If You Were Investing £100k What Would Be The Smartest Way To Do It?
Do you suddenly have £100k burning a hole in your bank account and are wondering what the most sensible way to invest it is? First of all, congratulations, that’s a pretty nice balance to be able to gaze fondly at when you open your online banking. But the reality is, in terms of the big picture, £100k is both far from an inconsiderable sum of money while still being even further away from representing financial security. It’s a good nest egg that can provide a very solid foundation to an investment portfolio without being enough to retire on.
But it is more than enough to provide some serious returns and value growth over the long term. If invested in low-fee index tracker funds such as ETFs, assuming annual fees of 0.37% and an average long term return of 5% per annum, which on historical evidence is a realistic target, after 20 years that £100,000 would be worth £247,243 if returns are reinvested for a compound effect. That’s not bad at all.
But as an investor with a £100,000 lump sum, you have plenty of choices open to you on how to invest it. And there is not necessarily any single ‘right way’ to do so. How you should invest it will come down to a number of factors, not least of which is your investment goal – what are you investing for?
Defining Your Investment Goal(s)
Your first step towards taking investment decisions on your £100,000 is to reach a conclusion on exactly what you want to do with your investment when you cash it in. It might be earmarked as a university fund for the day a child flies the nest to pursue higher education away from home. Or it could be a rainy day fund for an unknown future need such as illness or any other unpredictable expense. It could be to purchase a holiday in ten years when semi-retirement is planned for. Or it could be a one off lump-sum injection into your main retirement fund.
The most important reason why it is important to define your investment goal comes down to the timeframe of the investment. And the timeframe of an investment has a significant impact on the level of risk that is appropriate. The general principal is that a longer timeframe means more risk can be taken on. That’s because market volatility, especially a crash or down period, is a problem if you need to cash investments in at a moment when they have lost value. But if it is several years until you need to take cash out of your investment fund, you can much more comfortably ignore short term losses, safe in the knowledge a well-balanced and not overly risky investment portfolio has plenty of time to recover.
Financial markets regularly have wobbles that can last for anywhere between weeks and years. Brexit uncertainty is believed to be behind the London Stock Exchange performing less well than major international peers over the past three years. The trade war between the USA and China has also had an impact since last year and so on. In 2017, free of those negative influences, stock markets were flying. But anyone who doesn’t need to cash in their investments now needn’t worry too much. Sooner or later, they will almost certainly be flying again.
Define Your Risk Appetite and Tolerance
But that still doesn’t mean every investor with a £100,000 lump sum will have the same risk appetite or profile. If you don’t yet have any investments, this will be your foundation investment. And that will generally mean you won’t want to risk it on a higher risk investment that could, if it comes off, give you a big return but also stands to lose a significant amount of value if it doesn’t.
On the other hand, if you already have a healthy investment portfolio you are confident is on track to comfortably fund your retirement, you might be a lot more inclined to take on more risk. Your opportunity to cost ratio of a riskier investment will be very different if it not working out will have a relatively insignificant impact on you reaching your retirement goals. In that scenario, taking a risk on an investment that could have a significant impact on your level of wealth if it does come off might be something you are willing to consider.
So a large part of choosing the investments to which you will allocate a £100,000 lump sum will boil down to how you define your own personal risk profile. And that, as we have established, should be something you decide based on a combination of what your investment goal is, timeframe, your existing investment portfolio and personal preference. Some investors just prefer not to take a lot of risk, even if they can theoretically afford to.
Investment Options For A £100,000 Lump Sum
So what are the main options available to anyone with £100,000 to invest? Here we’ll stick to hands-off investments that don’t require a great deal of hands-on commitment, as, for example, most property investments do.
Passive Funds – Index Trackers
The cheapest, and arguably lowest risk, option available to investors with £100k to put to work is passive index-tracking funds. Passive funds most commonly track an index such as the FTSE 100, made up of the 100 biggest companies on the London Stock Exchange by market capitalisation. There are also passive funds that track the FTSE All Share index, that covers the entirety of the companies listed on the London stock exchange.
Or international indices such as the USA’s S&P 500 benchmark. It’s even possible to track a combination of the major developed stock markets, or emerging markets, which are typically more volatile than developed markets but have also historically delivered higher returns over the long term.
There are even passive funds that combine stocks and bonds for diversified, risk-adjusted exposure. A £100k investment in passive funds could be split between several such options for cheap but well diversified exposure to the global economy. And when their higher fees are taken into consideration, active fund managers who actively analyse and pick stocks their funds invest in, actually fail to beat their benchmark index, that a much cheaper passive fund might track, more often than they do. And as well as offering much lower annual fees, investment platforms tend to charge less to investors to hold passive funds.
Despite the fact that the evidence suggests active fund managers struggle to beat their benchmark indices, there are some that do and do so regularly and sometimes by significant margins. The trick is choosing the active fund that will outperform, which is where the higher risk profile of this investment category comes in. Investors are banking on the manager(s) of their fund(s) delivering returns that are strong enough to not only compensate their higher fees but still beat the benchmark index. If they do, returns will be better but if not they could well be weaker than the same money invested through passive funds.
An advantage of active funds is that they can potentially offer more diversity within one investment product than passive funds can. Or offer a particular focus such as income generating (dividend paying) stocks or more defensive positions that would preserve wealth in the event of a market downturn. Funds can also mix different asset classes such as public companies, private companies, commodities such as gold and oil and different types of bonds. Theoretically, it would also be possible to create the same diversity through a portfolio of passive funds, but that would require the investor having the confidence to create and maintain the right balance personally.
Another step up in terms of both fees and professional input would be to invest £100k through a wealth manager. A wealth manager acts like a personal investment advisor and offers a personalised service in constructing and then monitoring and adjusting an investment portfolio from a specially selected blend of different funds. However, this level of service comes at a cost – most usually somewhere between 1.8% and 2.2% per annum. That means a portfolio has to perform well to compensate for those fees but using a wealth manager can also provide peace of mind for investors who either don’t feel confident enough to select their own funds or prefer to be as hands-off as possible.
Venture Capital Trusts
A higher risk option for all or part of a £100k lump sum investment is venture capital trusts. VCTs are funds that invest in promising start-ups. That makes them risky, though also offering the promise of strong returns if the fund gets its investment picks right. They also offer strong tax advantages, such as investments being deductible from income tax and further tax breaks activated if a loss is incurred. Returns are also protected from tax, which improves the upside in the positive scenario.
The tax efficiencies offered by VCTs are particularly attractive for investors in higher tax bands, offering 30% relief on the purchase of new shares – though they do have to be held onto for at least 5 years. Any dividends and capital gains are also tax free.
For the more adventurous investor, an EIS or SEIS investment could be an interesting option for a £100k lump sum investment. The Enterprise Investment and Seed Enterprise Investment schemes cover the same kind of early-stage and growth start-ups as VCTs invest in. The difference is that a direct investment, rather than through a VCT, would mean the investor deciding on the company or companies to invest in rather than a fund manager.
That of course concentrates the risk in less young companies than through a fund, meaning that this kind of investment essentially leaves little middle ground and can be expected to result in either a big return if the company is successful, or a loss if it is not. The good news is that as well as up to 40% tax relief on the initial investment, up to another 30% can potentially be claimed in the event of a loss. That means in most cases only 50%-30% of the capital invested is actually at long term risk, significantly improving the risk profile.
With a £100,000 lump sum investment, a combination of the different investment vehicles and approaches would also be possible. As always, if unsure always seek professional advice.
Please remember that financial investments may rise or fall and past performance does not guarantee future performance in respect of income or capital growth; you may not get back the amount you invested.
There is no obligation to purchase anything but, if you decide to do so, you are strongly advised to consult a professional adviser before making any investment decisions.