Savers languishing in dismal with-profits funds could make a return up to 223pc higher by moving their money into a managed portfolio, even if they had to pay an exit fee to leave.
Millions of customers who bought investment bonds, endowments, insurance and pensions in the Nineties ended up invested in insurers’ with-profits funds. They were often given little explanation of how the complex investments worked.
Some severely underperformed; shortfalls in endowment mortgages based on with-profits funds led to a major mis-selling scandal.
Phoenix Life, a retirement company, has since bought up many of these old-style funds. They have become “zombies”, kept alive but with low and unreliable returns. Any returns come in the form of annual bonuses, which are reinvested into the fund.
For 2018-19, 25pc of Phoenix’s with-profits funds will pay no annual bonus.
The bonuses are investors’ share of the insurance company’s profits after its costs are deducted. Some profits can be held back in good years to compensate for bad times. Phoenix blamed “a backdrop of market volatility and subsequent ongoing uncertainty” for the non-existent returns.
Some with-profits investors have received little or no bonuses for years, although Phoenix said the current situation is an improvement from five years ago when 60pc of its funds paid nothing.
Investors in these zombie with-profits may be keen to move, but can face hefty penalties to do so, known as “market value reductions” (MVRs). These slash the surrender value of the policy if an investor leaves early.
MVRs on some of Phoenix’s policies mean investors who exit 20 years early lose up to 46pc of their investment. Given the age of these policies, investors are more likely to suffer the 10 years penalty – still a hefty 17pc.
However, Telegraph Money has found a way for investors stuck in these poorly performing funds to make much more reliable returns, even if they are hit with an exit fee.
FundCalibre, an investment research firm, has devised a with-profits-style portfolio that has the potential to return investors 223pc in 10 years, making back what they would lose from a 17pc MVR and then significantly outperforming the likely returns from a zombie with-profits fund.
Using the portfolio, an investor with £20,000 in with-profits who ends up with £16,660 to invest anew (after the MVR) could grow that sum to £53,800 in a decade, based on historic returns. Someone with £50,000 who starts investing again with £41,500 could grow this to £134,000.
For asset allocation, FundCalibre looked at a typical “growth” with-profits portfolio, and based on funds with a 10-year track record to take account of the time needed to compensate for that level of market value reduction.
The FundCalibre portfolio has 42pc in equities, using defensive funds, although in the more risky areas of the asset class. The investments are spread across the UK, Asia and emerging markets.
Two picks, Newton Global Income and M&G Global Dividend, are similar in name but run differently. The M&G fund focuses on dividend growth, not yield, and is designed to cope with all market conditions.
Investec UK Alpha provides core UK exposure, with Schroder Oriental Income, a trust, taking in Asia, excluding Japan but including Australia and New Zealand. It is supplemented by Invesco Asian.
In fixed income, which accounts for 30pc of the portfolio, the picks are spread across four very differently run funds: M&G Corporate Bond; Royal London Corporate Bond; Invesco Income Plus; and Baillie Gifford Strategic Bond. Some managers take more of a macroeconomic view and others a company level to give a good overall diversification.
FundCalibre recommends 15pc in property, remembering this is an illiquid asset class where buying and selling occurs slowly.
Janus Henderson UK Property offers low vacancy rates and top-quality tenants; TR Property Trust invests in UK and European property-related shares and some UK bricks and mortar; Premier Pan European Property Share expands into property-related companies.
Alternatives make up 11pc of the portfolio and focus on defensive, targeted absolute return funds that use diversification to mitigate investment risks, and infrastructure for yield and inflation-proofing.
These are Brooks Macdonald Defensive Capital, SVS Church House Tenax Absolute Return Strategies, and First State Global Listed Infrastructure
The final 2pc goes into cash.
Darius McDermott, of FundCalibre, said: “It’s important to point out it’s the zombie with-profits funds we don’t like, not the whole industry. Some are still doing a decent job for investors.”
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Darren Cooke, financial adviser at Red Circle Financial Planning, said: “With-profits bonuses paid each year to investors still bear no relation to the actual returns achieved by the funds, and forget trying to determine your charges.
“If your with-profits fund is paying no returns at all, clearly you have a better opportunity over the longer term to improve these by moving the money elsewhere.”
He cautioned that the terms investors are bound by vary, so it is important to check individual policies, and if unsure take regulated advice.
“See if any penalty is applied to moving the funds – if so, how big – and ensure there is time for any new investment to make up any money lost on transferring out,” he said.
“Remember: the new portfolio could drop in value as well as rise,” he added. “The last 10 years have generally been good for investors. The next 10 years may not be so friendly.”
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