But, of course, not everyone has the time or inclination to research, select and monitor a portfolio of funds or investment trusts; and even among those who do, many are happy to hand at least some of the legwork over to professional managers.
There are various ways to achieve this, but one of the simplest and cheapest is to make use of one of the several global investment trusts run on a multi-manager basis. Alliance Trust and Witan are two of the most obvious and familiar examples.
Such trusts have several characteristics that make them strong choices for long-term ‘buy-and-forget’ investors at any stage of their investment journey, so let’s look at these factors first.
Perhaps the most obvious is diversification: because different parts of the portfolio are outsourced to other highly regarded managers to run as sub-funds on the basis of their best ideas, these trusts hold hundreds of underlying stocks worldwide.
Diversification by definition makes it very difficult for them to top the performance tables against more concentrated ‘best ideas’ funds over the short term. However, they are better-placed to achieve solid, reliable outcomes over the long term, because no individual holding’s troubles has more than marginal impact on the fortunes of the fund as a whole. Similarly, if a manager blows up, it won’t drag down the whole portfolio.
The sheer size of many global trusts is another big benefit, in several respects. Mick Gilligan, head of managed portfolio services at wealth manager Killik, explains: “With scale comes lower costs: fixed costs such as directors’ fees are lower as a percentage of total assets, and bid/offer spreads are lower.”
Additionally, the trust managers are in a strong position to negotiate more competitive fees with the underlying managers, given the chunky mandates on offer.
So although there is actually a double layer of charges (for the trust and for the sub-managers), the ongoing charges figure (OCF) for Alliance Trust is 0.64%, which is competitive for multi-manager trusts using a range of external expert stock pickers. There are cheaper multi-manager trusts but these tend to use in-house teams and funds so offer less diversity.
Another benefit of scale is that most global generalist trusts are constituents of the FTSE All Share Index. Gilligan explains: “This is the most widely tracked UK index, and inclusion provides helpful ongoing demand for the shares from index-tracking funds.”
Huge trusts also gain the capacity to buy back shares in order to narrow the share price discount to net asset value (NAV), which again adds value for existing shareholders. Gilligan points out that share buybacks in Alliance Trust’s last full financial year added 1.3% to total shareholder performance. “This is meaningful, and not something that small investment trusts are able to do to the same extent,” he adds.
A one-stop shop for new investors
However, there are additional considerations for starting investors, who – let’s face it – may well have better things to do with their spare time than poring over their portfolios.
For them, there’s a big pull in the fact that the experts do all the heavy lifting. Much of the focus for the managers of these trusts is in identifying and monitoring ‘best of class’ sub-managers, and over the years they build considerable expertise. Conversely, if a sub-manager persistently disappoints then it’s the trust managers’ job to take action, and if necessary move that mandate.
In addition, that professional portfolio management can mean investors get ‘special access’. Trust managers may offer mandates to sub-managers who normally run institutional money or are based overseas, and who therefore may not even be on the mainstream UK investor radar.
The trust manager is also responsible for asset allocation. As David Henry, a portfolio manager at wealth manager Quilter Cheviot, puts it: “There’s a danger of becoming a financial magpie and being attracted to the next big shiny things, which would probably have been technology and the US over recent months. If you have a manager who has the discipline and expertise to look also at more out-of-fashion areas with potential to rebound over the long term, then it’s a pretty attractive package.”
It’s worth pointing out in this context that Alliance Trust in particular is an interesting proposition, in that the specialist managers deliberately avoid taking big bets on specific countries, sectors or styles (favouring only growth or value stocks, for instance), on the grounds that macroeconomic outcomes are so complex and difficult to predict.
Instead, their focus is on identifying the best companies with genuine long-term competitive advantage and strength. The integration of environmental, social and governance (ESG) factors into the stock-picking process underpins that long-term perspective.
Core and satellite approaches
As investors’ pension pots grow over the years, they may well start thinking about the possibility of adding other funds to the portfolio.
There are two approaches in this respect, not mutually exclusive. One option is to take the view that a global generalist trust provides pretty comprehensive equity exposure, and use additional holdings to branch out into other asset classes that are not closely correlated with the fortunes of equity markets.
David Henry suggests that for older clients with retirement in their sights, this could have the added attraction of stabilising and lowering volatility in the overall portfolio.
“For clients getting towards the end of their career, the potential for their pension to fall by say 30% if markets implode – as happened last year – may be deeply uncomfortable, especially when you take into account the larger size of their pot,” he points out.
So, while for equity coverage the existing global holding is doing an effective job, diversification into other asset classes such as bonds, property and infrastructure helps limit overall portfolio damage in such an event.
The proportion you allocate to non-equity holdings is a personal decision, dependent on your stomach for stock market volatility, but as you get closer to actually drawing an income from your investment, it’s likely to shift away from the riskier end of the spectrum. A typical ‘balanced’ portfolio might have 30-40% in bonds and other alternatives, and the rest in equities.
For Mick Gilligan, satellite funds could also be an interesting way for rather more engaged investors to gain additional exposure to under-represented areas of the equity market.
He explains: “For example, the UK is only 12% of Alliance Trust’s portfolio, but some investors might wish to have a higher exposure in their home market, particularly given how cheap the UK market is relative to others and considering the choice of UK investment trusts that are available.
“Equally, investors that believe commodity prices will continue to increase may wish to get access to BlackRock World Mining trust to boost the small allocation (5%) that Alliance Trust has to materials.”
Income in retirement
Conventional wisdom might push investors to sell out of non income-focused holdings at retirement, in order to boost yield. But as Henry points out, the danger is that in focusing too much on yield, they risk missing out on other high-quality investment opportunities.
“I prefer to take a total return approach with pension money and have a stable, sustainable yield, rather than chasing an income of 4 or 5%,” he comments. “We’re trying to keep as many equity options on the table as possible at that stage – and the need to manage portfolio volatility means it’s worth having exposure to other asset classes as well.”
He maintains that global generalist trusts can therefore work well for those in retirement. They are not specifically run as income-producing investments, but many members of the global sector are AIC Dividend Heroes, with decades of consistent dividend growth behind them.
An added resilience is that investment trust boards (unlike open-ended funds) are allowed to retain up to 15% of dividends each year to build a reserve fund that will help them maintain payouts when times are tough and companies are cutting or suspending their dividends, as happened last year.
Thus, F&C has a 49-year dividend growth* record; it yields 1.5% and has reserves able to cover dividends 1.8 times. Alliance Trust’s respective figures are 53 years, 1.6% and 2.4 times
“Although many may think these yields are low, they are very competitive when compared to cash deposit rates, they are very resilient, and I have always thought it helpful in times of market stress to focus on a reliable dividend income rather than worry too much about share price fluctuation,” comments Gilligan.
However, a dividend yield of under 2% is unlikely to be enough for investors heavily reliant on their Sipp portfolio (though it might work as it stands for those with a final salary pension as well).
One option is to switch into higher-yielding satellite funds, which could include the likes of alternatives such as property, debt or infrastructure holdings as well as bonds and equity income.
The other is simply to supplement the yield with capital by selling shares. The long-term equity risk premium – the excess annual return from equities over a risk-free alternative – has been around 5% above inflation, and Gilligan suggests investors could use this as a yardstick when drawing capital gains to supplement income.
“If their portfolio generates a yield of 2%, they should be justified in taking around 3% a year in the form of capital gains and still being able to maintain the real value of their portfolio,” he says.
Faith Glasgow is a freelance writer and former Editor of Money Observer.
*Past performance is not a reliable indicator of future returns.
 Winterflood Investment Trust daily data sheet, as at 1 February 2021
Sign up to receive our quarterly newsletter, monthly factsheet and other Company news.