Create A Balanced ISA Portfolio
This is quite a bit of fun for me today. I'm going to look beyond peer-to-peer lending to my old, very well-trodden stomping ground of shares and savings, where I spent nearly 20 years of my life before peer-to-peer lending took over. If you want to form a portfolio of ISAs containing different kinds of investments, where to look – and which ISAs are the best?
But firstly, why might you want to have cash, share and P2P ISAs? Simply because the combination offers you a spread of risk and reward that you can tailor to your immediate need for cash and your long-term need to grow a pot or pay yourself an income from savings. More details at the top of each section about each ISA.
For your emergency fund and shorter-term savings, nothing beats cash ISAs. These are the simplest of all ISAs, making them easy to compare.
The best easy-access cash ISA
Coventry Building Society offers the best easy-access cash ISA paying 1.47%.
As usual, in return for rapid access to your money, your interest rate is not fixed. Expect it to drop over time. I suggest you schedule an annual checkup on the cash ISA with the best rates and switch once per year if necessary.
You can apply for this cash ISA online, you can open it with just £1, and it is a flexible ISA.
Unfortunately, you can't transfer ISA money from previous years into it; you have to use your new annual allowance. If you want to be able to transfer in from previous ISA years, the next best cash ISA is from Leeds Building Society.
The Leeds ISA 1.46%. It is not a flexible ISA and the minimum you can put in is £1,000.
Fixed-rate cash ISAs
If you have extra savings that you're unlikely to need in a hurry but will still need in a year or few, you can earn a bit more with a fixed-rate cash ISA. If you open one of these, put a note in your calendar to look for a new ISA when your fixed deal is coming to an end.
Currently, fixed-rate ISAs lasting anything less than four years pay just a little bit more than easy-access ISAs and therefore won't be suitable for most people.
By my thinking, four-year and five-year ISAs perhaps just barely pay enough of a premium over easy-access – maybe. In case you want to check them out, here are the best choices.
The limited purpose of fixed-rate cash ISAs
Before I tell you the top cash ISAs in the fixed-rate category, note that they are directly competing with P2P IFISAs, because the minimum amount of time you should expect to save for or lend for is the same. With that in mind, in my view, the fixed-rate cash ISAs lasting this long are simply not paying high enough interest rates to compete with IFISAs at present, unless you have a very specific need for your pot of money in four or five years, such as a deposit on a house, and you don't want to take any risk with it at all.
The top five-year fixed-rate cash ISA
The top-five year cash ISA is from Shawbrook Bank, paying 2.3%. That is still less than one percentage point of extra interest per year compared to the best easy-access cash ISAs, but you're locked in for five years or face a hefty penalty for early exit. That's borderline worthwhile, in my view.
You can choose for the interest to be left in the ISA, so that you earn interest on top of that interest. Or you can choose to have the interest paid out to you as a savings income. This cash ISA allows you to transfer funds in from other ISAs, and you can open it online.
The minimum amount you can save in it is £1,000.
If you prefer a name you might recognise, Coventry Building Society is the best five-year deal. It pays 2.1%, allows transfers in and you can open it online. Again, you can choose to have interest paid to your bank account or to build up in the ISA. The minimum amount is just £1.
The top four-year fixed-rate cash ISA
There's just one, somewhat interesting, four-year cash ISA, which is from the United Trust Bank. It pays 2.2%. The big downside is that you can't open this cash ISA online; you have to resort to the post. The minimum opening amount is also very high at £15,000, although you can transfer money in from existing ISAs.
Once you have set aside enough money for emergencies and for any very short-term needs, most people should seriously be looking at investing their money and it makes sense to have some investments that are not going to be swinging between 20% gains and 20% losses that last for very long periods of time – or anything like that.
This is where IFISAs come in.
P2P IFISAs offer higher returns than cash ISAs, typically 3.5% to 7% after bad debts or reserve funds covering bad debts, with manageable shorter-term risk.
When you lend for a few years or more, the majority of lenders can expect much better results from IFISAs than from cash ISAs, due to inflation. Savings accounts and cash ISAs perform poorly there.
P2P IFISAs are investments and therefore more complicated than cash ISAs. You can't simply look at the highest interest rate and a few simple terms and conditions and say “That one is best”.
Furthermore, you can't just open one and spread all your investment pot in it. You either need to take the time to open several P2P IFISAs and/or other P2P lending accounts, or you need to put some of your investing pot in other investments. Preferably both.
(It's quite funny, really, that the shortest section in this article is on P2P IFISAs, since 4thWay is about peer-to-peer lending. But since we've said it all before, it's the other sections I need to focus on today.)
For investors who are looking to the very long term, it makes sense to have a good proportion of your investing pot in shares.
Buying shares is intrinsically riskier than money lending, on average (i.e. it depends exactly on how you choose to invest). Not least because it is more stable, more predictable and leaves you in a better spot than shareholders to get your money back if something goes wrong. (More on that in 7 Reasons To Put Half Your Savings In P2P Lending.)
On the flipside, ISAs that house shares are more developed and sophisticated than IFISAs, purely because the stock market has been around much longer than the peer-to-peer lending industry. Therefore, you don't need to open quite so many accounts in order to diversify enough within this class of investing.
You do still need to consider opening more than one share ISA, or other share- or fund-dealing accounts, because of the risk of the provider collapsing. Just as with P2P lending accounts and IFISAs, the risk of you losing money as a result of the provider's closure is low, but it still is a consideration.
Unfortunately, comparing isn't easy at all, because of everyone's very individual requirements with share investing. The right share ISA for you depends on the investing strategy you choose and I can't cater for all appetites.
So what I did for this piece is I compared over a dozen share ISAs in a 4thWay custom-made program just for this one article and I made the assumption that you choose to use the simplest and most effective share investing strategy, which is outlined beneath the top share ISAs that I shall list for you now.
Top share ISA if you don't want to invest new money every month
Based on the share ISA investing strategy I describe below, the cheapest and best share ISA is the iWeb Share ISA. This might set you back a grand total of just £20 or so per year, on average, over five years, on a £10,000 lump sum.
To put that in perspective, its worst competitor charges over £150 per year for the same thing.
Surprisingly, it remains the cheapest even when you invest six figures. (I ran out of time for checking seven figures or more, although I expect it will remain the cheapest.) It also has a wide selection of funds and ETFs to choose from. (I'll explain that further down if you're new to it.)
It's a fantastic all-rounder.
Top share ISA for a portfolio of around £10,000 if you want to invest new money every month
The Cavendish Online share ISA works well for small investors who want to regularly invest additional money every month in a wide selection of funds and ETFs. You might pay around . The worst competitor would charge you about £200 per year.
Top share ISA for a portfolio of £25,000 or more and if you want to invest new money on top
The iWeb Share ISA comes top here again, charging perhaps £80 if you invest around £25,000 with regular investing on top. That fee stays constant even if you want to invest £100,000, whereas the most expensive competitor in the comparison group will charge £500 per year for the same.
Selecting your share ISA investments
The above share ISA picks are based on the assumption that you are investing with the most humble and optimal strategy to outperform the majority of other share investors in the UK.
This strategy is not rocket science and it's no big secret either. Most people just don't do it because they don't take the time to do any research. Of those that do, they either get greedy or they panic during the blips. Those mistakes are easy to do with the stock market.
The strategy works like this:
1. Buy a blend of tracker funds and ETFs
Rather than buying shares of individual companies, most share investors should be buying tracker funds or ETFs. Tracker funds track a given stock market or index. ETFs do exactly the same, but they are simply structured differently in that they are listed on the stock market.
These are very low cost funds and it has been proven time and again that the main factor for outperforming your peers is to pay lower costs than them when buying, selling and holding investments. (Expensive) fund manager “skill” is simply not relevant here, because those 0.5% or 1% extra costs per year massively eat into your returns over 10, 20 or 30 years.
So, ironically, just tracking the market does better because, after deducting higher costs, you are way better off than the average investor in the long run.
2. Hold onto those investments for the very long-term
My favourite stock-market researchers, who I shall name in the next point, have convincingly proven that investing in the stock market can be a much longer-term game than is often stated by other research, which is not as thorough as theirs.
While investors are typically told to invest in the stock market for at least five years, it makes more sense to have investing horizons above 10 years and preferably closer to 20 years to contain the volatility in stock markets.
Investing for longer also applies to the investments you buy. The more you are buying and selling, the more little costs add up, which eats into your long-term gains because money spent on trading costs can't be invested any more.
Therefore, the main reason for selling in this strategy is not because you are disappointed with your short- or even medium-term performance, which is often very rocky, par for the course and should usually be ignored, but rather because the costs charged by the fund are no longer competitive compared to other funds.
3. Spread across funds investing in developed countries
Picking investments within a share ISA can be very complicated and is often partly a matter of taste.
Personally, like a couple of my other colleagues here at 4thWay, I prefer to follow the findings from the three London Business School professors Dimson, Marsh and Staunton, who produce the extraordinary research that went into “Triumph of the Optimists: 100 Years of Global Investment Returns” as well as the Credit Suisse Global Investment Returns Yearbooks.
To distil their very detailed findings, it makes sense to spread your money mostly across developed countries, because they have less corruption, better accounting standards, less political instability and better regulations. This typically leads to better returns over the long or very long run.
That is counter to many people's beliefs, which are that emerging markets are better. They might be more exciting, but, in reality, investors don't personally benefit so well from emerging markets' growth.
However, the findings don't take away all the excitement, since the reports' authors argue that a balanced portfolio should also include at least some emerging markets.
I'd say look to invest across eight or more mostly developed markets in tracking funds and ETFs.
- Buy low-cost tracker funds or ETFs across mostly developed markets, say, eight or more.
- Hold onto them through thick and thin, ignoring highly rocky periods.
Visit the IFISA comparison tables.
Sources: for the cash ISA section, I looked to Which?, Moneyfacts, Moneysavingexpert and Moneysupermarket. For the share ISA costs and other information, we referred to Monevator's list of share ISA charges. The same page on Monevator offers you more share ISAs in case you use a different investing strategy for shares.
Independent opinion: the opinions expressed are those of the author(s) and not held by 4thWay. 4thWay is not regulated by the ESMA or the FCA, and does not provide personalised advice. The material is for general information and education purposes only and not intended to incite you to lend.
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