Please note that tax, investment, pension and ISA rules can change and the information and any views contained in this article may now be inaccurate.
How to build a £40,000 portfolio in five years
The best way to achieve your financial goals is to have a sensible plan and the discipline to stick to it.
We will now talk you through a plan that involves saving £600 a month via your Stock & Shares ISA to build up an investment portfolio worth £40,000 in just five years. That could give you
a substantial amount of money to fund home improvements, for example.
Our approach deliberately avoids taking any excessive risk with your money.
However, you must remember that stock markets can be unpredictable and there are no guarantees you will walk away with £40,000 after five years or even longer.
REGULAR INVESTING CAN WORK WONDERS
‘Investing each month will reduce the risk because of pound cost averaging; the number of investment units purchased each month will vary depending on the volatility of investment markets,’ says Martin Bamford, managing director of financial planning group Informed Choice.
‘Over time, this helps to smooth out the volatility because the investments are being made at different price points.’
HOW MUCH RETURN COULD I EXPECT EACH YEAR?
Darius McDermott, managing director of Chelsea Financial Services, says an equity, bond or multi-asset fund could achieve 4% average annual growth after charges.
Investing £600 every month with 4% annual return would make your portfolio worth £39,779 at the end of the five month period. You could easily top that up to £40,000 by collecting the spare change round your house and cutting back on day trips or takeaway meals for couple of months.
You would have contributed £36,000 into your ISA over the five years and enjoyed £3,779 investment growth. We’ve used Prudential’s online investment calculator to do the maths.
That shows how easy it is to build up a decent pot of money once you get in the habit of regular investing.
WHAT IF I CAN’T AFFORD £600 A MONTH?
Let’s say you need £40,000 in five years’ time to help fund a loft conversion or remodel your house with a conservatory and extension. If you can’t afford the full £600 a month, don’t take excessive risks in order to chase higher returns.
For example, you would have to find investments with 11% annual growth if you could only save £500 a month for five years, in order to hit the £40,000 target.
In general, anything offering the potential to return 11% a year is high risk in our view. You might be better reassessing your plan and saving for longer.
You may be surprised to learn that you could revert back to our lower risk 4% annual growth target and hit the £40,000 goal by merely adding a year to your plan (or less).
• Invest £500 a month at 4% annual return for six years = £40,611 investment value.
WHERE DO I INVEST MY MONEY?
Stuart Ritchie, a chartered financial planner at wealth manager AES International, suggests a low-cost, evidence-based, liquid portfolio would be suitable for someone with a medium risk tolerance.
‘By keeping investment costs as low as possible, an investor immediately gains traction,’ he comments. ‘And by keeping their portfolio liquid, they are not affected by early access or surrender penalties, or restricted from accessing their money at any point in the future if they need to.’
He says that assuming someone chose a low-cost index fund, they could expect annual growth of 4% or 5% after charges. Suggested funds include BlackRock SF Managed Index Portfolios Moderate (LU1191063202) and iShares Core MSCI World ETF (IWDA).
The first of these is an offshore fund that invests in a range of passive funds and ETFs managed by BlackRock and has ongoing charges of 0.53%.
It operates in a different way to iShares MSCI World, which is an ETF that invests directly in a diversified portfolio of more than 1,100 developed market equities and has 0.20% ongoing charges. In 2016 these funds returned 5.8% and 7.4% respectively.
SHOULD I BUY FUNDS OR INDIVIDUAL STOCKS?
An investor who only needs a modest 4% or 5% annual return over a medium timeframe to achieve their goal would be well advised not to buy individual shares because the risk would be too high.
Investing £500 or £600 a month in individual company shares would be difficult to achieve a reasonable level of diversification in a cost-effective manner. That’s why a suitable fund with lots of assets in its portfolio would be the ideal solution.
‘Investing in a single multi-asset class fund keeps things simple and makes it easier to monitor progress over time,’ says Bamford.
WHICH FUNDS DO THE EXPERTS SUGGEST?
One option to consider is Vanguard Lifestrategy 60% Equity Accumulation Fund (GB00B3TYHH97), says Bamford. ‘This is a fund of index tracker funds, which offers good diversification and is low cost as the ongoing charges are just 0.22% a year.’
The Vanguard product invests 60% in equities and 40% in bonds using a range of the company’s index funds. Over the last five years it has made an average annual return of just under 10% net of expenses.
McDermott agrees with the choice of a multi-asset fund to diversify the risk, as he says that a five-year time frame is borderline for investing 100% in equities. You’d normally want to invest in equities for a much longer time period in order to even out any ups and down in a typical stock market cycle.
ANY OTHER FUND IDEAS?
‘I like Jupiter Distribution (GB0031294183), Henderson Cautious Managed (GB00B6ZHN203) and Schroder MM Diversity (GB00B60CZD52), which are all multi-asset funds lower down the risk scale,’ comments McDermott.
Jupiter Distribution operates in the Mixed Investment 0% to 35% Shares sector and provides exposure to a portfolio of individual bonds and equities. It has 6.36% annualised return over the last the past five years.
Henderson Cautious Managed is a potentially higher risk option because it can invest up to 60% of its portfolio in shares. It has generated 7.16% annualised return over the last five years.
Schroder MM Diversity aims to provide a total return in excess of inflation. It invests in a multi-asset portfolio of other actively managed funds that invest in UK and overseas shares, bonds, and alternative assets. It has generated 5.59% annualised return over the last five years. (NS)