# Pensioner has 500,000 to invest



## Woodsman (14 Nov 2007)

Hi 
A pensioner friend has 500k to invest and needs the income. I suggested a basket of blue chip shares (if there is still such a thing!) but principally going for <content snipped -  > and a few others that would give a reasonable return and relative safety. She has no debts and owns her home.
How can she maximise income and preserve capital value? Is there a better way than in the stock markets?


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## Sunny (14 Nov 2007)

For that amount of money she should get independent professional advice.


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## ClubMan (14 Nov 2007)

Totally agree - for that amount of money and assuming that it is a significant chunk of her overall worth she should certainly be looking for independent, professional advice from an authorised advisor or good multi-agency intermediary ideally on a fixed feepaying basis. It's very unlikely to be a single savings/investment option for the full amount and she may need guidance on identifying a range of options (varying by investment timeframe, risk/reward profile etc.) to suit her specific needs.


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## daveccork (14 Nov 2007)

I hope the 500k is on deposit at the moment earning as much as poss. It might be a while before a decision is made. 

There is a lot be said for having cash at the moment !!! How much annual income is required?


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## ninsaga (14 Nov 2007)

If she has amount as a pensioner then I hope that she is living the good life at least- she can't take it with her!


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## sapmanie (16 Nov 2007)

> she can't take it with her!


100% agree. Tell her to get a first-class plane ticket to Morocco, take a boat cruise around the Med., relax on a Greek island until Winter, then travel first-class to Dubai, then do it all again.


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## Woodsman (18 Nov 2007)

Thanks for the replies. I especially like the suggestion of a lengthy trip to sunny climes! Am highly suspicious of professional advisors so hoped for more direct suggestions. The income required is modest enough, say 20k annually plus preserving the value of the capital. Is it possible, given the interest rate returns available on the stock markets to get say a 5% return plus the hope of capital appreciation?


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## Brendan Burgess (18 Nov 2007)

Hi Woodsman

I agree with you. She should buy a portfolio of around 5 blue chip shares. I see no reason for getting independent advice on this subject as it's a very standard problem. Independent advice would add nothing and may well cost her in terms of bad advice or high commissions. 

*Why shares? *
She should buy shares because it offers the best long term prospect of capital  growth with the lowest risk. 

The dividend yield on Irish shares is high at the moment. She should get around 4% gross yield. If she needs more "income" she can sell part of her shares at any time. 

I hate timing the stockmarket, but it seems unnaturally low at the moment. There are few buyers around and lots of sellers. 

If she still owns the shares when she dies, there will be no CGT on the gains made so her estate will get the full value of them. 

*Why 5 shares?
*If she picks 5 of the top 10 Irish shares but only one of the banks, she will have a well diversified portfolio. She could buy 10 shares, but I feel that it is unnecessary diversification. The majority of people will disagree with this. 

*Alernatives 
*Deposit account - it will lose real value over the long term due to inflation.

Property - Not suitable unless you are borrowing to invest. 

Unit linked funds - not tax efficient for a retired person. She will pay exit tax and not benefit from any tax credits or CGT exemptions.

Brendan


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## putsch (18 Nov 2007)

Depending on the age of the pensioner would an annuity not give the return required with an option to provide maintnance of part of the capital?
I'm not sure about annuities but this is how I thought they worked?


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## Brendan Burgess (18 Nov 2007)

Annuities are based on deposit rates and so don't offer very good long term value. 

Brendan


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## Sunny (18 Nov 2007)

Brendan said:


> Hi Woodsman
> 
> I agree with you. She should buy a portfolio of around 5 blue chip shares. I see no reason for getting independent advice on this subject as it's a very standard problem. Independent advice would add nothing and may well cost her in terms of bad advice or high commissions.


 
I thought we weren't allowed to speculate on shares and yet you just advised someone to buy the top five Irish shares (including one bank) based on the fact that you think the market is unnaturally low and mention high dividends that are not guaranteed in the future.


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## daveccork (18 Nov 2007)

I think it is only individual share prices which cannot be discussed.  funds, top 5/10 shares, etfs all seem to be OK and are discussed on an ongoing basis


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## twofor1 (18 Nov 2007)

Could someone please explain what blue chip shares are and where does one find a list of the top ten irish shares,  do the top ten constantly change,  Thanks.


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## PMU (18 Nov 2007)

Sorry to disagree with Brendan but I think his advice is wrong.  Putting all you life savings in 5 stocks particularly IE stocks just because they appear to be cheap at the moment is not a well thought out investment strategy for a pensioner.  



The OP says the pensioner has a requirement of   €20,000 income plus safety of capital. This is probably about as much they could expect to get without eating into the capital, and the pensioner probably requires to increase the €20,000 withdrawal by 2.5% each year to cope with inflation.   The portfolio must also increase in value by at least the rate of inflation, i.e. by 2.5% min, to maintain the capital value.  

  The key challenge for the pensioner is to devise an asset allocation that will has a good probability of achieving these growth aims, while minimising the risk of negative returns.  If the pensioner needs to withdraw capital in a downturn to make up for income loss he / she is just digging a hole as the reduction in capital will make it more difficult for the remaining capital to increase in value to the level needed to produce the required income. 

  Assuming the pensioner has a life span of 20 –30 years, before recommending a 5 Irish share portfolio you would need to calculate what is the probable frequency of negative returns in such a period, the estimated size of portfolio loss, and what is the likely time period for portfolio recovery.  Look, in 2002 the ISEQ index lost 30%, it took two years of boom to regain its value. If the pensioner had invested in 2002 he /she would have seen their capital reduce to €350,000 and their income reduced to €14,000. And that was the entire index, it’s reasonable to assume that a more concentrated portfolio of 5 shares would have suffered greater losses.  Large losses are the one thing a pensioner can’t afford and portfolio construction should be made with this in mind.  As the ISEQ decreased significantly in value in 2002 and is doing it again this year it seems reasonable to say that significant drawdowns apprear to be  a relatively common feature of the ISEQ, which alone should make one wary of investing one’s life savings in it. 

  I think the pensioner by investing in low correlation asset classes via ETFs could achieve a portfolio that would give the required inflation proofed income and capital preseration but that also would have a low volatility, low worst-case loss with a low likelihood of such loss and good recovery.  It would be worthwhile paying an adviser to construct such a portfolio.


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## tyoung (19 Nov 2007)

Excellent advice PMU. A 100% equity allocation(particularly to the ISEQ) when you need current income is too risky.


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## noel 2006 (19 Nov 2007)

PMU said:
			
		

> 'If the pensioner had invested in 2002 he /she would have seen their capital reduce to €350,000 and their income reduced to €14,000'


 
Would the pensioner have seen a reduction in income? In terms of my own holding of some Irish shares I've had a fall in capital value but not in income.


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## Brendan Burgess (19 Nov 2007)

PMU said:


> Sorry to disagree with Brendan but I think his advice is wrong.


 
Hi Sunny, No need at all to apologise for disagreeing with me. I have learned a lot from people disagreeing with me. 



> I think the pensioner by investing in low correlation asset classes via ETFs could achieve a portfolio that would give the required inflation proofed income and capital preseration but that also would have a low volatility, low worst-case loss with a low likelihood of such loss and good recovery. It would be worthwhile paying an adviser to construct such a portfolio.


 
Let's assume for the moment that this is the correct strategy. Why does she need to go to an advisor to construct such a portfolio? There is nothing specific to her about it. This would be the same portfolio for most retired people. 

I don't think that ETF's are tax efficient for a pensioner, but I am open to correction on that. I would not exchange a 20% or 41% tax hit for some reduction in "volatility". 

A pensioner cannot avoid risk completely. If she puts her money on deposit, it will probably be wiped out by inflation. 

Volatility tends to be measured on an annual basis, and I don't think it's particularly relevant when we are looking at 20 year horizon. 



> that also would have ..., low worst-case loss with a low likelihood of such loss and good recovery.


 
Look, I would love to invest in such a porfolio. Low losses, high returns and good recovery? I might even swap some tax-efficiency for it. Does it really exist? I very much doubt it. But again, I would love to be corrected on this.

My gut feeling is that going to an investment advisor is risky. They might construct this goldilocks portfolio for her ata  reasonable price  but it is far more likely that she will be sold some portfolio promising all this which will not be delivered, and the cost will be very high in terms of fees and commissions. 


Brendan


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## Marie (19 Nov 2007)

Are government (treasury) bonds a possible part of inflation-proofed investment with low risk?


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## PMU (19 Nov 2007)

Brendan said:


> I have learned a lot from people disagreeing with me.



[FONT=&quot]Then eyes down and take notes.[/FONT]



Brendan said:


> Why does she need to go to an advisor to construct such a portfolio? There is nothing specific to her about it.


   No. It is specific.  The OP says the requirement is for €20,000 pa income, and preservation of capital.  This, e.g. implies a ‘buy & hold’ portfolio, that will produce a given income with capital preservation; as opposed, e.g.  to a ‘withdrawal mode’ portfolio, of which the pensioner would withdraw €20,000 in year 1, and then withdraw this amount index linked each year regardless of overall portfolio performance. 

  So we’ve been set a specific problem: can a portfolio be constructed for the pensioner with a reasonable expectation that (a) a withdrawal of   €20,000 pa (index linked) can be sustained over the over the estimated life-span of the pensioner from a portfolio of €500,000 [FONT=&quot]without eating into the capital sum[/FONT]; and, if this is achievable, (b) is it possible to maintain this withdrawal rate while maintaining the capital sum allowing for inflation.
  But as we know that returns from assets are not always positive and linear, for each possible portfolio solution, we need to calculate the probability of success (i.e. the ability to meet the income and capital preservation needs; the estimated frequency of loss and the specific recovery period). This, of course, will be determined by the asset allocation of the portfolios; the returns and volatility of returns of each asset; and the correlation of the various asset classes.



Brendan said:


> I don't think that ETF's are tax efficient for a pensioner, but I am open to correction on that. I would not exchange a 20% or 41% tax hit for some reduction in "volatility".


 You should. If the portfolio suffers a 25% loss it needs an annual return in excess of 10% for three years to recover. (It will actually need more as the pensioner is still withdrawing income in this period).  So what is the probability that the portfolio will suffer such a loss over the pensioner’s life-span?  What is the frequency this will occur? To answer these questions you need some idea of the portfolio’s volatility.  



Brendan said:


> Volatility tends to be measured on an annual basis, and I don't think it's particularly relevant when we are looking at 20 year horizon.



 If you are a pensioner investing for a remaining life-span of 20+ years it is. You don’t want to end up broke with your capital gone. So, for the ‘5 blue chip share’ portfolio, can you estimate what the likely return should be in roughly two out of every three years; what is the likely return to be in all but one out of 20 years; over the estimated life-span of the pensioner in what % of the years will the portfolio deliver a positive return and in what % of the years is the pensioner likely to lose money; how likely is the pensioner to suffer a loss of more than 10%?   You can make an educated response to these if you have long duration statistics of returns and their volatility (i.e. standard deviation). So  volatility is very important over a 20 year period. 



Brendan said:


> I would love to invest in such a porfolio. Low losses, high returns and good recovery?



 You haven’t analysed the OPs problem. The pensioner wants an income (presumably inflation proofed) of 4% of the initial capital sum and also capital preservation – not high returns; You can’t guarantee low losses but you should be able to estimate the probability of loss-making years over the pensioner’s life span, and the likelihood of recovering from a loss.




Brendan said:


> My gut feeling is that going to an investment advisor is risky.


 
 [FONT=&quot]Yes, it is, especially if the OP just goes in an asks for a €500,000 portfolio that generates €20,000 pa [/FONT]


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## Brendan Burgess (19 Nov 2007)

Hi PMU

I get the impression that this is all theoretical. Can you make it a bit easier for me to understand? Can you give me an example of  a portfolio suited to this person? 

Are you claiming that you can eliminate risk for this pensioner while giving her high returns? 

Brendan


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## Bronte (20 Nov 2007)

PMU your post is why I'm afraid of investing in stocks/shares/portfolios.  I read your post and I just get lost even though I know you have explained it as simply as possible. Very informative though. 

OP what I would do is buy 2 new houses for circa 250 K, generating an income of say 800 to 1K a month to make your 20K income.  Your capital is as safe as can be, in my opinion (bricks & mortar), also now seems like a good time to buy as you can haggle the price with builders, plus I don't think you pay stamp duty on new homes.  Even if the property goes down in value for a while, over the long term property tends to go up / keep pace with inflation (don't anyone scream Japan please)  Rent also tends to go up with inflation. 

Twofor1 - my understanding of blue chip shares are those in companies that will never go bust (generally banks).  But tell that to the investers in  Bearings Bank, Enron, Worldcom.............


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## ClubMan (20 Nov 2007)

Bronte said:


> OP what I would do is buy 2 new houses for circa 250 K, generating an income of say 800 to 1K a month to make your 20K income.  Your capital is as safe as can be


That's an absolutely huge assumption on both the rental income and capital security issues in the circumstances and the current property market climate! 


> plus I don't think you pay stamp duty on new homes.


You do if you are an investor.


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## F. Kruger (20 Nov 2007)

Hi Woodsman,

Can you tell us what 'strategy' was employed for this http://www.askaboutmoney.com/showthread.php?t=33520 friend in August, as it may have some relevance here?


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## shanegl (20 Nov 2007)

ClubMan said:


> That's an absolutely huge assumption on both the rental income and capital security issues in the circumstances and the current property market climate!


 
Not to mention its completely illiquid.


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## Godfather (20 Nov 2007)

Bronte said:


> what I would do is buy 2 new houses for circa 250 K, generating an income of say 800 to 1K a month to make your 20K income. Your capital is as safe as can be


 
Quite a bit of optimism in this delicate moment in the property market...


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## Woodsman (20 Nov 2007)

Thanks everyone for the ideas and information. I think on balance the suggestion to purchase 5 blue chip shares is best with some cash held back for an emergency. I was told many years ago to avoid advisors on the basis that I was perfectly well able to make my own mistakes so why pay someone to do it for me. The pensioner in question has currently got the 500k on deposit so the only problem is when to purchase. Perhaps right now and sit tight. Presumably its impossible to guage when the market has bottomed out.


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## Sunny (20 Nov 2007)

Woodsman said:


> Thanks everyone for the ideas and information. I think on balance the suggestion to purchase 5 blue chip shares is best with some cash held back for an emergency. I was told many years ago to avoid advisors on the basis that I was perfectly well able to make my own mistakes so why pay someone to do it for me. The pensioner in question has currently got the 500k on deposit so the only problem is when to purchase. Perhaps right now and sit tight. Presumably its impossible to guage when the market has bottomed out.


 
Out of curiosity, what 5 'blue chip' companies is she going to pick or how is she going to go about choosing them.


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## Janman07 (20 Nov 2007)

Mind if I ask what the rush is?

500k earning 4.5% will earn 22,500 per annum before DIRT. Pensioners can also reclaim the DIRT up to certain limits depending on their circumstances.

Before throwing away money on 5 'Blue Chip' shares, please try the following... 1) Go to Yahoo Finance 2) Register on the site 3) Set up a dummy portfolio called '5 blue chips' and pretend that you have bought, say 50k x 5 = 250k of your favourite blue chip shares 4) Check the value of the portfolio after 1 month, 2 months etc. 5) Sit down with your pensioner friend and ask them how they would feel if they had actually invested 250k of their nest egg in that portfolio.

There is a BIG difference between casually suggesting a gamble like that and actually watching your hard earned cash clicking up and down dramatically each day. Are you sure your friend is ready for the emotional rollercoaster of share ownership.

Personally, I think 10% of a sum like that is plenty for a pensioner to invest in an initial foray into the market.


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## PMU (20 Nov 2007)

My initial objective on this was not to get into big Brendan vs me debate.   
  It was to help the OP to specify the financial requirements for the pensioner in terms that matter, if / when he goes to a financial adviser , and also to highlight what I think is the main risk to the pensioner’s investment, i.e. the risk of market declines, and, related to this, the issue of recovery.  This is something I would strongly suggest the OP asks the financial adviser (assuming he goes this route) to address in real terms.

  However, I did think that Brendan’s ‘buy five blue chips because they are cheap’ strategy was: (a) flippant and also (b) would expose the pensioner to excessive risk, or, rather, to greater risk than could be achieved, for example, by buying a portfolio of low correlation assets, possibly via ETFs.  (Of course, other solutions are possible).   

  Brendan has two questions:





Brendan said:


> Can you give me an example of a portfolio suited to this person?





  Yes, if you pay me. I don’t do research for free.




Brendan said:


> Are you claiming that you can eliminate risk for this pensioner while giving her high returns? Brendan




  As I said, based on the OP’s posts, the pensioner does not want ‘high returns’, i.e. capital accumulation.  The pensioner wants a certain income (presumably index linked) with preservation of capital.  (see Woodsman’s post of 18 Nov: “The income required is modest enough, say 20k annually plus preserving the value of the capital.”)   The challenge is can a portfolio or portfolios be constructed that can do this, over the expected life-span of the pensioner, while minimizing risk.


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## Bronte (21 Nov 2007)

OK don't buy property then, it was only a suggestion.   The OP wanted suggestions.  I just thought that maybe now with 25% being knocked off some properties (AAM posts) it might actually be a good time to buy.  There are of course no guarantees, not on blue chip shares, other shares, property, deposit accounts (Northern Rock) or the 2.20 at Newmarket.  My point being that everything is a gamble.

PMU circa how much would that advice cost, and do you guarantee a return, is the fee refundable if there is no return?  I'd pay a financial adviser a percentage of my gains if they could guarantee me a return, but amazingly enough I've never seen a scheme like that.


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## tyoung (21 Nov 2007)

Marie said:


> Are government (treasury) bonds a possible part of inflation-proofed investment with low risk?


Conventional Government bonds are usually the worst asset to hold at a time of rising inflation. Some governments issue inflation protected bonds which are a different beast. Ireland does not. 
 In general if inflation is rising hard assets do well, commodities, property etc. The main reason for owning your own house is that it is the best single inflation hedge the average person can buy and you can live in it too. Stocks also act as an inflation hedge over the full economic cycle.


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