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Prepare for another 12 months of inflation say professional investors and watch out for the perils of “lifestyling” pension funds

Is your SIPP and mortgage prepared for another 12 months of high inflation? / Photo by Burak The Weekender via Pexels
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SPECIAL REPORT

Is your SIPP and mortgage in the best possible health to hedge against inflation and rising rates?

Professional investors that invest on behalf of institutional and pension funds have predicted that the UK, parts of Europe and the US won’t see inflation dramatically fall for another 12 months. Where are these investors putting their money to hedge against inflation and should your SIPP shadow their strategies? And are 95% mortgages soon going to be taken out of the market? Katherine Steiner-Dicks reports


  • Most professional investors think UK and US inflation won’t fall dramatically until Q3 2023, with Eurozone and Swiss inflation not dropping until Q1 2024
  • Growing demand for alternative asset classes (private equity, hedge funds, life settlements and infrastructure) that can beat inflation
  • Wealth managers warn that lifestyle investment strategies are not working and a misselling legal debacle ready to get cracked open
  • Mortgage brokers are expecting 95% LTV mortgages to be pulled from the market this year

It will be this time next year before UK inflation falls dramatically, according to predictions from professional investors who are collectively responsible for £276 billion assets under management. This is according to a new study from Managing Partners Group (MPG), the international asset management group.

The study, with 100 institutional investors and wealth managers across Switzerland, Germany, Italy, and the UK found 44% expect UK inflation to fall dramatically in Q3 2023, but almost a quarter (23%) predict it will take even longer until Q1 2024, before inflation eases.


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Inflation predictions by region

UK inflation views are mirrored by predictions for the US, with 31% predicting inflation here won’t fall dramatically until Q3 2023. A further fifth (20%) say it will take until Q1 2024 before this happens.

Predictions for the Eurozone and Switzerland are even more cautious. The option attracting the most support from professional investors surveyed is Q1 2024 before Eurozone (33%) and Swiss (30%) inflation falls dramatically. Around a third (33%) chose Q1 2024 for the Eurozone and 30% for Switzerland.

Fewer of those surveyed think a dramatic fall in inflation will come earlier, with a quarter (26%) saying it will come in Q3 2023 in the Eurozone and a fifth (20%) saying it will come in Q3 2023 in Switzerland.

Where to invest when inflation is high?

Institutional investors are parking more of their capital into alternative assets that can grow or provide stable returns despite rising inflation. If you have a SIPP it might be worth understanding if there are pre-designed funds created by your SIPP provider that have exposure to alternative assets, or at least stocks that can protect your pension against inflation, and if so, can you add these to your portfolio and still get the tax benefits. If you run your own limited company, are there investments that you or your business can make that hedge inflation and get tax incentives?

Self Invested Personal Pensions vary widely in terms of the investment types they permit, particularly in relation to alternative investments – therefore, when looking to invest via SIPPs, it is important for you to focus on what asset classes the tax wrapper will be able to incorporate to ensure you select a product that is able to meet your investment needs, according to Defaqto.

People have different attitudes to risk and investment requirements and, likewise, SIPPs vary in the investment types they allow people to put into the tax wrapper. Some funds have a percentage earmarked for alternative assets, but usually under 10 per cent, such as the BlackRock Consensus 85.

Although the proportion of pure SIPPs allowing traditional investment types is generally high, Defaqto data shows that there is notable variation in how many permit alternative investments:

  • Unit Trusts and OEICS: % of SIPPs permitting investment: 99%
  • UK stocks and shares: 96%
  • Investment trusts: 94%
  • Exchange Traded Funds- 93%
  • Offshore mutual funds: 91%
  • Hedge funds: 88%
  • Futures and options: 75%
  • Commercial property: 61%
  • Multi-member commercial property investment: 57%
  • Third-party lending: 51%

If you need some guidance Defaqto’s Star Ratings for SIPPs aim to help people understand how they compare in terms of the level of features and benefits that they offer. Taking a wide range of elements into account, Defaqto has given each SIPP on the market a rating from 1 to 5 depending upon how comprehensive it is.

Growth strategies: are they in your SIPP?

Concerns about inflation are fuelling demand for high-yield funds and growth strategies. Fund managers, such as MPG, in the past 12 months have seen their investors put net inflows of $24 million into its High Protection Fund, which invests in life settlements, which sophisticated investors have been investing in for decades.

“This alternative asset class has an extremely low correlation with equities and bonds, and in 2021 the High Protection Fund delivered net annualised returns of  8.25%, and it has returned 283.77% since it was launched in July 2009. The absolute return fund aims to achieve smooth predictable investment returns of between 8% and 9% per annum, net of fees,” says MPG.

Hedge funds are also attracting pension fund investors, but require specialist knowledge as strategies can change with market cycles. It would be wise to only consider exposure to an individual hedge fund if you are highly knowledgeable of how these assets work, the fund manager’s fees, and the risks and rewards that can come with the asset class. Like in all investment portfolios diversity and patience is key to outperforming in different market cycles, investments in alternative investments are no different.

Jeremy Leach, Chief Executive Officer of Managing Partners Group

Jeremy Leach, Chief Executive Officer of Managing Partners Group says, Investors are braced for a long period of high inflation with few expecting significant falls until nearly a year away. That has implications for how investors need to think for the future and the tools they should be using. This has resulted in an increase in demand for alternative asset classes that can deliver sustained attractive returns irrespective of what is happening in the equity and bond markets.”

The 7 Alternative Investments You Should Know | HBS Online

Lifestyle strategies are not working say IFAs

Wealth managers warn that lifestyle investment strategies are not working and a misselling legal debacle is ready to get cracked open.

Adam Walkom, Co-founder at London-based Permanent Wealth Partners says the “writing has been on the wall for lifestyling is the understatement of the century.”

Good riddance to this ridiculous strategy, but as ever, of course, it’s the unsuspecting investors who pay the price. Pension companies are sleepwalking into another PPI-style nightmare with the insistence to push unsuspecting investors into Lifestyle or Target Date funds. As interest rates rise from zero or thereabouts, then there is only one way bonds can go, and that’s down.

Adam Walkom, Co-founder at London-based Permanent Wealth Partners

He said that lifestyle strategies automatically, without the client’s consent remember, move portfolios into “safe” assets such as bonds and cash. In many cases these will make up nearly 70% of the investor’s portfolio, he says.

“Yet this investment strategy will be almost guaranteed to lose money as interest rates rise, let alone nowhere near keep up with inflation,” says Walkom.

“Despite this, pension companies continue to push investors into these funds as their default option. The UK Government-backed NEST pension scheme, which now has £21.9billion of investor assets from 10.4 million investors, even admits that over 90% of people never change from the default fund they are invested in. That’s 10.4 million people – just from one pension company – who have a very real chance that their pension will not keep up with the cost of living,” he says.

“If an IFA was to make a change to a client’s portfolio without their consent, he would be hung out to dry by the regulator. Why isn’t the same happening for pension companies?”

David Robinson, co-founder at London-based Wildcat Law says “past performance is no guide to future performance, but we’ll stick a risk rating number on asset classes that is purely based on past performance to help you choose your fund. You couldn’t make it up. The financial services industry has a problem of its own making. It is fixated with volatility risk, in short, how much a fund moved up or down compared to its average.”

Robinson goes on to explain that all fund fact sheets have a number rating for the fund between 1 (low) to 7 (very high). This is based on historical volatility but, he says, as “has been starkly demonstrated recently, this may have no bearing on how a fund will perform in the future.”

He warns that a fund that is a 3 today may be a 5 later in the year:

For years, fixed interest and gilt funds had low volatility. Why? Because interest rates stayed low and barely moved. However, as soon as we saw large increases in interest rates we saw significant falls in Gilt fund values. This was not unpredictable, but for years many have used the ‘risk ratings’ without understanding how they can change, and change dramatically.

I suspect many a financial service company, both advice and insurance company alike, will be speaking to their legal teams and bracing for a wave of mis-selling complaints.

Like Walkom, Robinson sees lifestyling as “one of the key culprits for many who have taken significant falls.”

He says, “To their credit the large pension providers have moved away from it for exactly these reasons but there are thousands of people in legacy pensions that still use this approach. The majority will be those who have not sought financial advice and have been re-assured by the fund fact sheets they have received.

“They will not have read or understood the short section of wording regarding interest rate risk and so are left facing potentially life-changing falls in their pension funds. So yes, lifestyling is obsolete, but the real villain is the risk rating system that, at best, is confusing and at worst downright misleading.”

What’s the next big shock for the UK mortgage market?

With sudden tax policies U-turned and inflation and interest rates still on the rise for the foreseeable future, some mortgage brokers are predicting a property market crash. The next big shock for the UK mortgage market is most likely to be the “death of the 95% LTV mortgage while this uncertainty continues”

Mike Staton, director of Mansfield-based Staton Mortgages says the risk of homeowners ending up in negative equity right now is a “high one”, and it’s an uncertainty that many lenders just won’t be willing to gamble on.

The easiest way to avoid this risk is the removal of the 95% loan-to-value mortgage. Having talked with several BDMs from different building societies over the past week or so, they think the withdrawal of 95% products is next.

This happened during the pandemic so this is not as groundbreaking as we think. If Stephen King were to write a horror story about the mortgage market, the events would unfold in 2022 and 2023 and the victims would be first-time buyers.

Mike Staton, director of Mansfield-based Staton Mortgages

Ricky Dosanjh, managing director of Chatham-based mortgage broker, Reeds Financial believes it will be a huge shame and blow if 95% LTV mortgages disappear from the market as there are borrowers who can afford and need them.

“But much like at the height of the pandemic,” says Dosanjh, “we are likely to see a growing number of lenders shun them, at least in the short term. 95% loan-to-value borrowers are predominantly first-time buyers, who are crucial to the correct functioning of the property market.

“They generally buy entry-level homes, which enables other property owners to upsize. If first-time buyers can’t get mortgages, you get a ripple effect all the way up to the top of the property market,” he says.

Gaurav Shukla, mortgage adviser at London-based broker, Home Me,

However, Gaurav Shukla, mortgage adviser at London-based broker, Home Me, believes it is highly unlikely that 95% LTV mortgages will completely disappear, but suggests there are likely to be fewer lenders in that space.

Another trend Shukla sees potentially happening is lenders offering 95% LTV products on a 5-year deal only to safeguard themselves against any drop in house prices during this time.

95% loan-to-value products are currently still available but once property prices start to come down, we may well see fewer products on the market, similar to when lenders removed all 95% loan-to-value products when Covid hit.

They did this in the anticipation that the property market would crash, which it didn’t. In fact, it went supersonic due to the stamp duty holiday and the race for space.

Gaurav Shukla, mortgage adviser at London-based broker, Home Me

Government intervention in the UK mortgage market

“Without some sort of government intervention, I think it’s a nailed-on certainty that lenders will withdraw their 95% LTV mortgage products, for fear of borrowers falling into negative equity,” says Graham Cox, founder of the Bristol-based broker, SelfEmployedMortgageHub.com .

“No doubt Truss and Kwarteng will provide another backstop, though, for their bank and housebuilder friends,” he says.

Mark Dyason, founder of the mortgage broker Edinburgh Mortgage Advice says not to be surprised if we see the launch of a new Mortgage Support Scheme from the government to aid this sector and “keep the oxygen flowing into the whole housing market.”

DISCLAIMER

This article is for information purposes only and does not constitute investment advice.

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