Britain has endured inflation running at a 40-year high this year, with interest rates rising rapidly and the prospect of a recession next year.
Last month, annual inflation, as measured by the consumer prices index (CPI), came in at 10.1 per cent – a long way off the Bank of England’s inflation target of 2 per cent.
Around the same time, Ernst & Young forecast that the UK economy will contract around 0.2 per cent every three months from the final quarter of this year through to June next year.
Meanwhile, Goldman Sachs is predicting the UK economy will shrink by 1 per cent next year, down from its previous estimate for a 0.4 per cent contraction.
What to do? Amid the economic doom and gloom, investors will be wondering how to best protect and even grow their wealth
It means the stakes could not be higher for Britons deciding how to invest or save their money.
Anyone currently trying to save will probably be aware of the impact of inflation. At present there is not one single savings rate that gets close to the rate of inflation, meaning savers’ money is losing value in real terms.
As for those looking to invest in shares, many will look at the performance of the stock markets and shudder at the way many share prices have plummeted this year.
David Henry, investment manager at Quilter Cheviot, says: ‘It feels that this year has served up the toughest investing environment in recent times.
‘Bonds, of course, have been terrible. Stocks, particularly those with overseas revenues, have been propped up to an extent by the weakness of Sterling – but still not great.
‘Hundreds of years of market history tell us that things will improve and recover of course, but that does not necessarily help stop the feeling in the pit of your stomach which can arrive at times like this.
‘Investors have to remember, however, that corrections and resets are a necessary part of being an investor. Stocks do not just go straight up.’
With such a challenging backdrop, we explore where may be the best place for Britons to stash their cash over the coming months.
To save or to invest?
It has been a grim year for many investors. In the year to date, the FTSE 100 Index is down around 3 per cent and the FTSE 250 has fallen 24 per cent.
Meanwhile the US Nasdaq is down roughly 35 per cent and the Dow Jones down 12 per cent.
For those with cash to spare, the million dollar question is when to enter the fray. Some will argue that now is a good time to buy whilst others are warning that things are more likely to get worse before they get better.
Taking a long-term approach is all well and good, but nobody wants to buy just before another dip.
Gavin Jones, a chartered financial planner at Old Mill, says ‘There are no right and wrong answers with investing.
‘No one has a crystal ball showing the best future investment. There are lots of opinions and some of those opinions will be right, but they do not have any foresight.
‘Warren Buffet famously said “be fearful when others are greedy and be greedy when others are fearful”. So now may be a good time to invest, but it’s not a view I see widely shared.’
Mike Stimpson, a partner at wealth manager Saltus, believes that investors should be doing a bit of both: committing some money towards investments whilst holding cash in reserve.
He says: ‘We have raised cash to take advantage of new opportunities but have not yet pulled the trigger on a number of purchases.
‘Some asset classes are incredibly cheap already and some stocks will be able to push through the current backdrop given they are more resilient.’
Investing for value vs investing for growth
Value investing is based on the search for shares whose price does not appear to reflect the fundamental value of the company, based either on its sales and profits, or the dividends it pays. Such a share will often have a high dividend yield or a low PE (price-to-earnings) ratio.
Growth stocks relate to companies that are deemed to have the potential to outperform the overall market in the long term.
In recent times, growth companies have been typified by tech stocks such as Apple, Amazon, Tesla, Netflix and Google.
Meanwhile, companies dealing in commodities and financial services, for example, have tended to offer better value opportunities over the last year.
Opportunity: Value investors search for shares where the price does not appear to reflect the fundamental value of the company, based either on its sales, profits, or the dividends it pays
Gavin Jones, chartered financial planner at Old Mill, said: ‘A simplified view of the difference between growth and value investing is the price you are paying for profit.
‘Growth investors tend to focus on companies that are expected to grow quickly, so will “overpay” based on current profit.
‘Meanwhile, value investors will be far more focused on the price they pay for profit – these “undervalued” companies will have much lower prices than the growth companies.’
Since the start of the year, rising interest rates have caused sharp falls in many growth stocks, whilst the share price falls of energy and financial sector firms have been less severe and in some cases they have actually risen.
These value stocks have helped to reduce losses in the FTSE 100 to roughly 3 per cent so far in 2022, compared to the more than 35 per cent recorded on the Nasdaq index.
The technology sector accounts for just over half the Nasdaq index, more than three times the index weight of any other market sector.
Victor Trokoudes, chief executive and co-founder of the savings and investment app, Plum, says: ‘The UK market features value companies that have increasingly come into favour following global events this year, such as miners and energy stocks, while missing the fast-growing tech companies that have struggled against a backdrop of rising interest rates.
‘In fact, the UK has been the best-performing developed market this year in local currency terms.
‘With many of these FTSE companies providing dividends as well, they offer an opportunity to fight back against rising inflation.’
Whilst investing in individual companies is a higher-risk strategy for most DIY investors, investing in value-orientated funds could be a more sensible option.
Growth stocks: Tesla is a classic example of a growth stock. It has a price to earnings ratio of about 70. The UK FTSE All-Share recorded a daily P/E ratio of 14.420 on 28 Oct 2022
Laith Khalaf, head of investment analysis at investment platform AJ Bell says: ‘A low valuation acts as a bit of a margin of safety, because it means there’s less room on the downside for a stock to fall. Plus value stocks also tend to have dividends attached.
‘Investors looking for a value fund might consider Jupiter UK Special Situations. The fund manager, Ben Whitmore, has a strict value discipline, but he also only invests in companies that have robust balance sheets, which is clearly important in an economic downturn.’
The UK is not the only market where investors are seeing value opportunities, however.
Trokoudes adds: ‘Japan’s Yen has fallen the most of the major currencies against the dollar, as its central bank continued to keep interest rates low in contrast to other major developed countries.
‘Combined with the average stock in Japan’s equity market having a relatively lower cyclically adjusted price to earning multiple stocks there look relatively cheap.’
Where is the best value in the UK at present?
Share prices among many of the UK’s medium and smaller sized companies have taken a battering this year.
Since the start of the year, the FTSE 250 index of medium-sized businesses has plunged more than 23 per cent and the Numis Smaller Companies Index (excluding investment companies) is down roughly 25 per cent.
Some believe that a lot of bad news has already been priced into the minnows of the stock market and there may be better results in the future.
Heading south: Since the start of the year, the FTSE 250 index of medium-sized businesses has plunged more than 25 per cent
Khalaf adds: ‘Economic downturns can be particularly challenging for smaller companies, but now might be a good time to start building a position for more adventurous investors.
‘While in the short-term the share prices of smaller companies may trend lower, over the long run this area of the market has been an exceptional source of returns, especially when allied with a skilful active manager who can sort the wheat from the chaff.
‘Over ten years, the average UK Smaller Companies fund has returned 169 per cent, compared to 95 per cent from a UK index tracker.
‘Funds to consider in this area include abrdn UK Smaller Companies Growth Trust and TB Amati UK Smaller Companies.’
Where to invest if interest rates continue to rise
How high the Federal Reserve will hike interest rates in the US, or how high the Bank of England will hike interest rates in the UK, is difficult to accurately predict.
It will be a balancing act between trying to keep inflation under control whilst averting a painful recession.
Higher interest rates present a problem for growth stocks, according to AJ Bell.
Higher rates and elevated inflation diminish the current value of future cash flows, which will be a key input into the pricing of growth companies.
And in recent times, many investors who have been driven out of bonds by low yields have found sanctuary in solid, reliable growth companies, driving up their valuations.
Going up: CPI inflation now at 10.1%: It means consumer prices are rising by more than five times the Bank of England’s long-term target of 2 per cent
As bond yields rise, these investors may be tempted back to their natural habitat.
Jason Hollands of wealth management firm Evelyn Partners says: ‘We think the safest part of the equity market now is in the large and highly international companies that make up the FTSE 100.
‘In particular we favour defensive sectors like healthcare, staples and utilities, which are less sensitive to slowing growth and higher interest rates.
‘Energy is another opportunity within UK large-caps as capital discipline among oil and gas giants is driving up returns, supporting dividends and share buybacks – and valuations are also low partly because many large investment institutions now shun ‘fossil fuels.
Conversely we would suggest continued caution to those areas that are sensitive to interest rates, higher energy costs or slow growth such as some stocks in the information technology and consumer services sectors.
‘The US market is particularly highly exposed to these sectors. US mega cap growth stocks are vulnerable to higher interest rates, valuation adjustments and changing growth expectations.’
Investing for dividends
When capital growth is at risk, income can become all the more important for investors.
When looking at the FTSE 100, the majority of the returns over the last 25 years have been from reinvested dividends rather than capital growth, according to Quilter.
‘Dividends can be attractive in times of economic turmoil, because one in the hand tends to be valued more than two in the bush when uncertainty is heightened,’ says Khalaf.
‘Dividends can also act as a buoyancy aid for share prices, because if a company is paying investors a dividend every year, there comes a share price below which this income stream looks irresistible.
Cash boost: Dividends represent money in the hand
‘Investors looking for dividend-paying funds might consider City of London Investment Trust, which is primarily invested in FTSE 100 stocks, or Trojan Global Income.’
FTSE 100 members are forecast to increase ordinary dividend payments by 11 per cent in 2022, although this figure is expected to slow to 8 per cent next year.
Financials are now expected to be the biggest contributor to FTSE 100 dividends in the coming year, following cuts to estimates for miners’ dividend payments.
Khalaf adds: ‘The current economic malaise threatens to squeeze company profits by reducing revenues at the same time as increasing costs.
‘That will undoubtedly put pressure on dividend payments, but these have very recently been through a trial by fire at the hands of the pandemic.
‘What we’re facing is much more of a slow burn than the blistering economic inferno of the pandemic.
‘The result is that dividend payments are generally more resilient than they were prior to Covid-19, because companies were forced to cut them to more affordable levels.’
Dividend cover for the FTSE 100 is forecast to be more than 2.16 times earnings in 2023, the highest level since 2012.
Khalaf adds: ‘This figure is an average of analyst estimates, so it already includes their expectations for how a weakening economy will hit corporate earnings.
‘Of course, those predictions might be wrong, but that is still a fairly healthy buffer for FTSE 100 companies to have, which will go some way to protecting dividends.’
What about sticking to cash?
The case for cash grows stronger by the week. Savers can now get more than 5 per cent from the best fixed rate savings deals and as high as 2.81 per cent on easy-access.
The best one-year fixed bond pays 4.6 per cent whilst the best two-year fix pays 5 per cent.
However, the fact that inflation remains high will likely be causing many to remain cautious of having too much money in cash.
For more than a year now, the best rates paid on savings have remained below CPI, meaning savers are actually losing money in ‘real’ terms.
Diminishing: Real-terms savings returns have plummeted to their lowest level since February 1976, with inflation eating away almost 9% of the typical pot last month
Gavin Jones of Old Mill says: ‘It’s always a good idea to keep cash for short-term needs but many clients keep more cash than is strictly necessary.
‘If it is not derailing their long-term plans then that is probably fine, but an account paying 5 per cent is losing money after inflation if inflation is 10 per cent.
‘Of course, many investments may have lost even more value in the last year but their expected return – especially if you are talking about investments that can keep pace with inflation such as companies or property – should be higher than a cash account over the long term.
‘And if you have more than enough cash and choose to invest at a time when uncertainty means asset prices have fallen and expected returns are higher, all the better. Easy to say, harder to do.’
Don’t abandon ship during a storm
Anyone watching their investments plummet in value this year will have likely wanted to try and change things up.
However, sometimes the best thing to do is to do nothing. After all, the only way to make a loss in real terms is to sell at a loss.
Don’t panic: Those who are watching the value of their investment plummet may be tempted to cash out and avoid further losses – but this could be the worst tactic
Roger Clarke, a chartered financial planner at The Private Office, says: ‘No one likes to see their portfolio fall in value. It is painful for all of us, and I think we all feel the emotional temptation to stem the flow in case things get worse.
‘I fully understand that and feel it myself. At such times it is important to look at things in perspective.
‘The truth is that if our investments lose value in a crash, we only experience that fall if we cash in.
‘If someone had gone into hibernation in February 2020 (just before the Coronavirus crash) and woken up nine months later, their investments would have looked the same.
If the same investor had panicked and cashed in at the end of March, they would have missed out on the recovery. All of this happened very quickly. On one day, markets jumped by 9 per cent.’
How to pick an investing platform
For those prepared to take the plunge and risk short-term losses, then looking for the most cost-effective way to invest is a good idea.
Therefore, if you decide to invest, you might wish to consider an online DIY investing platform.
Many of the investing platforms allow customers to invest in a large range of funds, investment trusts and individual stocks and shares – although the range of choice varies between providers.
For those who would rather not have to make any decisions themselves, there are also options that mean they won’t have to make a choice.
Online investment management services like Nutmeg, Moneyfarm and Wealthify will invest on your behalf in accordance with your personal risk profile.
Investing: Those who are able to save or invest for the long term might be better off turning to the stock market to try and outperform inflation
When weighing up the right one for you, it’s important to look at the service on offer, along with administration charges and dealing fees, plus any other extra costs.
This is Money has written an extensive guide on the best and cheapest DIY investing platforms, which might help you decide.
Once you have chosen which platform or provider to use, the next task is to choose what to invest in.
Many of the platforms have created their own list of best investment fund ideas, which can help narrow down the list.
Ultimately, aiming for a mix of funds which are diversified by security, geography and asset class is often deemed to be a sensible approach.
However, many people will feel more comfortable opting for funds that invest in companies they have heard of.
Those who are keen to diversify, but would prefer to avoid picking the funds themselves, may want to consider a multi-asset fund.
Diversify: Aiming for a mix of funds which are diversified by security, geography and asset class is often considered a sensible approach
‘Multi-asset funds invest across a range of different markets and asset classes, so you don’t have to,’ says Khalaf.
‘Typically they have exposure to equities, bonds, cash, commodities and property.
‘Such a diversified approach means you have irons in lots of fires, which is particularly appealing when tomorrow’s winners and losers are so hard to predict.
‘A number of these funds will also appeal to more cautious investors because they focus on capital preservation.
‘While they’ll never shoot the lights out if markets are roaring away, they offer downside protection when things take a turn for the worse.
‘They can and do fall in value, but the manager builds a portfolio that is constructed to minimise losses.
‘Such funds include Personal Assets Trust, Ruffer Investment Trust and Rathbone Strategic Growth.’
Advice from an investment adviser
Five points investors should remind themselves of during choppy markets. David Henry, investment manager at Quilter Cheviot.
Block out the noise
Clearly the moves in the market are significant and unsettling. This has resulted in the news cycle painting a, correctly, negative picture. This is understandable and will no doubt catch the attention of many readers and investors. Ultimately, we are all seduced by pessimism.
Folks who save diligently and incrementally amass fortunes for themselves through a lifetime of patience never get the headlines. As such, we need to take the things we read and hear with a pinch of salt and block it out before assessing the market further. The less you interact, the less likely you are to do something, the less likely you are to make a mistake.
This is not the time to make lots of changes to your investment strategy. The time for panicking has passed. If you find yourself constantly worrying about your portfolio value at the moment, make a note of this and then conduct a root and branch re-assessment of your asset allocation when the world settles down so you are taking the appropriate amount of risk.
Prioritise personal finance
If you are compelled to do something, start with the bread and butter of your financial plan. Can you afford to save more each month, or invest spare cash? For those who are net savers, lower prices are a godsend. You are a forced buyer of financial assets for the next ten, twenty or thirty years. You may as well try to capitalise when both major asset classes, equities and bonds, are falling.
Have you subscribed to your Isa allowance for this tax year? Can you afford to make further pension contributions? Should you be harvesting losses within your portfolio to offset against future years’ capital gains? Tax efficiency plays a huge role in your long-term outcomes and a financial adviser can be crucial at times like this.
Accept that you will probably be wrong
If you decide to add to your portfolio at the moment, well done for taking positive action – just recognise that there is every chance that you will be punched in the face almost immediately by further falls. That is just what the market does in volatile times like this. The chances of you ‘catching the bottom’ of the market are infinitely small so accept that, in all likelihood, this will not happen. But by choosing to add at a discount, regardless, your future self will thank you eventually.
Look after yourself
Times like this can be disconcerting and thus we all need a break. Make a deliberate effort not to check the market or your investments on a regular basis. Whatever is happening is out of your control when markets are shut, and you can’t do anything about it. Use the time to do something else that you enjoy and get more satisfaction from.