Steering clients through Brexit volatility
What can advisers do to help clients who are concerned about the impact of Brexit on short-term income needs?
With the UK's departure from the EU on the horizon, clients with short-term plans may be wondering what impact, if any, it will have on their investment portfolios and their ability to draw an income from pension pots.
A sudden fall in the market just as clients prepare to draw an income can have devastating effects.
Many advisers will also be aware currency markets could be equally volatile.
The pound has, since the referendum, moved quite dramatically.
Chris Justham, head of discretionary, London and the southeast, at Seven Investment Management, says currency does have a "real impact" on clients' investments.
"For us as investment managers, it's one of the areas we talk about a lot, we want to insulate the portfolios from large swings in the pound and that could be either positive or negative," he explains.
"Every single time there has been an event, or a speech, or a leaked bit of information from either the UK or Europe, the pound has been the lightning rod for sentiment and it's moved materially - that can have an impact on your portfolio."
Read on to find out more about how advisers can help clients with immediate retirement needs to navigate any market or currency volatility caused by Brexit.
How advisers are preparing clients for Brexit volatility
Almost two-thirds of advisers believe a long-term outlook will best protect drawdown clients’ assets from possible turbulence in the market, according to the latest FTAdviser Talking Point poll.
The poll asked advisers to choose which four actions best described how they are helping clients in drawdown from the possibility of volatility after Britain leaves the EU on March 29.
Where drawdown is coming up over the shorter term we would be prepared and have a cash allocation ready in any case, irrespective of Brexit.
A total of 62 per cent said they were doing nothing different to prepare clients from possible ensuing market turbulence, while 19 per cent said they were arranging more client meetings.
A mere 13 per cent said they were moving more of clients' portfolio allocations into cash, and 6 per cent said they were advising clients to limit their pot withdrawals.
Jaskarn Pawar, chartered financial planner at Investor Profile, said he was encouraged by the fact that some 81 per cent of advisers were looking to maintain a long-term strategy throughout any expected turbulence.
He said: "Moving to cash sounds risky at best, but a little bit like predicting the future at worst.
"Why move to cash unless you know what is going to happen? If you know what is going to happen, how do you know?"
Similarly, Chris Justham, head of discretionary at 7IM, said it was reassuring the temptation to move clients fully into cash was "not luring more advisers into making a short-term emotional decision that disregards the longer-term plan".
Ideally, cash was already being utilised as part of a well-diversified portfolio, he pointed out.
He continued: "Providing a client’s portfolio is adequately diversified with no significant concentration in UK facing companies, one could argue that staying the course and keeping clients well-informed and reassured is the best course of action."
Helen Richardson, independent financial adviser at Ascot Lloyd, noted clients would be offered different styles of management and would themselves have different levels of involvement.
She explained: "I have a mixture - some clients prefer more involvement and like to know what the fund managers are doing with assets, whereas others just prefer to leave us and the managers to it given that the portfolios are long term in nature anyway.
"Where drawdown is coming up over the shorter term we would be prepared and have a cash allocation ready in any case, irrespective of Brexit."
How to prepare your clients for Brexit
Words: Ellie Duncan
Drawdown clients may have to revisit the basics as Brexit looms
Unless your clients have been living under a rather large rock for the past few years, they will be aware that the UK, as it stands, will be leaving the EU on March 29.
Under what terms the UK ends up departing, or whether there is a deal in place at all on this date or, indeed, whether the exit date is delayed, all remains to be seen.
It is precisely this lack of clarity that may be causing some clients to feel concerned about what impact this might have on stock markets and therefore on their short-term pension saving and investment needs.
Anyone planning to retire in the next few months and go into drawdown may be wondering how they can prepare for what might be a volatile few months in the stock market.
What impact could a sudden fall in the FTSE 100 have on their pension pot, just as they plan to draw an income from it?
But then, advisers are used to telling clients to maintain their focus on the long term and not get distracted by political or macro noise.
So is Brexit any different?
Scope for volatility
Rebecca O’Keeffe, head of investments at interactive investor, explains: “Volatility – a measure of the ups and downs in the stock market – is a double-edged sword.
“With Brexit now so close, markets have tried to price it in already, but risks remain on both the upside and downside.”
She notes: “Bank of England governor Mark Carney [pictured] observed [recently] that the range of possible outcomes remains as wide now as it was the day after the referendum. So, diametrically opposed outcomes are still very possible, meaning there’s scope for substantial volatility.”
As Adrian Lowcock, head of personal investing at Willis Owen, points out, a no-deal Brexit is supposed to be priced into markets, but he cautions this does not mean there will not be volatility.
“Expect the pound to fall, at least for a while, and the Bank of England may well respond with a cut in interest rates,” he says.
“Savings rates are more likely to fall than rise in the short term. Typically, the FTSE 100 has risen when the pound falls, but Brexit day might be slightly different.
“Initially, this reaction could be short-lived – [it] just depends what happens on day one, two or three. If things don’t seem notably different then markets may just adopt a ‘wait and see’ approach, as they have pre-Brexit.”
The main impact to investors over the coming weeks is likely to come from a move in sterling and the knock-on effect on the UK and international equity markets.
Currency markets have also proven to be at the whim of Brexit-related developments, so understanding the impact currency exposure could have on client portfolios is important.
Brexit news typically impacts sterling more than equity markets, according to James Beaumont, international head of portfolio research and consulting group at Natixis Investment Managers.
He suggests it would be timely for advisers to review currency exposure within client portfolios.
“Most advisers that have unhedged non-UK equity exposure are de facto short sterling through their US, European and emerging market equity exposure and, therefore, benefit from negative Brexit news on that part of their portfolio,” he explains.
“In terms of advisers’ domestic equity exposure, those invested in the FTSE 100 are typically less impacted by negative Brexit news, because the majority of its constituents have earnings outside of the UK – but this is less the case for UK small-caps.”
Ms O’Keeffe agrees: “The main impact to investors over the coming weeks is likely to come from a move in sterling and the knock-on effect on the UK and international equity markets.
“A soft Brexit would result in a significant rally in sterling, which could mean that the sterling price of the bigger global international companies listed on the FTSE 100 might fall. However, a soft Brexit would result in potentially substantial upside for UK-focused equities.”
She continues: “A hard Brexit would see sterling fall sharply as dislocation to trade, supply chains and access to markets throws many economic certainties into total disarray.
“UK-focused equities, and those most directly affected by UK-EU trade could get hit hard, whereas international companies listed in the UK might offer a relative safe-haven.”
Are advisers seeing more queries from clients about the potential impact of Brexit on their portfolios?
Chris Justham, head of discretionary, London and southeast, at Seven Investment Management, says when he joins advisers in meetings it is the “hot topic”.
But he suggests one of the positives to come out of it is that people “seem more engaged with the investment of their money than ever”.
He also believes this is where the adviser can play a part in offering reassurance to clients and managing expectations.
“I think you can take steps to mitigate the impact of that short-term volatility. You can do that in a number of different ways,” he suggests.
“I think a relatively straightforward way is segmenting a portfolio into pots based on short, medium and long-term needs. That can be across multiple different tax wrappers but it’s going back to the basics of, what is it the money is needed for?
“Because if it’s over the long term, you have to rely on your investment manager, for example if you’ve outsourced it, to do their job and take actions within the portfolio to mitigate those fluctuations accordingly.”
In these situations, ensuring a pragmatic approach to your investments is crucial, and most investors would rather avoid a loss than make a gain.
Mr Justham says: “Generally speaking, if you have a client, and we’re talking specifically about drawdown here, where they’re either taking income or they’re imminently expecting to take income – these are people who are going to have to draw down from their pot.
“Ultimately, they need to make sure they don’t run out of money. A big goal risk there is their portfolio falling significantly in value and therefore the vagaries of pound cost ravaging, where they’re having to take money from their portfolio when it’s already fallen.”
Pound cost ravaging is a phrase that will be familiar to advisers and is certainly something their clients with impending retirement income needs may well be concerned about.
Cash is king
Ms O’Keeffe warns when markets are more volatile it does matter whether clients are building up their portfolio or drawing it down.
“Volatility potentially benefits investors who are regularly investing; the concept of pound cost averaging means you will be able to buy in at lower levels if markets take a tumble,” she explains.
“However, if you are withdrawing money on a regular basis then falling markets are bad news, known as pound cost ravaging. Regular amounts of money that are being taken out to fund a pension mean that you potentially have to sell more units, so you don’t have as much invested and can’t benefit if markets subsequently recover.
“Investors who are drawing down their pension might want to consider if they can reduce the amount of income they take should markets experience erratic falls.”
One way to do this is to set aside more held in cash at this point.
Global equities have been a good place to be post-referendum and still offer some attractive opportunities.
Mr Justham suggests advisers ask clients to think about how much they might need to hold in cash to be able to meet any short-term obligations and be less affected by the ups and downs of the stock market.
In other words, as he puts it, this is a good time to “revisit the basics” with clients.
Joe Roxborough, a chartered financial planner at Ascot Lloyd, says: “Many investors read uncertainty as something to be feared, and others view it as an opportunity to strike while markets are, by many metrics, underpriced.
“In these situations, ensuring a pragmatic approach to your investments is crucial, and most investors would rather avoid a loss than make a gain. However, a too cautious approach over a longer period of time can hugely impinge on growth.”
He suggests covering off the following three areas in conversations about Brexit:
- Are you expecting to drawdown any large amounts in the near future? Investors should aim to have six months to a year’s worth of expenditure in cash. If clients do not have this to hand, the recent rally in prices could be an opportunity to take some profits and rebalance to create this cash.
- Be careful of internet opinions. No-one knows what Brexit will look like, nor the effect it will have on investment markets. Not only was voting to leave the EU in 2016 the less expected result of the referendum, but the impact on markets was not what most pundits expected either. In short, be careful of making dramatic moves in your portfolio based on compelling writing.
- Diversify and rebalance – asset allocation is crucial, and not all of your investment returns will hinge on the outcome of Brexit. Over-investing outside of your comfort zone purely on expectations for the impact Brexit will have is gambling and should be treated as such.
For those clients specifically with retirement planning needs, Mr Lowcock explains: “The best idea is to have a plan to transition from your accumulation phase to the decumulation phase and look to move your investments to be positioned for retirement over a three to five-year period.”
As well as having cash to hand to meet immediate income needs, he explains clients should be well diversified.
“Global equities have been a good place to be post-referendum and still offer some attractive opportunities,” he observes. “For most of the rest of the world, Brexit is of little or no significance.
“Thirdly, don’t panic – the next six months are likely to be challenging and the uncertainty is likely to weigh on the minds of investors for some time.”
But clients reaching retirement might also need to think about the prospect of rising living costs, Mr Lowcock points out, adding, “so clients might find their income needs actually change”.
“This is largely unknown but should be planned for, so having the extra cash cushion will do wonders to protect clients’ standards of living in the short term,” he notes.
“Longer term they may need to re-plan their retirement if costs go significantly higher for a sustained period.”
It might be easy for advisers and their clients to be thrown off course by Brexit and any subsequent volatility.
Mr Beaumont points out: “There are so many possible outcomes, with so many ramifications we would be very wary of trying to ‘trade Brexit’, and also wary of focusing so much on Brexit headlines that you take your eye off other risks and threats that may actually have far greater consequences for a client’s portfolio.”
House View: Brexit the top concern for UK end clients
Investor concerns about Brexit have soared in 2018 according to Schroders’ annual Adviser Survey, completed by more than 400 financial advisers from across the UK.
90 per cent of advisers said that the impact of Brexit was a concern for their clients for the next 12 months, up from 81 per cent in 2017 and 71 per cent in 2016.
In contrast, only 20 per cent of advisers said that rising interest rates were a concern for their clients.
Many advisers also have concerns about the impact of Brexit on their businesses, with 63 per cent stating it will have a negative impact, up from 56 per cent in 2017.
Financial advisers have a crucial role to play in helping investors navigate changing market conditions. It comes as no surprise that almost all of the advisers who took part in our annual Adviser Survey have discussed the potential implications of Brexit with their clients.
The Brexit impact on investment decisions
The survey indicates that 70 per cent of UK advisers’ clients are prepared to take less risk due to their Brexit concerns, with 23 per cent increasing their allocation to cash.
13 per cent of advisers’ clients have moved money out of UK assets in 2018 and a further 22 per cent are currently considering doing so. 74 per cent of those who have reallocated from UK assets in 2018 have invested in US assets, up from 22 per cent in 2017.
The percentage of people reallocating assets to Asia ex Japan and emerging markets has also risen sharply, with reallocation to Europe broadly flat.
It’s likely that Brexit concerns are playing a part in asset allocation decisions with some movement out of UK equities in the last 12 months.
However, while there has been an increase in allocation to cash, which suggests that some clients have been looking to take risk off the table at a time of increased uncertainty, the greatest pick-up in allocation has been to equity opportunities beyond the domestic market.
Could UK assets return to favour post Brexit?
Advisers were asked how they expect to change the portfolio asset allocation of their clients over the next year.
Interestingly, more advisers expect to increase than decrease their allocation to UK equities. This could imply that some advisers expect that UK assets will begin to perform better when the UK finally leaves the European Union this year.
The other areas where more advisers expect to increase than decrease their asset allocation over the next 12 months are cash, developed international equity markets and emerging markets.
Bonds are less favoured, with more advisers expecting to decrease than increase their allocation to government bonds. Meanwhile, the number of advisers expecting to increase or decrease their allocations to corporate bonds are broadly similar.
The survey produced some notable findings in other areas.
‘Running out of money for retirement’ biggest concern relating to pensions
Relating to pensions, 67 per cent of advisers said that ‘running out of money’ was a concern for their clients.
This was followed as the most cited concern by the ‘total amount needed for retirement’ (50 per cent) and the ‘money they can take out each year’ (38 per cent).
Encouragingly 73 per cent of advisers now believe that their clients understand pension freedoms, up from 63 per cent three years ago.
Index trackers used by most advisers – but sparingly
69 per cent of advisers in the survey said that they use index trackers when constructing client portfolios, up from 65 per cent five years ago.
However, 82 per cent of advisers currently have less than 25 per cent of their clients’ assets in passively managed investments.
Phil Middleton is head of UK intermediary at Schroders