax and the implications of the Savings Tax Directive.
To secure your profits:
Many investors are unsure what to do with the profits they earn on their investment portfolio. Should they leave them in the investment to increase the chances of higher gains next year or take them out and deposit them in the bank to keep them safe? A guaranteed investment bond can help solve this dilemma. Leave your original capital invested as before, but move the profits into a guaranteed investment. Your profit will be safe and sound and yet continue to benefit from market rises.
To produce a series of maturities:
Guaranteed investments are designed for a fixed term, often around five or six years. At the end of the term you receive your original capital back plus the stock market linked earnings. If you are looking ahead to increase your income slowly in future years, you could invest a sum this year, another sum next year, another the year after and so on. This way, in the future you will receive a lump sum of money every year for a number of years.
As a defensive measure:
You may, at times, be concerned about what your equity investments are going to do next and wonder whether to sell them and move them into cash. Trying to time the markets can result in losing money, but moving some money out of direct equity exposure into a guaranteed investment could be a wise move – or one that gives you peace of mind. For example, you may be worried that markets are over valued; you cannot be certain that this is the case, but as a defensive strategy you could switch some capital to a guaranteed investment, where the return will still be related to the average performance of the market over the period. The amount switched will be protected from market downturns should they happen. This is a strategy you should discuss with a financial adviser at the time.
Selecting a guaranteed investment:
Find one with a 100 per cent guarantee. It should give you 100 per cent participation in the markets and ideally should be linked to around four different indices instead of just one. The diversification should increase returns, but do ensure that gains made in one market cannot be eroded by losses in another. The company issuing the investment should have a solid reputation and the investment should be guaranteed by a major bank. There is an investment available to you in Portugal that meets all these criteria.
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