11 Apr 2014, 4:36pm
housing
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  • Mortgage income multiples and affordability

    One of the ways people are finding to pay more for houses is to switch from the historical use of income multiples to the new measure of ‘affordability’. The former gives the wrong answer, but the latter is great. Progress is good, but it’s worth understanding. When I bought my first house in 1989 mortgage providers would qualify a prospective mortgagee by asking how much did they want to borrow as a proportion of their gross salary 1. You’d typically get a mortgage of 3.5 times a single salary or 2.5 times joint salaries in the case of a couple.

    These sound low today. To the extent of being unworkable at current house prices for most people. It made sense 30 years ago, because Britain had just come off a run of double digit interest rates, personal taxation was much higher (the personal allowance nowadays is over a third of the median salary of £26,000, it was lower relative to salaries in the past). It is instructive to observe the relative proportions of mortgage interest and capital repayments over the typical 25 year period at 10% interest rates and the current ~2% rates.

    You spend much more time repaying capital at 2% APR

    You spend much more time repaying capital at 2% APR

    Compared to, say, my mortgage career at higher interest rates

    you pais a higher absolute amount relative ot the price of the house, and you pay interest for longer in the old days

    you paid a higher absolute amount relative to the price of the house, and you pay interest for longer in 1980s/1990s

    Which is much more like the canonical sudden rush of repayment towards the end that we used to know and love. When you tot up the total amount repaid, the 2% fellow pays 3*gross or 4* net salary, the 10% guy pays 7*gross or 9* net salary 2

    There’s clearly some case to be made for increasing the income multiple – provided that interest rates stay the same. After all, if we say I was paying the long-run British average of about 6% interest rates over my working life, then had I been earning the average wage, I’d have sunk 6*net/5* gross wages into my house 3. If it’s all different now, and low interest rates are here to stay, then it’s perfectly justified to sink twice as much into a house. In the end it’s what you pay over your working life that matters, and at lower interest rates the total amount paid is less.

    So bring it on, let’s run at twice the income multiples that were lent to people 25 years ago. That’s 7* single income and 5* double incomes. Now 7* median single income will buy you my house I believe, so the residual 10% gives you room to may the parasitic costs of moving and all the hangers-on.

    This isn’t recommendation or otherwise. Housing still rates as the greatest finance screw-up of my life, so what do I know ;)

    Thing is, it’s all different now are the most dangerous words in finance. Secular changes takes years to take effect. QE can’t last for ever. If you’re looking to buy a house as a first time buyer, you may not like Buy-to-Letters who are essentially front-running your heart’s desire. But say what you like about them, they’ve probably got a fair awareness of the mortgage market.It’s the oldest law of the jungle – when the big beasts start looking nervous it’s worth knowing why…

    Some of the BTL guys are running scared and fixing

    And it appears some of them are running scared and remortgaging now. Had I bought just three years later, the Ermine would probably be a buy-to-letter with a deep belief in the value of housing rather than still feeling it was a Weapon of Mass Wealth destruction – one’s early experiences with an asset class tend to be formative. However, I have recently seen younger BTLers come a cropper with the usual problems, underestimating the effect of voids, and underestimating the chavviness and lack of character of some tenants. As a tenant years ago I only saw the lack of character of landlords, but it seems to cut all ways. The residential housing market seems to bring out a particularly nasty streak in the British psyche – buying and selling houses is pretty horrible experience too. BTL landlords seem to need significant capital resources, and preferably a number of BTL properties to average these lumpy setbacks.

    It probably is a bit different now…

    But not as much as to justify a doubling of price to earnings. 4 or 5 time single, maybe. The double salary premium might go up a little bit more – mothers return to work quicker now than they used to. Let us postulate that it’s all different now. Mortgages are given on an income multiple of 7 times single salary, but it is required that you have a 10% deposit (ie 90% of the purchase price is advanced to you). Sounds fair enough?

    Let’s take a look at what your monthly repayments would be like, assuming you’re on a standard variable rate, ranging from the 1% it’s around now to the 14-16% at the high-water mark of what I saw in my mortgage career.

    your mortgage payments as a function of annual interest rates

    your mortgage payments as a function of annual interest rates

    at 15% you’re paying out more than 90% of your net pay in mortgage. Nothing left to pay bills, council tax and you had better become a breatharian or start scavenging food from bins like Top Cat. Note that you don’t have to see sustained rates like this for several years. Just a couple of years of that can slaughter you unless you have significant savings behind you. It all boils down to the usual question.

    I’ve been there – well less than that, but I’ve spent more than half my net pay on the mortgage.

    If you’re going to start down that track then at least know what the enemy looks like. This has nothing to do with negative equity, it’s straight interest rates. You need to either have savings, live more frugally, or get a payment holiday. Those savings need to be about two years of running costs. Then it’s a fair gamble, because after two years of 15% interest rates Britain will look very different. The general misery would be such that some government would probably have to do whatever it takes to reduce them, or start dropping money from helicopters 4.

    an old idea from 1969

    an old idea from 1969

    Your aim as that homeowner is to be still standing when all the people around you have been repossessed.

    It can be done. But it’s rough being the house between two evicted properties. You do start to wonder when it’ll be your turn. It’s no fun at all…

    Frugality is the solution there; by definition. If you were earning more then your earnings multiple would be lower. It’s not something that sits easily with expectations now. And God help you if you have any other debt.

    Income multiples will matter again if interest rates rise to historical norms of ~6%. Mr putative 7 times net  income multiple will be paying ~50% of his income on the mortgage.

    Methodology

    This spreadsheet. I calibrated it against this calculator and derived the formula from Francis Webb’s Mortgage interest calculator template. 5

    I’m done with property now. Even after 25 years the thought of residential property as an asset class brings me out in hives ;) Good luck all and be careful out there.

     

    Notes:

    1. The rationale for gross salary was Mortgage Interest Relief At Source(MIRAS) allowed you to pay the interest from pre-tax salary. Barmy, I know, though notably the United States still has mortgage interest on residential property as tax-deductible I believe
    2. I have assumed the 3.5 times multiple applies to net salary since you don’t get MIRAS any more
    3. I earned more than the median wage for nearly a lot of my working life, so this isn’t that bad. However, I am looking for the scale factor, the old mortgage income multiples were workable, many people have paid off their mortgages from then
    4. Milton Friedman, 1969 The Optimum Quantity of Money And Other Essays
    5. I regret to say that I didn’t bother trying to understand the function, simply copied it and tested it against Monevator’s calculator. It was too nice a day to wrangle that sort of detail, so as long as there isn’t s systematic error across both sources it should be right :)
    6 Apr 2014, 10:40pm
    economy housing personal finance:
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  • The Ghost of Negative Equity will stalk the land again – a cautionary mortgage tale from 25 years ago

    What was the dumbest thing an Ermine has ever done in personal finance?

    I bought a house in 1989. With an endowment mortgage, a 20% deposit and a 10% interest-free loan from a credit card, which I paid back. The how isn’t the mistake, though it had errors. It’s the when. 1989, and early in my working life.

    You can’t go wrong with property. everybody needs somewhere to live. Safe as houses

    Bollocks, says the Ermine, with feeling

    This is a story from a distant front line for first-time buyers in the first half of their working lives. No prediction about house prices is made or implied, because the market can stay irrational for longer than you can stay solvent.  Most of us will only get three quarter-centuries in our lifetimes, and the first 25 years is wasted on learning how to drive the world, from the mewling and puking stage to young adult, ‘cos humans are slow learners with grand ambitions.

    Of all the financial asset classes out there, residential property is exceptionally evil, because we buy the asset class in the first half of our working lives, with borrowed money. For the simple reason that we want the byproduct – it gives us somewhere to live.

    If you’re over 35 and think Buy To Let when you hear “house” don’t bother reading this. You are much better capitalised than a FTB, you have more experience, you can make your own risk assessment, and quite frankly if it all goes titsup you have only yourself to blame.

    The Ermine is the Ancient Mariner

    The Rime of the Ancient Mariner

    In Coleridge’s The Rime of the Ancient Mariner the Wedding Guest hears, but does not understand. I was once that Wedding-Guest, in 1989 – people did suggest to me that it might be an unwise time to buy, what with all the frenzy of MIRAS 1. But that’s the trouble with housing, you WANT IT, WANT IT, WANT IT so bad. RENT IS THROWING MONEY AWAY, MUST MUST MUST get on the HOUSING LADDER. So you lose your mind. If this tale is a warning for you, you will not heed it, such is the way. But like the Ancient Mariner, I’ll tell it anyway.

    1404_hamsterwheel

    what the housing ladder seems to look like

    I’ve told it before in February when my original 25 year mortgage would have been due, but this one has added analysis to show just how badly it could have gone wrong. Imagine, for a moment, some starry-eyed young pup in the pub talking to his mates

    I’m going to borrow a shitload of money – five times my gross salary, if you please, and I am going to stick it on the stock market, in a FTSE100 tracker.

    Hopefully they’d wrestle him to the ground, or at least ask “are you crazy, man?

    Same pub, same bunch of mates, and he goes “I’m going to borrow five times my salary, and I’m going to buy a house

    And everybody around the table goes “hey that’s fantastic, congratulations you’re getting on the housing ladder, woot” and high fives him.

    Jenn Ashworth

    Jenn Ashworth

    The Grauniad’s personable Jenn Ashworth tells us that by 31 she’s had 14 addresses. And she’s sick of it. Sorry, dahlink, it’s not that unusual. For an ermine that was

    1. parents (SE london)
    2. Southside (Sth Kensington halls of residence, now demolished)
    3. Earl’s Court shared room three storeys up, gas appliances defective – you lit the oven throwing lighted matches into it
    4. Knightsbridge bedsit sublet from someone who did a runner with three month’s rent. The ermine learns that people steal money
    5. Different and crummier part of Earl’s Court
    6. short stay with parents – 1 hour commute to work, then when I moved to the BBC a 3 hour commute to work. enough to get me out ASAP into
    7. Acton Town house shared with four other guys, deposit stolen by landlord, shower powered off lighting circuit so I had to isolate before getting killed/burnt down.
    8. Southampton student accommodation (I took time out to do an MSc)
    9. Alperton shared with 2
    10. Ealing 2 bedsit infested with black slugs. One month’s rent stolen by landlord
    11. Ipswich digs 1
    12. Ipswich digs 2
    13. first Ipswich house this article is about. This is only the second time I had my own toilet and bathroom ;)

    I was in my late 20s then. Having lots of addresses goes with the patch of being young ;)

    How did buying a house all go wrong for me?

    Thatcher and Nigel Lawson

    Thatcher and Nigel Lawson

    Let’s cast our mind back to what the world looked like in 1989. Nigel Lawson hadn’t discovered climate change or that money was to be had in denying it but he had discovered money, he was Chancellor. There had been a boom going on ever since the end of Thatcher’s first recession (1980-82), the young Ermine had switched jobs a few times as you do in your twenties and discovered that while London was a fantastic place to be young in I was never going to be able to buy a house unless I got a better job than design engineer for the BBC.

    So I left to come to Suffolk and work for The Firm, at the time a premier research facility for a FTSE100 company. Fantastic place to work, the pay was better and houses were cheaper less expensive than in London.

    Young ermine to world – what is this Boom and Bust you speak of? I have no experience of that, so it doesn’t happen…

    You know how kids are absolutely convinced you can’t see them if they can’t see you? Well, that sort of thought error doesn’t always stop at 11. I graduated in 1982 into Thatcher’s first recession. All I had seen over my working life was an improving economy. I started in the pits of six months of unemployment as the economy slowly crawled from the wreckage, then getting the first real job, all around the gradual upswing was the backdrop of what I expected of the economy. So I rock up in 1989, and house prices are rising, the economy is booming, everybody is feeling chipper.

    25 years of high living has taken its toll on our Nige. presumably the Domestic Goddess got her looks from her mother :)

    25 years of high living has taken its toll on our Nige. Presumably the Domestic Goddess got her looks from her mother :)

    That Lawson bloke says he’s going to stop couples getting mortgage interest relief at source. At the time the Ermine was not wise in the ways of the world, so I didn’t join up the fact that this would give everyone Torschlußpanik thus increasing demand for a short time, leading to a ramp in price 2.

    That sounds incredibly dumb, now. In fairness to my new colleagues, several of them did even highlight that possibly there might be distorting effects due to this policy which might be something to think about. However, in one’s late 20s you’re so flushed with the grand victory of having spent your first 25 years successfully getting a handle on how the world works. And you haven’t had the stuffing knocked out of you by discovering that your map of how the world works has holes, and by itself doesn’t track changes in the world. So you are smarter that everyone else and invincible. The good news for me was I made that class of mistake at the wheel of personal finance, rather than at the wheel of a car…

    So I bought that house. With an endowment mortgage, if you please. Single man, no dependants, so the life insurance aspect of the endowment was worth sod all to me, and The Firm’s pension offered death lump sum anyway. A dead young Ermine would have been worth a lot of money to someone.

    My parents, bless ‘em, had done their bit for my financial enlightenment – although it seems that these days parents don’t bother to share the hows and whys of personal finance mine did.  I knew how mortgages worked and what the difference between and endowment mortgage and a repayment mortgage was. Hell, I even knew what the NAV of an investment trust was and how it could be at a premium or a discount, though I wasn’t to use that knowledge for 20 years. And had been educated in no uncertain terms that an endowment mortgage was a dipstick sort of move. But hey, the LAUTRO saleswoman had pretty green eyes and how can you turn down the promise of a 3x lift on the expected endowment outcome 3? It sounded good to me! That’s the trouble, you can know something but not understand it. You can teach knowledge, but you can’t teach wisdom, because wisdom is integrated knowledge. I had always seen things getting better throughout my working life, so I knew that house prices were always going to be rising relative to wages, and I feared getting left out.

    1404_2ITNow some of that knowledge was correct, but not for the reasons I understood. House prices were rising relative to wages because of the increasing entry of women into the workforce since the 1980s. Prior to that, a household typically used the man’s wages to pay the mortgage from, but all of a sudden households had more resources available to them, with two incomes coming into the household. What they did with that is throw it down the toilet of inflating house prices, so houses got dearer relative to wages, and everybody moans how hard it is to have children and afford a house these days, because more of the combined household capacity to do work is focused on paid work outside the home. Don’t shoot the messenger – Elizabeth Warren’s book first highlighted to me exactly why I struggled so hard to raise the cash to buy a house. I was a single man, at a decent job, with a 20% deposit and in interest-free loan of 10%. I was fighting couples with two incomes, and that’s not a fair fight, hence the difficulty.

    So I purchased the house, settled in, had all the usual shocking costs you have when you buy your first house because you have no furniture (I bought mine secondhand), you have no tools, you have precious little physical capital. I was paying 6.5% on the low start (ARM) loan 4, and paid back my interest free credit card loan in one year, as required. What I didn’t pick up was that there was a shitstorm. Incoming. Take a look at this

    the total costs and savings associated with buying a house. £ on the lHS, % on the RHS

    the total costs and savings associated with buying a house. 2012 rebased £ on the LHS, % on the RHS. It also explains why the greybeards have all the money…

     

    It covers a period of a little over twenty years, and shows the inflation-adjusted to 2012 prices equity, payments and imputed rent of an ermine’s first house 5

    Now every bugger tells you you can’t lose on houses. Take a look at the equity blue line, which shows the difference between the house price tracking the index for that year and what the purchase cost was. For ten long years that line is negative. You can’t lose on houses. Until you do, and then you lose big-time.

    In negative equity you cannot move, must not lose your job, and must keep paying the mortgage

    Because if you don’t, you get evicted from ‘your’ home, and to add insult to injury, they flog it at a knockdown price, and unlike in the States, they still come after you for the difference. It happened to my neighbours and a few other places in the street. The mortgage company comes along, sticks a notice on your window that this property will be foreclosed on such and such a date, and you’re out on your ear. Oh yeah, and you still have a mahoosive debt that follows you around like a lost dog.

    What do all those coloured bars mean?

    Although everybody talks about houses as if they were a financial investment and part of your free cash flow, only BTL landlords buy houses as a straight financial investment. The rest of us buy them to avoid paying rent, and give us a place to put all our stuff, watch TV, make love, raise children, all that sort of thing. You can do all that in a rented place too, but since you ‘own’ a house you don’t have to pay rent on the house. Instead you get to pay rent on the money you bought it with. So instead of throwing it away paying it to a landlord you throw it away paying it to a bank.

    The red bars represent all the cumulative money I saved through not paying rent to some shyster landlord, estimated at about 4% of the Nationwide adjusted house price and then scaled to 2012 prices by inflation. It is possible these should be adjusted to interest rates, in which case I understate the cumulative benefit of the rent I didn’t pay.

    The blue bars represent the cumulative excess that I paid over and above the cumulative amount I would have paid in rent to a landlord 6, because I am paying it in rent to a bank. This is also adjusted to 2012 pounds, like the rent. I am buying a great big wodge of Stuff, so obviously it’s gonna cost me more than if I just rented the usage of it for 25 years. You can see that even after 24 years I’ve actually still paid out more than I would have done if I just rented. This conundrum is basically why you rent when you are poor. It’s cheaper, and that was particularly the case at a time of very high interest rates, of which more later.

    The lime green bars are the equity in the house, the same as the blue line, but tossed on the debit or credit side of the ledger as appropriate.  The value of the rent is the value delivered by the asset, and looking at the blue lines which are the excess paid over the value gotten as rent I would estimate break-even in about 25 years. However, since this is an asset that increases in value and is bought with borrowed money I actually broke even in 2001, when the increasing value of the house added to the accumulated rent I hadn’t paid beat out all the money I had paid to the mortgage company. Note in 2001 I don’t own the house as of yet, it’s just that I could theoretically sell up and breathe a sigh of relief that I hadn’t paid more than if I had rented.

    Why was that such a big mistake?

    I stayed put for 10 years. Now imagine all the shit that can go on in a life.

    • You can lose your job. There was a hell of a recession on in the early 1990s. Look at what would have happened in 1993 – I would have been foreclosed, would have lost £20,000 in 2012 money, would be bankrupt and without a roof over my head. No fun at all.
    • If you buy the house in your early 30s the pitter-patter of tiny feet tends to happen in the next decade. Tragically unromantic, but the years after the first child are high risk years for relationship breakdown. If your house is in negative equity you’re going to take a big hit at a rough time
    • You have to move for work. Now you get to rent your house out and rent another. There are parasitic costs and voids associated with renting a house out

    I was single when I bought that house so I avoided 2 but the other two scared me. For a long time. This graph simplifies things so I assume I have a 100% mortgage. I was dumb, but not that dumb. I had a deposit and an interest-free loan from MBNA, to the tune of 30%, but even so I was in negative equity till about 1995. Negative equity kills you fast and kills you good, because of the leveraged way we buy houses.

    Was it just an ermine that got this wrong? No, apparently a million other dumbasses had such an awful sense of timing as I did – but this newspaper article is from 1992, so still in radio silence on the Internet, because the WWW started in 1994.

    With roughly ten million mortgage holders, that means that more than one in ten people with mortgages are trapped by debt. They are unable to sell till prices go up. They can’t sell and are stuck. [UBS Phillips & Drew]research analyses house price falls and the number of first time buyers, the group most likely to be in trouble because at least 50% of them took out mortgages of more than 95% of the value of their home.

    Rachel Kelly,  “A million first-time buyers caught in mortgage debt trap.” Times 24 Apr. 1992: 4. The Times Digital Archive

    I had a 30% deposit (ie a 70% LTV). That wouldn’t have helped me in the suckout, though it did shorten the period of negative equity relative to that shown on the chart, by shifting the line up a bit.

    So how does that affect Mr Wannabe 2014 house buyer? Houses always go up. Everybody says my house is my pension.

    To be honest, I don’t know why everybody says my house is my pension, though RIT has a good take on that subject. It would scare me shitless if I had housing as a large part of a pension, because you need several houses in different areas to get sector diversity, the baby boomers are going to die off in the next 20 years so their houses will be sold and it’s hardly like I’ve seen property as a great wealth store. Everybody else has it as a religion and who am I to criticise other Britons’ religion as long as they leave me be. Fill your boots guys.

    If they’d bought a house worth of the FTSE100 on the same leveraged basis and paid their rent with the dividends they would probably be saying the FTSE100 is my pension. It’s buying a long term appreciating asset with leverage and not trading the bugger come what may and not getting marked to market in suckouts that makes houses a good investment – if you stay the course and don’t take those hits in the early days. Look at that chart and note that buying on a high meant I was exposed to the risk of having to sell up and having the house marked to market at a loss for a third of my working life. Safe as houses, guv, safe as houses.

    The cyclical rises and falls of the house prices are slower than those of the stock market. Just because it’s a quarter of a century from the last turn of the cycle doesn’t mean it’s all different now, like the mills of God this one grinds exceedingly fine and exceedingly slow… 25 years ago jobs were more stable for the average employee, waiting to pass through the meshing gears of the mill until they turned you out the other side was a realistic option. But look at that 10 year suckout. It’s one of those questions you gotta ask yourself, really…

     

    So what is different this time? It’s not about price, it’s about affordability!

    Monevator observes that the house price to earnings ratio is creeping up. Some of the ideas about increasing ratio of two-earner households resonate with Elizabeth Warren’s book about the US situation. So obviously the whole price to earnings metric is hard to make fit these days. The new in word around town is affordability. Don’t worry about the amount of money you are borrowing, that’s just a number, it doesn’t mean anything. Can you afford to pay the mortgage okay?

    Now if someone waltzed into a shop selling LED TVs with a credit card and said that, it would be viewed as a personal finance faux pas. Do that for a purchase three orders of magnitude bigger and suddenly we all go hey, that’s cool, don’t look at the price, can you make the repayments?

    There is a case that the 3 x single, 2.5 x double income multiples that were the maximum lenders would advance in the past are too conservative now. 25 years ago we were coming off long runs of double-digit interest rates from ’78 onwards. That sort of thing limits the amount of mortgage you can pay off in a 30 or 40 year working life; 1991 was the last time interest rates were in double figures, so for 20 years they have been lower. But the average is closer to 5% than the 0.5% they are now.

    I kind of feel the need for Clint again. Take a look at the yellow line, interest rates. Now just like the young ermine didn’t catch on with this whole boom-bust kerfuffle, because he hadn’t seen it, there are no doubt people who are thinking

    what are these double-digit interest rates you speak of? I know nothing of such fiscal brutality

    Look at the chart. Most of the time it spent at the long-run value of British interest rates of 5 or 6 %. That has a direct bearing on your affordability. The young ermine, though foolish in many ways, had the sense to ask of the mortgage company what would repayments be if interest rates doubles. It’s actually quite easy with an interest-only mortgage which is running alongside an endowment. If the interest rates double, you pay twice as much per month ;) I figured I could managed that, just. I didn’t expect to be doing that, the very next year. I froze in that place. I didn’t go out much. Then the high interest rates started to depress house prices, and it began to dawn on me that I had made the most stupendous personal finance mistake of my whole life.

    It dwarfs the second biggest PF cockup I made, which was a rash two years of major momentum-chasing and trading muppetry in the dotcom boom and bust. I only used ISAs and wasn’t rich enough to fill the first one. I probably destroyed about £7000 worshipping at the altar of Buying High and Selling Low, with a side order of Excessive Churn. I blew about £10,000 in 2012 pounds, but I got something of value in return. Education – it made me ready to learn how to go about things better. There was no bias or scamming in the training course that Mr Market dished out, and more to the point I threw away the money as I earned it. I didn’t borrow it from a mortgage company, and once it was gone it was gone, but I didn’t owe it to anyone.

    The stock market has been a lot kinder to me than the housing market, and in a much shorter time, too. True, it delivers a jolly good kicking every so often, there aren’t the slow languorous cycles of the housing market. Perhaps the background radiation of this epic fail remains in my personal finances, because unlike the case for most Britons in my age and ex-income group, my house is not the dominant part of my net-worth, excluding pensions, if I were irrational enough to compute it as part of my financial assets ;)

    Interest rates are at historic lows, that’s a good thing, surely?

    On interest rates we’re a little off the right-hand side, but interest rates haven’t budged since then. They’re at historic lows. They can’t go any lower, because otherwise the Bank of England would be paying us to borrow money from it. So when you are making the switch from price to earnings (3 x single or 2.5 * double ISTR) you are making a nasty little pact with Mephistopheles.

    you shouldn't be strinking deals with this bad boy. He tends to turn up and the most inopportune times

    you shouldn’t be striking deals with this bad boy. He tends to turn up and the most inopportune times to call in his dues

    You are making a bet that things really are different this time, and that for reasons you can’t explain, unlike over the last 25 years interest rates are going to remain at historic lows of a tenth of their long run average for at least the first 3/4 of your mortgage (19 years of a 25-year mortgage). You can afford for ‘em to let rip a bit after that, because inflation will have reduced the value of your debt by about half then anyway, plus in an ideal world you’d have paid off some of the capital too.

    You’re also making some other assumptions. That your pay will keep up with inflation, which given the power shift from labour to capital may be unwise. That nothing untoward will befall your employment, or if so, then you will be able to find another job at similar or better pay without moving. Unless you live in London, that may also be unwise. If you do live in London you can’t afford to buy a house if you are a prole, or even one of the 99%. Then there’s the risk of the more personal crap that can get in the way of things – divorce, children dropping the second salary for a while and upping your costs. But hey, it’s affordable…for now

    You can see what an interest rate hike did for me. Obviously the heave-ho from 7.5 to 14% raised the payment, but it also made the aggregate payments much higher for a while. Look how fast the cumulative overpayments relative to renting ramped up (the blue bars). They only start to yield to the cumulative imputed rent in 2000 over half-way through my working life, and it is probably only about now that the total amount paid in mortgage costs is less than the total amount I would have paid if I had rented. Of course, I now have a fully paid-up house that has a future income stream associated with it – the rent I don’t have to pay.

    The risk of being hit by negative equity is highest at the beginning, when you are young, for the simple reason that you haven’t paid off any of the house yet. The amount of total money sucked out relative to renting is highest in one’s 40s. It’s not a personal finance trajectory that is for the poor, and not one that fits well with the costs of having children in one’s 30s.

    I can’t yet work out whether this cost peak is an artifact of having eaten that fall in house prices and the high interest rates early on. The fall in house prices is not reflected in the running cumulative costs, however, except as an effect on imputed rent.

    what do interest rates do to house prices?

    George Soros - this bad boy did for the Ermine in '92

    George Soros – this bad boy did for the Ermine in ’92 by ejecting the UK from the ERM. Lamont skyrocketed interest rates to try and stay in

    They make them fall in real terms or at least reduce the rate of increase relative to inflation. Particularly in the Brave New World of gauging how much you will pay according to affordability, rather than a price/earning ratio. Affordability is inversely proportional to interest rates, so as interest rates go up, prices have to fall to stay affordable. You can see that in the negative equity that I suffered at the start, though this may be correlation with the long drawn out 1990s recession. The interest rate spike was cause by Britain being ejected from the ERM – interest rates were raised to try and stop the pound falling, but the Bank of England lost the fight. That is the trouble with economic variables – they are hard to separate and qualify individually.

    Why do governments push home-ownership so hard?

    Not all governments do. Not even all British governments did until 1980. When I was at school it was perfectly normal for middle managers to live in a council house. Then Thatcher got in, and it’s been a world of hurt from 1980 onwards. When I look at this I can’t help feeling that it is a rum way to run an economy and seems to do a lot of hurt to a lot of people trying to catch up with the shibboleth that you must own your own home. The huge exposure to risk when you are young, the massive suckout of money in one’s 40s to buy the house compared to the rental option. Is this really worth all the pain? At the moment it is because the rental option is really horrible – there is no useful security of tenure in the UK and the army of amateur landlords seem to be patchers and bodgers when it comes to maintenance. It seems the solution to complaints about the state of the place is to get a less discriminating tenant – it is a landlord’s market.

    If the government were interested in the maximum quality of life for the most people, it would stop fiddling about in the housing market and fix the alternative, renting. Most of the house-building in the post-war period was done by councils building council housing

    post-war housebuilding

    post-war housebuilding (BBC)

    and this carried on at a notable rate until it was shut down by Thatcher’s Right To Buy – there was no point in building houses with ratepayers money to flog them off cheap to somebody who was in the right place at the right time. Private enterprise clearly hasn’t picked up the slack, because presumably there is a profit incentive to maximise house prices for new-builds by controlling supply ;) Or some other reason, but it’s clearly not happening.

    Renting in the private sector is miserable. If you favour the tenants too much you get misery for the landlords and then misery for the tenants who don’t have a place, though joy for those who do. If you favour the landlords, as is the general case now, you get misery for the tenants, and drive people towards owner-occupation who perhaps aren’t ready for the financial hit. Owner occupation is much more expensive for the first ten or fifteen years. Calculators like this make me laugh because they are simplistic, assuming a constant interest rate, and constant house price inflation and they also take the equity in the house on the plus side. The only time you get to see the increasing equity in your house is if you downsize. The next time is when your kids sell the house after they’ve come back from the crematorium. Even after 25 years I’m not sure I’m up on the deal yet as far as money spent on buying relative to what I’d have spent on renting is. I do have an expensive asset and I’m done paying rent and mortgage for the foreseeable future, so I’m better off overall. But it was an expensive ride and I took outrageous shedloads of risk. After all, nobody sat me down when quoting for a mortgage and went

    Now Mr Ermine, how do you feel about the possibility of losing 33% of the value of this house should you be SOL and lose your job in the first ten years?

    Saying yes to that sort of risk that puts you into Highly Adventurous nutcase levels with shares, and yet people become gibbering wrecks if it’s intimated to them that the stock market can do that to you :) Safe as houses, they say, safe as houses… What the hell did the stock market do to get all the bad rap? A financial adviser won’t let you sit down and open your mouth without you taking an attitude to risk test, and yet you can blithely sign up for a mortgage and the only warning you get is

    Your home may be repossessed if you do not keep up repayments on your mortgage.

    No shit, Sherlock. No mention of the risk, eh?

    You are about to take the sort of risk that put a million buyers at risk in within living memory – the Bank of England interest rate is at historic lows and could increase tenfold without drifting out of the long run average. Have you thought about what that would do to your repayments, and have you had a word with Clint about it?

    Nary a word that this might happen

    Lindsay Cook Money Editor. "Coming to grips with negative equity." Times  24 Oct. 1992: 25

    Lindsay Cook Money Editor. “Coming to grips with negative equity.” Times 24 Oct. 1992: 25

    Housing is, however, not just about money. The excess cost of buying is probably worth it to get rid of AST tenancies, horrible landlords, one month eviction periods, shitty house maintenance and all the other hurt that often comes with amateur BTL landlords. Fixing the rental market probably means building decent social housing, enough to compete down rental prices and set standards, and relieve the pressure on the owner-occupier market. Owner-occupation is much less suitable for a world of shorter-duration or less secure jobs. I don’t know if Thatcher was right in her time but that world is long gone now.

    Of timescale-blindness

    We are scale-blind to extremely short timescales. That much is clear when you try and swat a fly, or watch a sparrow land on a blackthorn bush without impaling itself, as it makes micro-adjustments to its flight path to avoid the might spines. Listen to this whitethroat at normal speed – it sounds pretty scratchy and nasty to me

    Now listen to what that presumably sounds like to a real whitethroat, which can hear finer temporal detail than us. All I have done is slowed it by 8 times

    That’s still coarse on the sort of timescale that high-frequency trading works. You can’t stay on top of that. The effect happens at long time scales too, we just don’t see things that change over decades as much as we see them if they change day to day, which means that we become increasingly blind to groundswells in finance that have a longer period than a working life. Hence this article, it is a distant report from a receding event horizon. It happened, and it’ll happen again. What makes this worse is that the WWW started in 1994, so for the Internet generation this history is not accessible. I used my local Library’s newspaper search facility to research some of this, and it is uncanny how the themes from 1988/9 seem to be repeating themselves now, and how certain pathologies associated with mortgages seems to be evergreen. Such as stupid berks taking money out of their home equity in the good times to pump up their lifestyle only to come over all surprised when it all goes titsup in crashes. Life has rainy days in it. Save up for them.

    Should I not buy then?

    Markets can remain irrational longer than you can remain solvent

    John Maynard Keynes

    Search me guv. London, for a start, is a different place. I’m not in that league. I left London 25 years ago because I was too poor to live there. You’re competing against foreign money treating London real estate as a reserve currency, and there’s a lot more of the rest of the world’s 1% than there are Londoners. It’s not a fair fight. I could earn enough as a single man to fight the DINKY couples but the 1% are way out there, sometimes you gotta know when to hold ‘em and know when to fold ‘em. For most people London falls into the latter category.

    Elsewhere, you buy a specific house in a specific part of the UK, subject to local conditions. I personally wouldn’t buy right now, but then I haven’t lived with AST tenacies and scummy BTL landlords 7 for a long time. I can see how that makes people prepared to pay over the odds. Maybe it really is different this time.

    I learned something writing this and analysing the costs – in particular that when you buy a house with a mortgage you commit to ongoing higher outgoings for over twenty years – that’s real money you have to earn and pay out. It’s true that the break-even point was 10 years in my case, but my spending was still higher than it would have been renting to 20 years. The break-even point is brought forward by the nominal value of the house, which is only realised when you die or partially on downsizing.

    I didn’t have any idea when I started down the mortgage track that this was the case. I earned enough and was lucky enough to dodge the negative equity bullet to get away with it, but it could easily have gone a different way, and then the ermine would not have been retired. Safe as houses – think of those million people in negative equity in the early 1990s. I was started down this track of thinking by Paul Claireaux’s blog post on House Prices Now – he has some other charts of interest there, and a far better grounding in the financial technicalities, where I’ve just lived it. His summary?

    What I conclude – is that  (in broad terms) UK house prices have gone into outer space!

    There is a general message that when buying investments one should take valuation into account. That is doubly the case if you are going to buy it leveraged – and a house is one of the few assets Joe Public buys on margin. Negative Equity is what happens when you get that wrong, and being foreclosed, going bankrupt and having the debt chase you is what happens when you get that wrong and lose the ability to pay the mortgage. Only you can say if getting away from those crappy landlords is worth the risk.

    Notes:

    1. MIRAS is a historical piece of Government fiddling in the housing market being changed where they didn’t tax you on the interest paid on a mortgage. Interest rates and tax rates were much higher in the 1980s than they are now
    2. short-term Government interference leading to a pulse in demand just before an election. Any connection with Help to Buy is of course specious scuttlebutt and should be ignored. Of course.
    3. in those days money halved in value every ten years. So that 3 x lift was pretty much breakeven after 25 years with free investment risk chucked in, but optimism and being a smartass is one of the privilege of the youthful, eh. Boy was I taken for a ride ;)
    4. I used the low start loan so I’d have a chance to pay back that interest free credit card. It was the correct use fo an ARM loan – the young ermine got the details right, it was the big picture that I made a hash of
    5. To track the house value I used the Nationwide house price index for old properties, East Anglia section. The house was a two-up two-down built in 1840, the Nationwide are pretty accurate because scaling the price I bought at forward to 2012 gives pretty much the value Zoopla gives for a similar joint in a similar area. To track inflation I used the January of the year figures from this Guardian spreadsheet. For the Bank rate I took figures from the Bank of England and did the manual calculation to get the yearly interest rates, and assumed a mortgage was 1% more. I estimated rental prices as 4% of the yearly house price, which would fit for now. I moved around the middle of the period, so the second half of this is a simulation.
    6. I had to subtract what was already indicated otherwise the overall picture would be wrong. When the blue bars disappear, it will have finally been cheaper in terms of money paid out to have bought, not rented
    7. I’m sure there are some decent landlords. It’s just that I never ran into them and from what I hear most tenants don’t either. OTOH I’ve heard from some landlords about some seriously chavvy tenants. Shame that so much money changes hands and both parties seem to be pissed off with the deal
    4 Apr 2014, 12:07pm
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  • Hargreaves Lansdown saves the day at the eleventh hour of the old tax year

    I’ve never had any dealings with HL, because the Ermine is a cheapskate when it comes to platforms, and Hargeaves Lansdown has the rep of being a high-cost full-service shop. However, given that that nice Mr Osborne seems to indicate that we can now draw our pension funds in full subject to regular taxation, I want a SIPP. Held in cash, possibly, though I need to reflect on that at my leisure. The rationale is here – although I can’t draw it as of yet, I’m not far from the 55 cutoff.

    When I researched the original article I looked at Cavendish Online, for a stakeholder, which would be the cheapest. But they wanted me to fill in forms sent through the post with all the money laundering fun and games of certified copies of this and that. There’s not enough time for that given that the end of the tax year is tomorrow so I didn’t fancy my chances with the post. Online is the way to go.I would have thought a SIPP wouldn’t need all that garbage because presumably they go to HMRC and go ‘have you got any records of this geezer with national insurance number xxx name An Ermine living at this address. If it matches, fine, if not the alarm bells go off and somebody sends a SWAT team out. But no.

    So I attempted with TD Direct, on the principle I already have an ISA with them, so all the know your customer malarkey has been done already. Had a go a couple of days ago, they seem to have lost the application, and certainly haven’t asked me for any money yet. In the unlikely event they find it and do something I’ll tell them they’ve missed their chance under the 30-day cooling off rule, basically for gross incompetence :) They know what the end of the tax year is all about, FFS, and although I normally expect people to get their act together about the end of the tax year for ISAs and SIPPs it’s not like Osborne gave us huge amounts of notice to process what’s changed and how to use it.

    Since I am a canonical example of somebody who can use a short DC pension to my advantage I want some. And since I have no income, the most I can lob in in a tax year is £2880, so missing out this tax year costs me £720 (less running costs). As a minor snarl, why is it that whenever I fill in a form and it has status of employment, do they have no entry of Gentleman of Leisure? I am not employed, and I am not unemployed either. I’m not down the Labour Exchange claiming JSA. At least HL had the ‘other’ category.

    So I take a leaf out of Boardgamer’s book, and figure I may as well give it a go.

    Hargreaves Lansdown know the tax year is ending

    Hargreaves Lansdown know the tax year is ending

    Obviously I simulated the effect of their charges; there are no opening charges, but there is a 0.45% p.a. hit on all investments (including shares!!!!) and there is a stupendous £354 flexible DD/exit charge. So be it, there’s still a win from the £720 the taxman lobs into the pot, and since these are savings I will be living on anyway I may as well park them in a pension and get my tax back from them – it beats the hell out of the interest on any cash savings account I can get.

    Now I have to say that as I went through the application I saw why HL gets its rep as a slick operation – they took the cash via a debit card, opened the account, allowed me to defer investment choices to later and the whole experience was a lot better than the un-joined-up mess that TD were offering. They may still manage to make a muddle somewhere but so far so good. Even with that shocking exit charge the simulation indicates I am good for about a 16% ROI on cash over the next three years after costs and assuming 3% inflation. 5% p.a. real return is worth getting out of bed for. Presumably all the know your customer crap is coming my way, but at least that can be done at my leisure after the deadline.

    Using Hargreaves Lansdown’s website brought it home to me just how crappy all the low-cost platform websites I’ve used were. TD Direct probably just about get the wooden spoon award for usability, though I don’t really get on with Charles Stanley that well either. CS looks prettier but I still get lost in it. III’s was serviceable but the funds selection was truly horrible, hopefully they’ve improved it since I told III to sling their hook for ramping charges.

     

     

    2 Apr 2014, 4:26pm
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  • a little bit of Africa comes to Suffolk

    Noticed more dust in the air and it’s a git to get off the windscreen. Apparently a little bit of the Sahara is paying a visit, so the wipers are sanding the glass. The reports in the grauniad seems to be particularly dire, however – I walked four miles today, partly in search of the perfect black car to take this. Can’t say I felt particularly like this mother and child - it must be really bad in The Smoke!

    Leanne Stewart, from Eltham in south-east London, described feeling breathless after a routine half-mile walk to her son’s school this morning.

    “I’ve been doing the usual school run about half a mile from my house, which is usually quite an easy walk, but I’m still breathless now,” she said. “I could feel my chest getting tighter and tighter and my son, who’s eight, had to stop and have his inhaler.

    What I really wanted was a classic black Beemer with the dust on the bonnet but we clearly don’t have the wealth or the drug dealers in my part of town

    Saharan dust on a black car in Ipswich

    Exotic Saharan dust on a black car in Ipswich

    with London and East Anglia in the boresight of the winds bringing this sand

    incoming pollution aleart from DEFRA

    incoming pollution alert from DEFRA

    It’ll be interesting to stick a microscope slide outside tonight and try and catch some of this stuff and see if it looks like miniature sharp sand. It’s a shame that I didn’t try that when we had those lovely aircraft-free skies with the volcanish ash clouds from Eyjafjallajökull

    The Guardian has a bit more about where the dust comes from

    So just where does this pinky-red dust come from? Dr Steven Godby, a drylands expert at Nottingham Trent University, thinks he has the answer:

    The Sahara is the largest desert in the world and contains a number of significant dust source areas. Looking at satellite images captured last Thursday and Friday it seems the dust was generated from two source areas, one in central Algeria close to Tamanrasset and another in southern Morocco to the south of the Atlas Mountains.

    To generate dust storms large numbers of silt-sized particles are needed for the wind to pick up and transport and these two areas have been identified as dust ‘hot spots’ in the past.

    Google maps link

    All this talk of the winds from the south making the old ones feel lethargic brought this old Grace Slick tune from the cusp of the 1980s to mind :)

    Postscript 4 April – I got my Beemer in the end

    one dusty black BMW

    one dusty black BMW

    I left a microscope slide out in the garden for 24 hours to pick up some dust. The dust looks reasonably sharp and spiky through a microscope. It’s been a long time since I’ve driven a microscope, and the Ermine student microscope is probably not really up to the job ;)

    the odd sharp little bits

    odd sharp little bits of Africa

     

    dark field variant

    dark field variant

     

    31 Mar 2014, 10:10pm
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  • How a short pension can help early retirement around 55, and why annuities deserve a better press

    One of the dilemmas facing the early retiree is how to minimize taxes. The extreme early retiree (<45) doesn’t have much choice but to pay tax on their savings to retire between their extreme early retirement date and the time they can draw pension income. You can avoid paying tax on the way in to a pension, but ISA savings are from tax-paid income. Now that Osborne has made pensions more attractive by improving their flexibility,  people need to start thinking how they are going to phase taking their retirement funds. That’s something you need to think about in you early to mid forties; at least ten years before the planned date of retirement.

    I got a few of these things wrong, because I brought my retirement plans 8 years forward over a period of three years. In particular, consider very carefully whether you want to pay off your mortgage before retiring. Although I did, a mortgage is a flexible and low-cost loan. For most people not paying it off until you receive your pension commencement lump sum at 55 is the correct route, because it lets you smooth your income profile. Pay the mortgage down while you are working and before 55 and you will be better off in the long run but will probably take a severe income suckout in the gap between retiring and 55

    There has to be the usual wealth warning – pensions are still complex, and people’s circumstances goals and risk profiles will vary a lot. DYOR and/or seek independent financial advice.  This is a tour of some of the high-level stuff. the devil is in the detail with pensions, but high-level stuff makes orientation easier.

    Planning for slightly early retirement (55 and up)

    In principle, planning is relatively easy for someone retiring after the Government’s mandated earliest DC pension drawing age, currently 55 but probably rising for anyone who is currently younger than 42. You basically save into a personal pension aiming at your annual desired retirement income * 20 by the time you are 55. I said the planning is relatively easy, doing it isn’t! Then you start drawing down the pension. If you want to leave it to your children after death then you carry on in drawdown, but if you don’t you can get some security against outliving your savings by keeping an eye on annuity rates as you age, and switching to one when the annuity return in terms of annual income gets above your investment return (~5% usually). This is usually around 65-70.

    Planning for early retirement (45-55)

    The planning gets harder for someone retiring before the Government’s mandated earliest retirement date. You have to save up from taxed income, preferably in an ISA. That’s been made a bit easier with the increased limits. Anybody who is in a position to retire early is different from the general working population, usually in earning more than average and probably also in spending less than average. Somewhere you need to open up a spending-earning gap. Unless you can get your spending down dramatically you’ll probably be paying higher rate tax on the money as you earn it to save across the gap

    The same applies to me – all the money I’ve saved into my ISA and all the cash savings I have are from taxed income, and I was under the impression that once you’ve paid tax, that’s it. You don’t get to claw it back years later.

    After the Budget changes, that’s no longer so. An early retiree’s tax status changes from

    status tax NI age income from
    working x x < retirement work
    retired, pre-pension <55 savings
    retired drawing pension x 55+ pension

    One of the advantages of a DC pension is you can choose how much to draw down each year. You take 25% of the total pension capital as a tax-free pension commencement lump sum. Many people blow this on a holiday or other splurge, each to their own.

    That'll be a nice Lamborghini, and to hell with the money

    recommended splurge target these days

    Some use it to discharge their mortgage on retirement, which has a hell of a lot to be said for it. But one of the other things you can use it for is to reduce the amount you draw down from the pension at the beginning, to less than the personal allowance of about £10,000

    Such an individual’s stages look like this

    status tax NI age income from
    working x x < retirement work
    retired, pre-pension <55 savings
    retired drawing pension + PCLS 55-60 10k pension DD + PCLS “DD”
    retired drawing pension x 60+ pension

    That way you get a few tax-free years out of your pension. Note that I have made the assumption of at least a £250,000 pension capital, because drawing > 10k p.a. from any smaller amount would be unwise 1. If you are drawing less than the personal allowance then you aren’t paying any tax on your pension unless you have earned income, in which case why are you drawing down your pension – ask your financial adviser about taking the PCLS from a DC pension at 55 and elect to draw down nil for a bit :)

    It’s one low-risk way of improving your income from the pension, though investing the PCLS using an ISA and giving yourself a permanent tax-free increase in income is a good alternative. This is the one I have to take, because when I crystallise my pension I get both the income and the PCLS at the same time.

    A change in tack for a pre-pension retired Ermine

    That retired, pre-pension phase before 55 (or whenever you take your main pension income) is where you are living from savings or ISA income. It is precious, because you are a non-taxpayer. And there’s an opportunity opened now for you to claim some of the tax you paid on your savings back, indirectly :)

    Non-taxpayers can save up to £2880 into a pension each year, to which the Government adds basic rate tax of 20%, ie £720 on £2880. You paid the tax when you saved the money in the first place. It’s a straight 25% gain 2. If you do this for four years you will end up with a capital amount of 14400, for an investment of 11520. It’s a five for the price of four offer, though your first year’s contribution will have depreciated in value by about 12% due to four years of inflation 3

    You won’t get a 25% real return because charges are high on SIPPs – these plus the effect of inflation halve the return. I’ve computed this for a TD Direct SIPP. This isn’t the cheapest place you would go – a stakeholder pension from Cavendish is better value but TD already know me and I am hoping they will open the account before the weekend, so I can put in £2880 for the year 2012/13. The extra £720 HMRC will add (less the £345 it will have depreciated due to inflation by 2016) still makes it worth paying over the odds for. If they can’t get their act together then I’ll use the cooling-off period to back out and go to Cavendish with a stakeholder later on next year.

    Charges and costs with a TD SIPP for 4 years

    total
    inflation 3% 3% 3% 3%
    tax year starting in 2013 2014 2015 2016
    pay in 2880 2880 2880 2880 11520
    tax added 720 720 720 720
    TD open charge 0
    drawdown cost
    flex dd reg 75
    close 75 90
    annual (£40/0.5%) 40 71 142 211 704
    running total 3560 7089 10547 13936 13846
    profit 680 649 578 509
    running profit 680 1329 1907 2416 1462
    inflation depreciation 86 86 86 86 346
    86 86 86 259
    86 86 173
    86 86
    total lost to charges 704
    total lost to inflation 864
    roi 13%

    All the charges and the effect of inflation reduce the return to 13%, but it is a return without exposure to the vagaries of the stock market – just open your SIPP and either leave a lump of cash in it or use a money market fund that is sort of like cash. 4 I would be able to take £3461 as the 25% tax-free lump sum and withdraw the remain £10384 as income without paying tax as the tax threshold should hopefully be at £10500 by the 2016/7 tax year.

    There was a load of bellyaching from DB pension holders that they got nothing from Osborne’s changes. If you are a DB pension holder so crazed as to even think about transferring out to DC then stop right now and take a cold shower. To be honest, if you have a DB pension you should STFU and celebrate your good fortune in life and salute any tail wind that can help people out to make a DC pension work better for them. If you want to get the benefit of Osborne’s changes then you know what to do – damn well get out there and buy a DC stakeholder and stop whingeing.

    Which is exactly what I am trying to do. I tip my hat to commenter Boardgamer who clearly located the on-switch of his brain a bit quicker than I did after hearing Osborne’s changes :)

    Annuities, schmanuities…

    Annuities have come in for an awful lot of stick recently, much of it unfair. From pensions A-day in 2006 nobody has had to take an annuity on retirement, only after they reach 75, and annuities are a hell of a lot better value at 75 because life firms figure you have one foot in the grave, and they know they’re paying out for fewer years than if you are 55. The screaming about annuities is only because people holler at their financial adviser that they want it SAFE AS HOUSES, not in the BIG BAD STOCK MARKET where their capital value marked to market MAY GO DOWN. CASH NEVER GOES DOWN – I WANT SAFETY.

    Be careful what you ask for. Safety, and insurance, costs money. That’s why annuities are so shit at 55 or 60. So don’t be a nutcase. You entered the stock market over years with your pension savings. You will have lifestyled your pension savings to reduce equity exposure as you come up to retirement. But if you are retiring into a world where the stock market goes down and stays down on its knees from the long-term CAPE10 trend for 10 years then that is a world where you’ve probably got bigger problems than your pension. Starving hordes running through the streets, lack of clean water, that sort of thing. That’s not a country for old men…

    All the scaredy-cats will say BUT THAT’S WHAT HAPPENED IN THE DOTCOM BUST

    even this mahoosive shart doesn't manage to span an Ermine's shortened career

    even this mahoosive FTSE100 chart doesn’t manage to span an Ermine’s shortened career. And it doesn’t show dividend income.

    Well, yeah, but the dotcom boom was way above the CAPE10. People retiring in Feb 2003  had been putting money into the stock market for the previous 30 years 5.

    Yes, they retired with an inflated idea of what their savings were worth, and the guys retiring three years before got a much better deal if they annuitised on retirement. But they didn’t lose out – they got damn good value from their savings, assuming they saved at a high enough rate, targeting the right capital amount. They’d have seen a big overshoot in 1999/2000. Maybe they should have taken the hint and retired then. Or if they had lifestyled their pension savings (transiting to an increased bond allocation and downplaying equities as they approach retirement) they wouldn’t have seen much of the boom, but then even less of the bust.

    In short, do it right, guys. This information isn’t secret any more, and is standard financial advice 101. I lost a shitload of money in the dotcom bust, because I started in ’97. If you retired in 2003 you probably were in your peak earning years from 1993, and were buying tons of cheap shares from the 1973 oil crisis onwards 6. You didn’t lose out that much overall. And you did much better with 30 years of pound cost averaging than a wet-behind-the-ears ermine buying over three years at the peak of the market then running into index ISAs :)

    Annuities aren’t inherently bad, just stop buying the suckers as soon as you retire. Consider  a mix of drawdown and annuitise when you’re older. Nobody’s had to buy an annuity on the date when they retire for a long time. People say annuity rates keep on dropping. Yes, annuity rates for a new annuity at 60, say, are dropping. If you know a way to be 60 this year and still be 60 next year you’ve got hold of a secret that is worth a hell of a lot to a lot of people, you don’t need a damn annuity. The annuity rate for YOU as an individual will improve as the years roll by ‘cos you ain’t getting any younger 7. You can test this with any annuity calculator. Tell ‘em your age and see the rate. Then tell ‘em you’re 10 years older.

    People often blame annuities for a very different problem. Not saving enough money. We are starting with a capital value of roughly 20 times the annual desired retirement income, yes? If not, you’re gonna have to stay at work until State Pension Age or start robbing banks until it is 20 times your desired income…

    The trick of delaying annuity purchase only really works for people who retire normally, say at 60. If you retire with a pension capital of 20 times the desired annual income and your age related annuity rate improves enough to save your tail at 70, then you’ll have half of your capital left. You’ve been running it down for 10 years if your capital keeps up with inflation and you use a safe withdrawal rate of 5%. Do that for 20 years starting 50 and you are outta cash by the time an annuity can help you. Early retirees have to be more conservative with their withdrawal rate because they are exposed to risk for longer. They need to avoid running down their capital too fast.

    Annuities are a tool, often used in the wrong place – at retirement. You are swapping stock market risk for inflation risk if you do that, because few people have saved up enough to eat the answer of “what is the rate if I tick the inflation-linked button”. The value of money halves about every 15 years due to inflation, so most people will get to see that.

    The other place annuities get a bad rap is you can’t leave them to your kids when you die. Diddums. One of the few benefits of a DC pension compared to a DB pension is you could leave the unused capital to your kids  if you croaked before 75 and hadn’t taken an annuity. Now you can leave it to your kids even if you live to 105 or more. Your job now becomes saving up enough money that you can live like old money – off the income from capital, not running it down. You need to work for longer to save up more if you want to feather-bed your offspring, it’s as simple as that. Osborne has given you the possibility, Now do your bit – spend less than 1/30th of your pension capital in retirement and you have a better chance than the 4 or 5% commonly regarded as a safe withdrawal rate..

    Your Risk Profile

    FinaMetrica sums up the problem space well

    Many financial decisions are made in situations of uncertainty, and so risk is involved. Different people are comfortable with different levels of risk.

    Unlike, say, height or weight, there is no unit of measurement for risk tolerance. A person’s risk tolerance can only be measured relative to others on a constructed scale, in much the same way as IQ is measured.

    By using the FinaMetrica Risk Profiling system, you obtain an accurate assessment of your risk tolerance in terms that are meaningful to you and your advisers. Your Risk Profile report will guide you and your advisers in your financial decision making. In particular, the report provides the basis for your instructions to your advisers on the level of risk you would prefer.

    The reason annuities matter is that when people come to retire and take a DC pension, they are faced with a major life change. I have been through some parts of this, but many things are softened for me because I have a DB pension that I could live on if I took it now.

    You retire in your 50s at the earliest, well, as far as retiring on a DC pension and getting to take it. For many people in their 50s, if you give up your salaried job you will find it very hard to find another one at the same level of pay. The reasons for this are complex, but generally

    • you have experienced notable career progression
    • 50 is an early time to retire, not many opportunities arise where firms would want to replace someone of that age with someone of a similar age
    • you are more settled housing-wise but still often have dependent children, so moving is more of a wrench, meaning you have to look locally, restricting opportunities
    • your experience fits a particular organisation, for instance although my general knowledge of engineering has a wide application elsewhere in industry a lot of my skillset is specific to The Firm, which is busy trying to get rid of its old gits. It’s definitely not hiring any more on the payroll :)

    So retiring is a big move, it’s often a one-way ticket, and it’s stressful, even if you have enough money. People get fearful and conservative when in an unfamiliar stressful situation. And then your independent financial adviser walks along, glad-hands you, and sits you down with a cup of coffee. Then he says to you, right, Mr Retiree, how do you feel about risk? Say I were to tell you that the value of your stock market investments could fall 50% in one year, but it would probably not stay down. Well, he doesn’t actually do that, he opens his PC and gets you to do something like this online risk asessment or this Finametrica test

    So there you are, you’ve just had the send-off from your workmates, you are going to enter a new phase of life, you have butterflies in your stomach, and now someone asks you how you feel about losing money, bearing in mind you aren’t going to be earning any more for the foreseeable future and probably the rest of your life. And what most people say is

    HATE IT HATE IT, NO WAY.

    What is this stock market you speak of that can chew through my money like that? Why would I give it house room?

    So the IFA closes the laptop, looks you in the eye with an easy smile, and says Right Mr Newly Retired, that’ll be an annuity for you, Sir. Then goes through the spiel, looks on the open market and off you go with an annuity, and almost zero stock market risk. And I find that for an Ermine, for every £100,000 pension capital I can buy about £5000 as a level annuity payable annually from age 55.

    No I don’t actually think that rate is too bad. It’s not a billion miles away from the 5% safe withdrawal rate from a stock market investment, and you’ll never outlive it. Trouble is, that every 15 years the value of this pension will halve. There again, 12 years after I am 55 the state pension will kick in, so the first bullet will be dodged 8, and that is inflation-linked to some extent. Now if I tell them I am grizzled of fur, 10 years older and I’d like it paid from 65 I get £6000 as a level annuity. Take a spin round the clock again at 75 and I’m good for £7500. Which was roughly the logic of why you had to buy an annuity at 75 at the latest; it’ll still be a damn good idea if you are a little bit short of money.

    Talking about the risk assessment, in the interests of honest journalism I took a couple. And discovered I might have been rather too hard on the scaredy-cats, because it is possibe this looks very different to me. You can take the Finametrica test yourself at no charge. FWIW this is my result

    An Ermine's risk profile

    An Ermine’s risk profile I’m not having you on with April Fool – Finametrica is an Aussie company and they are 10 hours ahead of us

    It’s lethal, more than one standard deviation away from the norm. I took the Scottish Widows one

    1403_ermine

    Your Details

    Name : An Ermine

    Results

    Attitude to risk: Very Adventurous

    Score : 84

    The chart on the right shows where your attitude to risk fits:

    About Very Adventurous Investors

    Very Adventurous investors typically have very high levels of investment knowledge and a keen interest in investment matters. They have substantial amounts of investment experience and will typically have been active in managing their investment arrangements.

    In general, Very Adventurous investors are looking for the highest possible return on their capital and are willing to take considerable amounts of risk to achieve this. They are usually willing to take risk with all of their available assets.

    Very Adventurous investors often have firm views on investment and will make up their minds on investment matters quickly. They do not suffer from regret to any great extent and can accept occasional poor investment outcomes without much difficulty.

    Yeah, right guys. Flattery will get you everywhere. FWIW I tried to be reasonably honest with the questions, though I did veer a little on the steady-as-she-goes when in doubt. It amazes me that I am such an outlier, more than one standard deviation off the mean. People normally get more conservative with risk as they get older, according to FinaMetrica.

    The important thing here is that you should take one of these before your IFA does your pension, so that you have some chance to inform yourself about the options. Because otherwise our newbie testee, when faced with a whole load of questions where he doesn’t understand the question never mind the answer, will always go for the safe option. It may not reflect his views if he were better informed. This is a big decision, and if what you say points at the annuity way, you only get one shot. There’s absolutely nothing wrong in that, but it should reflect your view of the world, not your unawareness of the concepts. Oh and don’t pump up the answers just to make yourself look hard. It’s you who is going to have to live with the consequences. IFAs reckon that most amateur investors invest way above their risk tolerance. They would say that, wouldn’t they as they are talking their book. Nevertheless, when you look at the way private investors run for the exit just after a market crash they may have some point.

    There’s probably also a good case to be made for you having run an ISA or a SIPP for about ten years before your retirement date, where you have some skin in the game – ie losing half the value would spoil your week, though not ruin you.

    That way you get to see what a market crash looks like. You may think that you’re hard and can sanguinely whistle a dancing tune while there’s red all over your screen and where it said you had £200,000 yesterday it now says you have £100,000 and would Sir like to sell? If your feverished hands reach for the YES, DO IT NOW before I lose any more money button then you are not the Right Stuff. If it’s the ‘away with ye,  take me to the screen where I can add more money from my debit card and take advantage of this mayhem to buy low’ then you are probably the Right Stuff.

    That’s the long story of why annuities have such a terrible name. They’re still right at times for the timid and may help those who are a little short of savings.

     

    Notes:

    1. The PCLS takes it down to about 200k, and 1/20th of 200k is 10,000
    2. the missing fifth that the taxman stole from you when you earned the money is returned, which is 1/4 of what you pay into the pension, hence a 25% bump-up
    3. my illustration is a bit pessimistic on that because it doesn’t discount end effects. For instance if I put in £2880 at the very end of the 2013/14 tax year, ie now, then presumably that cash has been earning interest for most of the year, so there are only two years and a month for inflation to erode it to mid-April 2016 when the operation ends. Likewise my last contribution goes in after April 2016, as soon as it’s gained the 2016 tax bung I close the SIPP and take the cash out
    4. That is a stupendously crazy way of using a normal SIPP over decades, but for something that’s only going to be there for three years I don’t need to take stockmarket risk, though I will if a market swoon presents itself in that period
    5. probably using ghastly with profits funds and shocking fees, but that’s a different problem, and has been largely solved now by regulation
    6. Current savers should note there is a school of thought flagging up that expected stockmarket returns may be lower in coming years than historically. The FCA has mandated change to low, mediaum and high projected returns on pensions from 5,7 and 9% to 2,5 and 8%
    7. it is possible to invent scenarios where this doesn’t happen, but your personal annuity rate will increase at an accelerating rate as you get older, the cross-point may shift from 65 towards 70
    8. How much that will help you depends on your pension income. If it’s £5000 then it’s a massive uptick. If your pension income is £100,000 then it’ll be lost in the noise
    27 Mar 2014, 10:29am
    rant reflections:
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    14 comments

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  • the misery of metrics and measurements destroying job satisfaction

    Yesterday I chose to get wet in Ipswich town centre to demonstrate about Mr Gove.  Okay, that’s bull, but I was roadie for the day as I ran the PA 1 for the NUT strike demo about pay and conditions, and Mr Gove.

    The NUT rally. can't work out why this iPod photo is such bad quality; is it me or do mobiles always take crap pictures?

    The NUT rally. Can’t work out why this iPod photo is such bad quality; is it me or do mobiles always take crap pictures?

    I’m not a teacher and don’t have kids so he isn’t specifically my problem. However, some of the themes sounded familiar. In particular the rise of collecting ‘data’ for performance measurement systems and the trends of micromanaging the shit out of white-collar jobs was exactly the sort of thing that pissed me off about work. I wrote about digital Taylorism in 2010, and the NUT’s Jon Parker indicates the issues that sound similar – listen to the crowd response to ‘data’ being collected pointlessly 2

    Ipswich NUT John Parker on data and metrics (MP3 1min)

    There’s a case to be made that The Firm was trying to squeeze their old gits out of the place, which is why they employed pointless pricks to produce software systems to piss people off. This doesn’t seem to apply to teaching, however, where it seems the working environment is such that 2 out of 5 teachers quit within the first five years, there’s presumably no imperative to thin the ranks at a time when Britain is experiencing a baby boom and somebody presumably has to teach them.

    Now some of the changes to the workplace are the result of secular trends like globalisation and technology, which at least does somebody some good even if the end of the boat Western workers are in is sinking. But the stupid pursuit of pointless performance metrics making jobs a misery seems to be 100% own goal. Not only do we have to employ useless patsies  to collect the pointless performance data to piss people off, but the measurers are usually paid more than the people who do the work being measured, because of the Peter Principle.

    That’s the trouble with the homogenized management theories that come out of MBAs. Theories and fads go through companies like a dose of salts. and because we have people benchmarking along the lines of bollocks like ‘business best practice’ they all follow the same bullshit until the next fad comes along that is going to be the Holy Grail and sort out the crap that the last fad made. Let’s have a sample of bullshit MBA fads from my working life.

    • Empowering employees
    • TQM (total quality management)
    • winning edge – mindset management
    • investing in people
    • managing my performance
    • shareholder value (that’s 1 year share price hiking so the CEO can Maximise his Apparent Performance by buying today at tomorrow’s cost)
    • Agile development (in a big firm?)
    • six-sigma
    • just-in-time
    • business process re-engineering
    • mission statement
    • outsourcing
    • Putting Customers First
    • core competency

    All of these can work well some of the time in specific instances. None of them work when applied across the board like velveeta. One of the worst things they must teach people on MBA courses is that there is a silver bullet. You see these wet-behind-the-ears young pups promoted into a situation beyond their competence as they wax lyrical about the next best thing that’s going to transform everything and have to keep a level gaze… Because you know that it’s never different this time, and it wasn’t different the last ten times either. One size does not fit all. And these berks have insufficient experience of the real world to have had that belief in the silver bullet beaten out of them in the school of Real Life™. Reorganisations are political, they are the new Top Banana and Chief New Broom acting like a tomcat 3, spraying his mark on the organisation. They are not functional.

    The teachers are just taking the same hit from performance management theory which is a Current Big Thing – tell people how shit they are doing, preferably every quarter, because you can manage expectations about pay that way. That’s obviously the way to motivate people to do better. That toe-rag Tom Peters has a hell of a lot to answer for. You get what you measure. Right. You can measure a pint of beer easily enough. How do you measure a teacher? A CEO? An income tax inspector? Ah, teachers, that’ll be exam results then? What about if they have to teach a whole bunch of stupid kids then, or the kids of parents that don’t really give a shit and probably shouldn’t have been encouraged by Tony Blair to have ‘em in the first place? Ah, let’s measure how clever they are when they enter school. Right, so how do you measure how clever they are? Is cleverness the only dimension of success – maybe a reduction in sociopathic behaviour and not kicking the shit out of the municipal bus shelter is a good outcome too? How do you measure the civic street furniture not trashed by the little tyke because he’s inspired to do something else? Measurement always has a problem with the counterfactual and the road not travelled. And so on. I’m with Lord Kelvin when it comes to measuring things that have a numeric answer that matches with the aspect of reality you’re trying to get, but when it comes to people the belief that Tom Peters prosyletised that ‘measurement works’ seems to be responsible for a lot of hurt in the workplace, and some not  particularly great outcomes. If you link people’s pay to metrics you get those metrics, but you don’t usually get great performance 4.

    However, thankfully this is no longer my problem :)

    Notes:

    1. Our farm isn’t on the electricity network but every so often we want to all get together and have a party so I have a music system of a couple of hundred watts  run off a 12V leisure battery. Using this saves having to wheedle a mains power feed from some local business or run a genny in a public place with all the safety issues.
    2. the dreadful distortion is because the recorder was overloaded, the Ermine delivered a better quality PA service to the crowd
    3. I have some trouble picturing Michael Gove as a tomcat, he’s a bit on a weedy side for a big old ginger tom
    4. for example, CEO pay since the 1990s, NHS waiting lists and beds, Enron, the Global Financial Crisis, the list goes on
    23 Mar 2014, 7:25pm
    personal finance:
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    25 comments

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  • calling all late 40s+ wannabe early retirees – your ship’s come in…

    Martin Lewis, he of moneysavingexpert fame, considered the pension changes “both wonderful and horrid“.  Wonderful, because you now can take it all in one go subject to normal income tax rules, without all sorts of restrictions that mean you have to drip out the money over 20 years or so. And horrid – because you now can take it all in one go, so people may blow it all on this sort of thing

    That'll be a nice Lamborghini, and to hell with the money

    That’ll be a nice Lamborghini, and to hell with the money

    as the pensions minister quipped.

    Extreme wealth warning – everything to do with pensions is hard, counterintuitive and needs careful consideration

    You’re on here because you have an interest in personal finance, right? Most people consider it dull as ditchwater – indeed I only sharpened up my act when I realised that getting my skull round this would enable me to quit an increasingly toxic workplace. Before then I was happy to rock up and work, do a reasonably interesting stuff  in return for beer and toy tokens. The Grauniad delivered this quite astonishing piece by Joanna Moorhead saying

    When it comes to pensions, choice is not necessarily desirable – especially for those of us burnt by endowment mortgages

    WTF? It is precisely because I was burnt by endowment mortgages (though reinstated) that I don’t trust insurance and life companies and was grateful that in pension provision I never had to think about them. If I had to manage a DC pot I would now be deeply grateful to Osborne for letting me escape the clutches of this dodgy bunch of charlatans.

    Of course, there are people who enjoy the personal finance sections of newspapers, and who love nothing more than poring over the small print of different finance options on offer, but I’m not one of them. I’m the woman looking for the switch for “financial autopilot”, and right now, with the changes to annuities, that looks suspiciously as though it might have disappeared from my dashboard.

    Money is crystallised power, a claim over human work. All power stores are dangerous if you don’t think about them. It’s why people don’t carry petrol around in open buckets and you learn something unique and instructive if you drop a spanner across a car battery. Endowments were the autopilot choice for a young ermine and it appears a young Joanna. The older ermine learned from that when his career flicked out of autopilot, and so should you, Ms Moorhead. ‘Cos the ground is never far away, and it has an unhealthy attraction for things above it.If you fail to plan, you plan to fail.

    Thinking is about ten times as hard with pensions than ISAs because of the decades it takes to get into them, and the hopefully over decades they will serve you. The Grauniad seems to be in jealousy mode all round at the moment, as they are bitching that you need a salary of £125,000 to make any use of the the New ISAs. FFS people – I have never, ever, earned anywhere near that much and I have zero income at the moment but I am damn well planning on using my full NISA allowance over the next few years. Dear Guardian, have you ever heard of that antiquated notion, spending less than you earn and saving money? You guys should try it sometime, instead of sipping your cappucinos and griping. No, if you spend your nice Guardian salary on consumer shit then a NISA is no use to you, but you get lots of lovely toys. Each to their own.

    small changes make big differences

    You don’t see an awful lot about pensions on PF sites because they’re hard, they are built up over secular 1 timescales in general and small changes can make mahoosive differences. Let me illustrate this with an example. In 1988 I joined The Firm’s final salary pension scheme. It had a simple proposition – every year you accumulated entitlement to 1/60th of final salary, with a normal retirement age of 60. In practice than meant if you worked for The Firm for 30 years you would get half your final salary as a pension. The Firm expected pensioners to die at 80 on average, thus paying out for 20 years. You could retire at 50, in which case they would pay out over 30 years, 10 years longer than planned so they would actuarially reduce your pension by 50% – you lose roughly 5% for every year drawn before normal retirement age (NRA) of 60.

    The Firm decided it wanted to reduce costs, so it closed this scheme to new entrants in 2001. In 2009 it decided it wanted to save even more money.  It appears UK law doesn’t permit firms to claw back pension entitlements already earned because they are part of your pay so they have to contractually honour previous years agreements. But they can change things going forward. So The Firm changed three things, and very few people spotted how much damage was done to their pensions. The Firm

    • changed the NRA from 60 to 65
    • changed the accrual from 1/60th to 1/80th
    • changed the accrual from final salary to career average (each year’s entitlement is based on the inflation adjusted salary for that year)

    Three small changes – HR obviously wept the usual crocodile tears and said it won’t make much difference for people retiring soon, and allowed people leaving up to three years from 2009 (just excluding an ermine – I was six months out of the grandfathered rights date :( ) to leave under the original terms. Now who is most interested in pensions? Old gits, who are about to leave. So HR shut them up by grandfathering them.

    Let’s take a look at what that did to me

    how the the changes affected my pension

    how the the changes affected my pension (rebased to 60 and a nominal 10k final salary)

    Now I obviously surrendered some pension accrual leaving 8 years early, but the changes made that easier to do – I was giving up less. It’s also relatively simple to see that the total change is about 25%, which coincidentally happens to be the amount I was able to save in AVCs and will take tax-free as a pension commencement lump sum and invest myself in my ISA, effectively creating a tax-free DC pension to compensate for the loss due to retiring early. I will still have less because I will draw the pension a little early, though part of the reason for writing this is that has changed with Osborne’s changes. I may defer it for another year or so and use a personal pension, because as a non-taxpayer I can get a free 20% bump up on £2880 or ~£5700 and getting a 10-20% ROI on cash is difficult to ignore in a ZIRP environment :) It isn’t a lot of money, but it’s worth thinking about.

    Now imagine a 10 year younger ermine, entering The Firm just before the portcullis closes on the final salary scheme.

    The younger ermine eats a much greater hit

    The younger ermine eats a much greater hit

    The poor bastard takes the same hit as the old Ermine, but he has to suck it up to 60 to get the same amount as the old Ermine who pulled the big red ejector handle it in his early fifties! Now the younger ermine probably takes an even greater hit because of the career average change, which reduces the base salary on which the pension is calculated. And The Firm was craftily shifting more and more pay from consolidated rises to bigger bonuses, and bonuses weren’t pensionable.

    Now the proposition of a final salary pension scheme is simple, so if small changes can make that sort of effect, the sort of thing the Chancellor has done can make even more effect on a DC pension. Let’s take a look.

    Osborne’s Budget changes

    To a first approximation, he’s lifted the restrictions on what you do with the money once you reach 55. The Government’s own summary is pretty good. People younger than  42 should beware that this age will be dragged up

    this consultation also includes a proposal to raise the age at which an individual can take their private pension savings under the tax rules from 55 to 57 in 2028, at the point that the State Pension age increases to 67.

    so if you are younger than 42 be careful. If you are much younger then expect this to be drifted up to 60. That is the evil heart of pensions – governments can change the rules after you have locked the cash away. If I personally were younger than 42 than from a purely financial POV I wouldn’t touch pensions with a bargepole, except enough to get any employer match, and perhaps to lose any 40% tax. But that’s me – YMMV. That’s not saying I wouldn’t save for retirement, but I’d use ISAs for that. However -

    There are some things only pensions can do

    1403_avoverThis judgement isn’t as simple as it seems, however, because one of the advantages of a pension is that it can’t be seized by most creditors or held against you for many benefit claims. You may be doing fine and swimmingly at the moment, but globalization and technology are shifting the balance towards capital and away from labour. Pensions help you build capital safe from the backdraft of this. If I were a younger Ermine in my 20s but with the older head of now, from what I have seen I would not expect even a good job to last for 30 never mind 40 years. The power is shifting away from workers, the pace of change is too high and increasing, and the winner-takes-all effect is too high. Tyler Cowen’s Average is Over shows the way – reveiwed in The Economist. I would place greater effort on escaping the rat-race earlier and owning capital rather than relying on my rapidly depreciating labour. The time for consumer frippery and shitloads of debt is over. I have no desire to live like a Transnational - I am not ambitious enough and probably not bright enough.

    Many people my age have been caught on the hop by this – the increasing routine and rottenness of my job, and the micromanaged incentives are the first reaches of this shift of labour to capital. When I see a business card that says ‘Consultant’ and I see grey flecks in the hair of the holder I mentally translate into ‘Unemployed’ – because so often it’s true ;) It heartens me to see that in the UK PF community there are more and more people who are looking for financial independence at much younger ages than I am. I think these are cleverer people than I was, who are picking up the straws in the wind of the incoming shitstorm for jobs. Get on the side of Capital, because Labour is losing the fight, unless you can get on the side of the 1%, and let’s face it, the odds aren’t great ;)

    Society will eventually have to shift. Look at some of the changes coming – the increase in the personal allowances, meaning an increasing number of voters will not be taxpayers. They will, of course, vote for jam today and for somebody else to pay. Look at the stats on tax income – over two thirds of the income tax take comes from people earning 32,000 and above. These are people who individually earn more than the median net household income for families with dependent children 2 in the UK

    Pensions can help you with this, basically by locking up money against the incoming shitstorm and throwing the key out to your future self many years in the future. You can hitch a ride for your future self  on the side of Capital (if you use equities rather than cash) that, in current legislation, can’t be taken away from you 3 and it doesn’t impair your ability to claim benefits 4. Whether that is attractive to you depends on your view of the world and where it’s going, and to some extent your rate of discount of jam tomorrow compared to jam today.

    So what did Osborne change?

    There’s a common belief that you had to purchase an annuity with a define contribution pension but that was never true until you reached 75. Those with £20,000 of guaranteed pension income could take any amount of their money subject to tax and those with less than that amount of guaranteed income could draw down their money at a rate determined by annuity rates in capped drawdown. What he’s essentially changed is that anyone over 55 can take as much of their pension capital as cash, subject to normal income tax as opposed to the punitive 55% rate it used to be. But if you are taking £150,000 from your pension for that Lamborghini then you’re paying 45% tax on all of it, bud, so you better strike a deal for no more than £82,500. Previously it would have been 55% taxed, so you’ve have got 67,500. Put that way it isn’t such a stupendous change for high-rollers, though £15k probably gets you the walnut trim or the gold-plated gearshift knob.

    The rate you get for an annuity rises as you get older – annuity rates for people at 75 are much better than for those at 60 or 65 because they’ll be paid for less time. There is much to be said for starting off in drawdown and switching to an annuity later on. Most people haven’t saved enough into a DC pension, and this gives you a better chance of a decent lifestyle even now – the annuity is not dead at all. Once the annuity return beats out the return you get on equity investment it makes sense to switch 5.

    People hate annuities because they can’t leave them to their kids among other reasons…

    But you don’t get to leave it to your kids. What seems to be behind a lot of the rumbling about annuities is that they die with you (they can look after a partner at some cost but that’s it). So the children get n’owt. Now the whole issue of capital and inheritance needs sorting out by some future British government, and it won’t be pretty. I’m personally of the opinion that inheritance is an abomination in a notionally democratic and meritocratic society. It harks back to older societies where capital accumulated very slowly so it was the only way to build a business – over generations, and it all smacks of the privilege of kings and nobles. There were no startups before fossil fuels. It may be the most natural thing in the world for parents to want to favour their children, but IMO a 100% inheritance tax where the entire estate escheats would be an incentive for those parents to sort their shit out while they are alive, and it would go some way to not embedding privilege. But I can say that because I am child-free, if that weren’t the case I would probably line up right behind the old buffers of the Torygraph who think that inheritance tax is a terrible thing, because having children does that to you ;) Somehow society needs to sort this out in a world where it is increasingly difficult to make your fortune in a working life, because increasing inequality lets the 1% bid up the price of essentials like housing. God knows what the right answer to that looks like, but it doesn’t seem to me to be the direction we are going. History shows that aristocracy does work, but needs a lot of serfs…

    It’s important to note that one of the reasons annuities looked such horrible value in the last five years is that the Government’s policy of printing money and keeping low interest rates meant annuity providers couldn’t offer decent rates – the underlying gilts just didn’t give people the returns they wanted at 55 or 60. Osborne’s been a good guy in not forcing you to take an annuity, though remember you didn’t have to do that anyway. But he hasn’t improved your ability to get a low-risk income at a price you want to pay. You can stay in equities, as you always could with drawdown. But you are still SOL if you want to avoid the volatility of equities. You are going to run out of money if you didn’t like the annuity rates on offer when you retired and you can’t stomach the rollercoaster of the stock market. There ain’t anything better on offer at the moment 6 – as a cautious saver you have to do Your Bit to pay off the National Debt.

    NASA tells us we are doomed

    There’s a NASA report that paints a bigger picture, basically they are of the view we are Doomed

    …. appears to be on a sustainable path for quite a long time, but even using an optimal depletion rate and starting with a very small number of Elites, the Elites eventually consume too much, resulting in a famine among Commoners that eventually causes the collapse of society. It is important to note that this Type-L collapse is due to an inequality-induced famine that causes a loss of workers, rather than a collapse of Nature

    The bit they seem to be missing is that the Elites are busy eliminating the need for a lot of the workers… The Ermine is not an optimist by nature, but I have learned that the bear case always sounds smarter. This is because things go titsup in a big way, and they can be imagined – at the moment it’s robots and globalisation stealing out jobs, climate change, it’s easy to picture them. What is harder to see is that people chisel away continually at improving the upside. 99% of them fail, but the incremental up-shifts add up, but they fly below the radar because they individually don’t look that much. Who would have guessed that improved computer networking would spawn whole new industries like web designers and security experts and MOOCs and improved living standards for what we used to call the third world by letting them work for us 7, and high-frequency trading etc? After all, we had networking before – I recall Novell Netware, where the piss-taking bastards at Novell would charge you a licence per connection 8, and added a piece of code to explicitly kick people off if more people connected to a server. Then TCP-IP came along, eliminated such monopolistic gouging and ate their lunch. Then in ’94 Berners-Lee developed the WWW and here we all are. None of those developments looked earth-shattering at the time.

    At the moment the Chinese are working on thorium nuclear reactors that address many of the the hazards associated with nuclear power, though they will no doubt have problems of their own.It may or may not go somewhere, but if it does, then it will be a win for energy and for knocking back global warming, simply by taking out a lot of China’s coal-fired power generation. In general, positive change comes in small chunks that steadily mesh together and add up, whereas things that go wrong come in great big unexpected lumps that generally give us the feeling of OMG we’re all going to DIE. And the atavistic caveman in us looks at the great big shadows of our fears cast against the wall and it makes better copy. Bad news sells, and nobody’s managed to ever sell a good-newspaper yet.

    Pensions get a lot more interesting when you get past 45

    One of the primary risks younger people face in using pensions is that they’re saving a lot of wealth is a locked-up place that Governments can easily target, since Government sets the rules. A future Labour government could go back to annuities – I’m not saying they have thought of it, but them might. There is a general downdrift of the amount you can contribute to a pension (£40k if you earn more than that) and there is also a general downdrift of the total amount you can save in a pension and get tax relief, the Lifetime Amount which is currently £1.25 million. That sounds a lot, and I, for instance have nowhere near that much but for someone in their 30s now it’s not unreasonable to aim for, because the value of money roughly halves every 15 years. In thirty years’ time that would be worth about £312500, at a 5% withdrawal rate that would be a pension of £15625 p.a.

    You can see the direction of travel of pension allowances at HMRC, and it’s not positive. A whole lot of these problems go away as you get closer to drawing the pension, because, recognising that people can’t take money out of a pension to conform to changing legislation, they often let you protect your savings against changes. The quid pro quo for that is that you stop saving into a pension. Totally and for the rest of your life. That’s not so bad if you are in your late 40s or fifties and drawing at 55, after all HMRC indicate you are limited to a pension of about 56k at 65 so you are hardly on the breadline, you just have to stop paying into your pension for a few years, pay a bit more tax and use ISAs but if you are a young buck at the top of some financial institution, Doing God’s work, say, then your dreams of retiring to round the world yachting and golfing will need you to find some other way of saving for retirement. If you are that rich you’re not reading this, and anyway, you can afford to pay for the relevant financial advice on what to do.

    taxpaying wannabe early retiree old gits, your boat’s come in

    If you are a taxpaying old git, however, you are all of a sudden much better off, particularly if you have savings or are prepared to borrow money. Drive your salary down to the personal allowance by putting everything above that into a personal pension. Do that for a couple of years, and then when you stop work extract this money but leave your main pension deferred (ie still in accumulate mode) – the first £13k a year is tax-free 9. Obviously you need a big spreadsheet and do a lot of what-iffery to play off any loan/mortgage not paid off against the tax bung, and it only works if you can slow your rate of withdrawal to less than the personal allowance. There’s no point in saving 20% tax to pay it again later.

    ageing 40% taxpayers and child benefistas – this one’s for you

    However, if you are a 40 or 45% taxpayer than you can make out like bandits  – squeeze yourself down to the 40% tax threshold and accept you pay 20% tax on the way out. It’s free money :) Well, it isn’t, it’s a way to stop the Government stealing your money, and I wish I’d had this available to me. Fill your boots, and if you are a child benefista than you can go get that too. It’s welfare for the better off…

    one of the obvious things for a non-taxpaying old git to do

    Is save £2880 into a personal pension, saved as cash. In a curious fit of minor generosity, HMRC then up this to £3600. In my book that’s a profit of 25%. Do a couple or three of years of that and you end up with a profit of about 10%, because inflation will knock off about 5% of the return. And my DB pension gets 5% bigger because I draw it less early. I initially started looking at this to see if I should do some of that this tax year, but there isn’t enough time to see what exit charges are like – all the pension providers’ websites seem to be based on annuities and the like. So I will forego my free bung of £720 for this year from HMRC because a few days isn’t long enough to get this right.

    I researched pension costs at Cavendish Online which seemed to be an often suggested good value broker on MSE. For a simple and quick in-out you will probably favour a stakeholder rather than a personal pension, because costs appear to be lower, and non-taxpayers are going to be playing with £3600 a year at most. A personal pension gives you some more flexibility of investment choices, and a SIPP is the most flexible. You pay more charges are you go up the hierarchy. What I couldn’t determine was the exit charges.

    There is still a while till I get to 55. After than an immediately vesting pension plan (IVPP) seems explicitly designed for non-taxpayers, and hopefully by then these will return 75% of the capital as cash, rather than as an annuity. To be honest I would expect some future Chancellor to block that particular loophole. Unless they take pity on all us impoverished non-earners on the assumption that we are all poor, rather than enterprising – once I discovered how much income was taxed turning it into wealth before it got stolen became a priority.

    I don’t have enough expertise to know much about the issues for younger folk – the big risks of Government fiddling are high, but on the other hand the protection from creditors is a great plus point. Shit happens in a working life – the big ones of Redundancy, Divorce, Disease are always with us. Death hopefully less so – one of the reasons the retirement age is drifting up is because you young’uns will live 10 years longer than me, and probably in better health.

    These pension changes are particularly transformational to wannabe early retirees – ie those who want to retire in their mid-fifties rather than at 60 or 65, and particularly those who are paying 40% tax. If this includes you, you would do well to try and look at these changes from every angle to see how they could help you reduce your tax bill or delay the point at which you take you main DC pension. I haven’t had time to give this enough thought. Unlike Joanna Moorhead, I’m prepared to put some thought into how to make this work for me.

    What about those Lamborghinis and BTL sky-rocketing house prices then?

    There are two dark fears raised. One is that people will blow their money on frippery, and the other is that people will charge into BTL and jack up the price of houses again.

    Lamborghinis, cruises, consumerism gone wild

    Guess it’ll help the economy in the short-term ;). I’ve always been puzzled by how people go mad when they retire normally (60/65) and spend on a big blowout holiday. Your capital is at its highest potential at the point of retirement, a lot is going to change and you don’t know how it will feel to live off capital. That 25% PCLS is part of your overall wealth – it isn’t ringfenced for stupid spending. It’s a very, very different feeling to living off income. Blowing a lot of it at that point always struck me as a really strange thing to do – if you wait a year then you will have chilled, plus you’ll actually know whether you really want to spend a lot of money on the extravagant dreams of a cubicle slave thinking ‘Anything but this’. Booking the cruise while you’re still working seems odd. But I am different from other people. According to the BBC it appears not to be too bad a problem in Australia where they have this sort of thing already

    Hordes of greying BTL investors jacking up house prices.

    The average DC pension amount at the moment is £17,700 and about 320,000 people a year currently start drawing DC pensions. It’s probably not enough to seriously shift the needle on the dial, compared to daftness like Help To Buy

    Final wealth warning

    I’m not a pensions expert, and indeed had to research all this about DC pensions since the Budget because there seemed to be an opportunity. I can afford to screw up there, because this is only a small piece of my retirement planning to try and bag some free money. This post is tossing out some ides. Some may turn out to be hogwash. For God’s sake take advice if changing anything about pensions, or very, very seriously DYOR. After all, I bottled on £500 of potentially free money because I came to the conclusion I don’t understand the opportunities yet. That’s okay. It’s hardly a life-changing sum and it’s better to get it right that save £500 and pay £600 in charges! Be careful out there.  I am sure that somewhere in this septic isle there is a bunch of ne’erdowells crafting a website with a dodgy proposition to separate these newly freed pension amounts from their rightful owners…

    Notes:

    1. in finance secular means over periods longer than the typical boom/bust business cycle of about five to ten years
    2. ONS Statistics on the average family income, UK
    3. Divorce is one exception to this
    4. I believe this was not necessarily the case for Universal Credit. However, it looks like Hell will freeze over and the devil will learn to dance before Universal Credit is launched, so I’d lump that in with the general uncharaterised risk of Government Fiddling
    5. as is usual with pensions there is a whole shedload of issues that complicate this in favour of annuitising earlier, in particular your attitude to risk and your health
    6. You need to learn or take advice about getting the mix of asset classes right because the volatility of a 100% equity allocation is probably bad for the old ticker of a retiree :) Although mathematically it gives you the best chance giving some of that up with a stocks:bond mix for a smoother ride is probably called for.
    7. that’s hellaciously First-World centric, and it’s transiting to we will all work for our Transnational Corporate Overlords, since the erstwhile Third World is busy taking the fruits of their labour and turning into Big Capital. The First World’s first-out-the-gate advantage is being competitively thinned out.
    8. or you could be fleeced per server. Either way they had you by the short and curlies and needed to be destroyed by the Invisible Hand
    9. That’s £10,000 personal allowance plus ~£3k tax-free PCLS
    19 Mar 2014, 2:38pm
    personal finance:
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  • why is the ISA season now, and what’s with the new 15k limit then?

    Hooray for an increased ISA allowance of £15,000. Now to be honest, through most of my working life, saving that sort of cash each year wasn’t really on the cards – more pressing forms of savings, in terms of paying off the mortgage, and in later years pension AVCs came to the fore. However, I have to do something with my AVC fund when I get a hold of it, and a few years of £15k allowance gets the job done a little faster. I’m kinda puzzled by the July start – does that mean I have to avoid contributing in April, but I’m sure that’ll get clearer in due course. The increased personal allowance is always welcome.

    And it seems that the artificial division ‘twixt cash and share ISAs will be abolished. Which is great – after all I want to hold a single ISA without buggering about shifting my old Cash ISA into my Shares ISA. The cash ISA is only a small rump from back in the day when I was trying to hedge against being ejected from The Firm in short order.  I’ve thought often enough about combining it into by Shares ISA, since I can’t get excited about 1% interest in a 3% inflation world, but an early retiree has to carry a large cash float. Plus there are reasons to worry about holding a lot of cash with a S&S nominee provider.

    Why do people use ISAs in such an odd way?

    Go on. Try getting one of these in London, or anywhere else, for less than £1. It was easy 30 years ago. That's how well cash holds its value!

    Go on. Try getting one of these in London, or anywhere else, for less than £1. It was easy 30 years ago. That’s how well cash holds its value!

    Four out of five ISA savers use only cash accounts. WTF is up with that? Cash is the most tedious, evil asset class, with its mendacious promise that it’ll never go down. Well, duh, yes, the number at the end doesn’t go down, but the real value decays like fresh fish. Cash dies at about 4% a year, presumably because they print that much more than the increase in goods and services that the cash is chasing. Particularly in troubled times like the seven lean years we’ve gone through.  They added insult to injury by devaluing the currency making everythign foreign dearer – from shares to iPads, though this seems to be starting to recover of late. In short, as a long-term asset class, cash stinks IMO. As an example of just how much, when I started work you could get a pint of beer in London for less than a pound. You try doing that now. As a rough rule of thumb, the value of cash halves every ten to fifteen years. This is not an asset class you can trust. The shocking volatility of stocks makes them look less trustworthy, but in the long run (>5-10 year mark) they tend to drift up in real terms, if you include dividend income. Whereas I have never known a ten year period where the value of £100 at the end has been anywhere near as much as it was at the start. The interest you’re paid on cash is an attempt to make you feel better about that bad behaviour – and then they bloody well tax you on the compensation for the loss of value due to Government behaviour, just because they can. All a cash ISA does is stop the tax bit, but time and time again I hear people say they prefer cash ISAs because they are risk-averse. Bollocks. It’s just a different kind of risk, a disguised one when the number at the bottom doesn’t fall by the value of each unit does. That’s still risk in my book, and a dishonest underhand one at that.

    Savers will be able to shield almost three times as much money from tax without taking the risk of buying shares

    Torygraph.

    Nary a whisper about the risk of it almost guaranteed to be worth less as time goes by unless interest rates exceed inflation, been a long while, that… My pension AVCs, held in cash since I left work, will have decayed in real value by 10%. Now I can’t honestly ask for people to play the violins in the background because I saved 42% tax on that and got a 20% bung from buying in a mix of FTSE100:global stocks in ’09 while the pound was being devalued by 25%, so the ermine is okay with leaving 10%+ on the table. But I do that because I have to, it’s definitely a bad idea to hold that much in cash, so exactly why 80% of ISA savers  electively hold such a rotten depreciating asset beats the hell out of me. The one thing cash gives you is optionality, but in return for the favour it leaks through your fingers over the years. I have never, ever, known any way of saving cash 1 where I could even match inflation, with the one exception of my NS&I Index-linked savings certificates, which I loaded up on just before they withdrew the blighters.

    The other area where it seems my fellow-citizens are mad is what the hell is with this Torschlusspanik about ISAs now? You’ve had eleven flippin’ months to use your ISA allowance! For starters if you are saving cash from earnings, why save it elsewhere and then into an ISA in the last three weeks, though retaining optionality and the fact you can get a better interest rate outside an ISA has something to be said for it. But for an S&S ISA? Okay, so I stiffed myself this year and last by filling up the ISA early in the year so I had to sell some of The Firm to make space for opportunities as they came up – Direct Line last year and Royal Mail this year, so you want to pace yourself. Steady as she goes monthly S&S ISA saving as you earn the money is a match made in heaven for dollar-cost-averaging – particularly if you are investing in something that’s going down the toilet. Emerging markets spring to mind at the moment :) Contrary to popular belief buying when things look bad is often good for your wealth, provided you have the required intestinal fortitude,  here, here, and here :)

    So, ISA savers of Britain, when you get your grubby mitts on the new 15k allowance, it’s time to slap yourselves around the collective chops with a wet fish, and ask yourselves some searching questions, like

    • why are y’all 2 saving cash, in a ZIRP environment?
    • why do you leave it to the last minute? Why isn’t the ISA season in April, when you have a year ahead of you and can take advantage of saving the money as you earn it 3,  rather than March? Particularly the 20% that use S&S ISAs – you might as well get, your money working for you six months earlier on average.

    There’s n’owt as queer as folk, eh? Are we all such well-trained little consumers that we are suckers for the ‘closing down sale – everything must go‘ pitch rather than actually working out what we want an ISA to do for us? Let’s get our money put to work and gainfully employed sooner rather than later ;)

    Notes:

    1. a historical exception was in the good old days when you could borrow money from a credit card at 0% without any fees, but then any interest you can get on somebody else’s money is a good rate :)
    2. okay, four fifths of you all
    3. obviously if you earn £200k+ you can load up your ISA in the first month, but most of us struggle to fill an ISA in a year :) Steady as she goes seems to obvious way to go in that case
    6 Mar 2014, 4:31pm
    reflections Suffolk:
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  • Capitalism, crowdfunding and gadgetry

    Capitalism brings up thoughts of great big phallic buildings, a concrete forest of tall buildings thrusting towards the light to eclipse the others in a Darwinean struggle for urban domination. Loads of folks in sharp suits talking important stuff into mobile phones.

    God v Mammon contest - Mammon has the edge when it comes to size...

    God v Mammon contest – Mammon has the edge when it comes to size…

    That gherkin in particular dominates the skyline, it’s not just the sheer size of it, but the symbolism is all Wolf of Wall Street

    more tall buildings

    more tall buildings in the Wolf of Wall St

    A couple of finance guys from the Square Mile party.

    Couple of guys from a Square Mile press release

    Couple of guys from a Square Mile press release

    Seems to be a lot of guys, FinanceRomance sheds a bit of light on some of the issues. Maybe all this testosterone is why the buildings have a certain profile ;)

    still there, rising...

    still there, rising…

    And that’s all good. Finance is something that Britain happens to be good at 1, or perhaps I should say the future city-state of London is good at. Must unearth my birth certificate and apply for dual nationality when it secedes, and hope citizenship is jus soli. We’re good at it, and we have scale, but let’s face it, share-owning capitalism isn’t that widespread in Britain, because, er, you need capital to make it work for you. And you still need to be a pretty big fish to list on the LSE.

    Gonzo capitalism – no tall buildings and yachts needed

    However, there seems to be a curious form of capitalism rising, called crowdfunding. I’d already come across this phenomenon in the electronics small biz area. Getting a small run of electronic items made is dear, because you have fixed non-recoverable engineering costs for making masks for the printed circuit boards and assembly. These are sunk costs before you even start the project, they aren’t dependent on how many items you make. I’d used radio modules from Ciseco and they used kickstarter for one of their projects.

    Crowdfunding gets a bunch of ordinary people together to put up some of the money in small bite-sized chunks. It’s gonzo capitalism – or alternatively capitalism going back to its roots. The Stock Exchange originally started a few hundred years ago with a bunch of people coming together to share risk-funding of projects that were too big for any one individual to take on. I like the story that they got ejected from the original place for being too rowdy – looks like the high jinks that seem to go with the territory nowadays started a long time ago!

    Crowdfunding the Calf at Foot Dairy’s move

    The Ermine came across this again because I got to dig out my old MiniDV video camera a couple of days ago. This is seriously ancient, steam-driven technology from about ten years ago, and it was pressed into service to shoot a crowdfunding video for the Calf at Foot dairy, which has been given short notice to quit the place they’ve been for the last year and a half.


    It’s been an awfully long time since I worked at the BBC and saw how people pulled a programme together, and I was an engineer, not a creative sort. It’s no easy task to try and tell a story using video – you’re always fighting the tendency to run too much material and overrun. Plus the Ermine no longer has a working TV in the house, and much has changed in the 10 years since I last worked with video – HD has arrived, and computers and progressive scan seem to have muddied the waters. Culturally, it appears that attention spans are much shorter. Obviously what I needed was new video camera, but what the hell, I will see if I can tell the story with the junk that I had.

    Because in the end the story is one bunch of humans relating a tale to another bunch. The technology is part of it, and it would be a lot better with a HD camera. But there are some universals to video – hold the camera steady,  preferably with a tripod, don’t hosepipe , do not zoom on-screen. The elements of story-telling haven’t changed much from the original three act drama told around prehistoric campfires.

    A lot of the challenge here wasn’t technical. I grew up in a city, FFS. I am really, really scared of cows, indeed any animal bigger than myself. And cows are HUGE…

    Cows. They're big. And they're scary - could just crush you by sitting on you

    Cows. They’re big. And they’re coming to  get me!

    Crowdfunding seems to take two forms. The sort that the Calf at Foot use, and the sort used by Ciseco to get enough interest to do a prototype run is in fact fundraising to do a specific job or project. It’s the kind of co-operation that previous generations used for a barn-raising – everyone chips in a little to help get something to happen. In some ways it’s closer to a retail bond, but with the coupon paid in kind. These are relatively easy to qualify and secure against the natural fears of fraud because of the transparency. With Ciseco, if they achieved their target, you get a circuit board or kit, if not you get your money back. With Fiona’s dairy move, you get to see that the cows are up near Lowestoft rather than out near Hollesley – in this case it’s a straightforward support of the specific project, rather than a purchase as such.

    However, there is an equity form of crowdfunding that is in its infancy, that is closer to shares. There are strict conditions around both forms, but particularly the equity variant. After all, what do you get as an equity shareholder? You get a share in the company, and sometimes a share in the earnings of the company. Many of the equity crowdfunding projects are hard to measure value, and they are startups, so they are unable to produce money that the shareholders can take out of the company as income, just as in general you don’t go to the AIM looking for dividend stocks. Of course, this applies to stocks and shares too, but it’s particularly hard to qualify risk and do all the due diligence associated with qualifying counterparty risk. After all, over half of startups fail within the first three years. The FCA seems to require investors declare they don’t have more than 10% of their free capital 2 in equity crowdfunding.

    Nevertheless, it is heartening to see that there are attempts being made to democratise capitalism, that it isn’t all about massive buildings, that people are looking for ways to increase access to small scale funding. It’s to the stock and bond markets like Zopa is to the banking and savings market. And it’s where some of these large institutions had their roots. After all, building societies got their name because in more cash-straitened times, people banded together to raise the capital to build houses. The crowdfunding website Abundance Generation draws out this parallel in their blog. One of the things the original building societies got wrong is the concept of one member one vote (OMOV), which gave rise to carpetbaggers taking out a lot of accounts with the minimum amount of £1 or so. They then used their OMOV votes to force a demutualisation and get a hold of the fossil wealth accumulated by the building society. The moral of the story is allocate voting rights by invested capital, but the problems weren’t obvious in the 1700s. I don’t know how equity crowdfunding works, but if you see OMOV as an investor avoid. Or open lots of accounts funded with the minimum amount for lots of voting rights ;) OMOV is one of the problems with consensus decision making. It hamstrings it – in the end people who put more in should have more say, to build an effective system. Dunno where this goes with democracy, perhaps we have to live with the Churchillian democracy is the worst form of government except all those other forms that have been tried from time to time.

    One of the pluses of being in charge of my own time – I can say Hell Yeah if I want to

    I don’t know if this is the way of the future, or it is an evolutionary dead-end of the tree of capitalism. But it was an interesting diversion. And it’s one of the things that is a joy of being retired. It didn’t cost me anything apart from a couple of late nights to start with nothing and end up with something that might help someone take their cows to pastures new. An Ermine is capricious. If something tickles my fancy, I’ll have a go. If it doesn’t, I’ll pass. I enjoyed the challenge of trying to make a coherent story out of this. Of course the result could have been better if it were made by some indy video house somewhere. It would be better if I used a modern video camera, it would be better if I’d had more time and less coffee. But it’s probably good enough, and I learned about crowdfunding, something I had no idea about. I don’t personally have any application for it, but I have to say, looking at the projects on crowdfunder and kickstarter, that there are a lot of small enterprises that are in the extreme bootstrapping phase.

    Although I worked for a year in a 10-man SME firm at the start of my working life I didn’t realise it was so hard out there for entrepreneurs. I also ran a multimedia firm on the side for a few years, but that was purely selling the products of mind – I took on commissions but didn’t have the cashflow issues that are associated with doing real stuff, where you have to buy the supplies and services  to make the product. I have a renewed admiration for the grit of Britain’s SMEs!

    It isn’t all about your camera

    Oh yes, and one in the eye for consumerism. A lot of consumer goods like cameras and the like are sold with the promise that this gizmo, feature or gimcrack will make you creative. And I’m sort of susceptible to some of the siren song. But I don’t need the latest, I probably do want to upgrade to HD if I do more video, but ebay will probably be my friend – you can get now for about £150 what you’d have to pay £500 before. But what I do need is the ability to set the exposure to manual. And a camcorder sound is junk – I shoot separate sound with an audio recorder and separate furry microphone and resynchronise in post, so all I need of the camera is some sound to sync to. Eliminating any quality cares there saves me a load of cash.

    I did experiment with an iPod, my stills cam and with the last gadget I bought before I went into save for retirement mode, a Flip cam. All of those are great for shooting first-person simple stuff, and facebook here’s my mates mucking about in a bar, but they just don’t let you shift perspective. All of them can give a better rendition in that first-person up to 10 yards away scenarios that my 10-year old camcorder – two of them can even do HD. But I realised why they make me angry when trying to do anything else – the auto gain kills anything in the shadows and the lack of zoom is a massive handicap. A truly talented artist would probably be able to work within those limitations, but it would take them time. I ain’t got that sort of talent. But I’m not so gormless that I need face-tracking.

    So I learned something and had some fun. I saw a new form of capitalism in the making. And the cows didn’t crush me!

    Notes:

    1. yes, we did have a major snafu a few years back, but it seems we sort of survived that, and animal spirits seem to be back
    2. free capital excludes property and pensions. I am pleased to see that the FCA has adopted the Ermine’s policy – your house is not part of your financial capital assets. It’s official, and you read it here first :)
    2 Mar 2014, 4:15pm
    economy personal finance
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  • Doom and Death Spiral Deliberations

    I used that title a while back, in that curious Summer of Rage in 2011 when the stock market was taking a hammering and the yoof were rioting on the streets of London for the right to the correct sort of trainers and bigger flat panel TVs. Feels odd to exhume the title for a time when stock market valuations are running high and animal spirits seem to be on a bender of irrational exuberance. We’re three years on from then. People are being boring in pubs about house prices, though we don’t so far have much retail buzz about the stock market. Presumably because Joe Public is taking such a pasting in the cost of living crisis, and even the relatively well-heeled Lucy Mangans of this world grizzle about downward mobility.

    The engine of consumer spending is spluttering and dying

    I enjoyed Lucy’s piece for it’s internal contradictions. F’rinstance

    Our lives may be becoming more precarious than our parents’ or grandparents’ but we have tasted the good life and we want to keep it for ourselves and our children. And we still have the time and energy left for a fight. We may even discover in ourselves a greater empathy for the poor and the beginning of an understanding that impoverishment is not always the choice or result of personal bad decisions we vaguely – and our politicians fervidly – believe it is.

    Lucy Mangan – downward mobility

    Lucy Mangan of the Torygraph. "Going down" as the operator used to say in the Harrods lifts when I lived near there (in a crummy student dive)

    Lucy Mangan of the Torygraph. “Going down” as the operator used to say in the Harrods lifts when I lived near there in a crummy student dive.

    I’d agree with Lucy’s assessment that the ‘middle classes (as defined by the torygraph)’ lives are becoming more precarious. But a lot of that is due to taking on stupid and mahoosive levels of debt – the travails of Shona Sibary with the ridiculous flipping of houses to extract home equity in times of plenty has something to do with it, along with the general living larger than life on somebody else’s dime. There is a shift of power going on from labour to capital, and some of that debt is going in keeping up the pretension of being richer than they really are. That sort of impoverishment is the result of bad personal decisions and her parents and grandparents wouldn’t have tolerated it – or even found it possible in a time of credit controls.If you want to be middle class, you need to have middle class values, and living within your means used to go with the territory of being middle class.

    I don’t have as much income as I did when working. I could borrow money on credit cards to do the stuff I spent money on while I was working. But guess what – I try and live within my means, and that means doing things cheaper or doing without. The whole credit card thing would be a seriously bad personal decision. It doesn’t mean don’t use credit cards – but it does mean pay the blighters off in full each month. Just like the middle classes used to do in the late 1970s!

    I was tickled by

    We need to use our remaining capital – both social and financial – to demand change from governments, to avoid tax-evading and semi-monopolistic companies and shop at smaller, more local shops who still use humans rather than automata, and to set up local educational and financial institutions that better suit our needs. Set up a new game, with new rules. But in the meantime, while we work out what they are and where best to place our pieces, I shall be shopping at my local Lidl rather than at Waitrose,

    That’s the trouble with the middle class these days, they have no values. Lucy moved within two sentences from realising that the social contract includes using smaller shops that employ her neighbours to shopping at Lidl, which saves her money but doesn’t even share the profits with some faceless shareholders never mind some of the employees :) You really ought to at least finish the paragraph before you undiscover “one for all, and all for one”.

    The middle class are hosed. It take unique and rare skills to pull out of a vicious circle, and to do it, the middle classes will have to jettison a lot of things that are dear to them. I just don’t think they have the integrity and moral fibre to take the hit – after all Lucy’s moved from corner shops to Aldi without realising the irony. With consistenty and integrity like that you don’t deserve to win. The problem in the future will not be keeping up with the Joneses, Lucy. It is going to be keeping out of debt slavery. Know your enemy….

    Values matter

    I’m personally of the view that having values matters a lot more in personal finance than absolute income. I’d say this is behind a lot of the struggle the middle classes are having – they have embraced consumerism and lost their way a bit. Middle class people were much poorer overall in the London I grew up in than they are now, but they seemed to have a stronger set of values, in particular debt other than mortgage debt was frowned on. Credit cards had an uphill struggle when first launched in Britain and had to emphasise the flexibility of rolling a  month’s worth of payments into one payment in those days of handwritten cheques. Hence  “Access your flexible friend helping out Money” rather than the way they advertise now, which is full of offers to buy now  pay nothing for a year etc. The rot soon set in with “Access takes the waiting out of wanting” – fast forward thirty years of this and we have Lucy Mangan grousing about downwards mobility. Once upon a time the middle classes knew that you only borrow money  to purchase assets or increased productive equipment and not for consumer spending, but it’s been a long, long time since that attitude prevailed.

    The Ermine is fearful

    I was looking at my TD account, which currently looks great, and spent a little bit of time trying to imagine the sea of red and the bottom line about half of where it stands today, and really picture what that looks like. You need to do that every so often to remember that a lot of the value in a portfolio is illusory. Over the long term it does tend to reflect the value that the asset is creating, but over the short term it reflects fickle human opinion. As the GDP chart shows, there’s no earthly good reason why valuations should be so high now. Granted, there was no good reason they were as low as they were in 2009 so only about half the difference is probably real, which is lucky – I thought I was doing okay before 2013 and didn’t buy anything new of note that year.

    Of note is that the yield from the HYP will probably rise 1 – dividend payments tend to fall less than the market value. Now being mindful that the bearish argument always sounds smarter I came across an interesting chart of GDP growth over time – hat tip to Flip Chart Fairy Tales

    GDP growth

    GDP growth

    So you then take a look the recent US and UK stock market performance

    Vanguard US and UK, rebased to GBP

    Vanguard US and UK, rebased to GBP. Obviously the timescale is only the very end of the GDP one.

    And you go obviously, ho-hum, the rise of the stock market is obviously a leading indicator of…the pole-axeing of GDP? Clearly the good people driving the price up 2 are smoking something powerful. The usual explanation is the shocking devaluation of the currency and everybody running to equities because all the QE, money-printing, what have you is debasing the value of money to inflate away the debt so people are trying to buy anything halfway real to dodge that.

    It’s hard to know what to do with this sort of doom and death spiral deliberations. The correct response to the last one was to go out and buy with both hands. The correct response to this one is to try and get used to what that 50% suckout looks like. And then go and buy – but what? I am looking a diversifying away from the dev world and that seems a reasonable way to get a long term edge from this current point. The dev world has served me well so far, but the imbalance stinks. Fortunately now isn’t a bad time to buy some geographical diversity, with the pound being less of a basket-case and creeping up. But stock markets are more correlated than ever nowadays, a bear market in the dev world is a bear market in AsiaPac. Something (globalisation?) seems to be phase-locking markets world-wide, giving a we’re all in it together aspect. There’s obviously the barbarous relic, gold, it may make sense to aim for a longer-term holding of about 5%, but its shocking medium-term volatility makes it a tough call. It’s not a bad time to buy, nowadays. RIT is the man to go to for a level-headed assessment of the details and how to do it. Unlike RIT I’ll wing it tax-unwrapped, since gold doesn’t pay an income :) Its role is a swing producer of ISA funding should the doom and death spiral come to pass.

    1403_shark-fin

     Nathan’s right. There be fins in the water IMO.

     

    Notes:

    1. the yield will rise because the stock prices tank – I’m not saying the dividends will rise
    2. yes, I know, that’s you and me, though in my defence I don’t expect it to be up here, certainly don’t want to buy at this price and couldn’t find anything worth buying last ISA year