How to Use Sharesave Save As You Earn schemes

For this to be any use to you you need to be a worker drone in a company that is listed on the London Stock Exchange, and has a save as you earn scheme. In practice I think that means it’s probably  a FTSE100 firm.

The idea of sharesave is to encourage employees to take a share in the company, all considered A Good Thing. They’ve been running for years, I recall my Dad doing these. If your company offers one, they are a no brainer, do it, do it now, and do it to the max (£250 per month), as long as you don’t go into debt and have cleared your consumer debts other than mortgage. Once you have five year’s worth of contributions, you get that one way bet at no extra cost. It’s rude not to take part in an offer like that ;)

Caveat employer… don’t hold shares in your employer longer than you need to

You should generally avoid holding shares in your employer other than as part of sharesave or share incentive plan (another wheeze like SAYE, without the one way bet but with big tax advantages). That is because if your employer falls on hard times not only do your savings take a hit due to the share price bombing, but you are more likely to lose your job. The only exception I can think of is if you believe your employer is likely to be bought by another company, which is usually terrible news for employees but can be associated with a share price hike. It’s still a long shot and there are better ways of preparing for redundancy…

For a similar angle but from a bunch with more financial clout than me, see the FT on will you buy into the John Lewis economy on the hazards of over-exposure to your employer. Think Northern Rock when you fancy holding onto shares in your employer longer than you have to…

What’s so good about sharesave?

The reason sharesave is a no brainer is that it makes you the kind of offer you will never get anywhere else, a one-way bet on shares. The worst you can do is simply end up saving cash for three or five years.

What happens is in any year you are offered the option to buy shares in three or five years time at a price fixed at near what it is now. You start a monthly savings plan for up to £250 p.c.m. post-tax allocated in any proportion to the three and five year schemes. In five years time if the share price is higher than the option you exercise the option and then sell the shares immediately, pocketing the difference. Obviously if it’s lower you don’t exercise the option, and say I’ll have my cash back thank you very much, with some interest added usually. In a slightly depressing observation on the financial acumen of some of my workmates, I’ve known some people exercise the option when it isn’t in the money, and that’s even after the firm has added a letter to the maturity note saying you should note you can buy the shares cheaper on the open market. There’s no helping some people ;)

In the past it was easier because you were able to drop schemes where the option price was higher than the latest offering, but HMRC has stopped that wheeze, (No, they didn’t, just some accounting changes made it so letting employees do that cost the company. See this comment for details. If your company still allows you to drop a scheme and reallaocate the savings allocation to fresh schemes, then you want to read How to Use Sharesave Redux) so though you can drop a scheme you aren’t allowed to allocate that monthly allowance to later schemes until the original term is up. This means you need to think first before acting, to avoid stiffing yourself further down the line.

How to play sharesave to best advantage

First you need to ask yourself realistically how long you expect to be working for this firm. If it’s only for five years then buy the three year scheme for two successive years, £125 a month in year 1 and the same amount in year two (i.e. £250 in total in year two and three, then £125 in year four). However if you are looking at working there longer, then you need a plan.

Diversification is still your friend with sharesave, even though you are only dealing with one share. What everybody seems to miss, is that you have two temporal periods (3 and 5 years) and the chance to sample the share price every year.

What you don’t want to do is look at the option price for the two schemes in the first year, decide the 5 year scheme is cheapest, and lob your whole £250 savings into that. You want to maximise the diversity of your time-slots.

Diversify your temporal risk

You also want to maximise the amount of time you’re in the market, so if you are going to be a lifer in this firm (or even aim to work there for a decade) then buy £50 of the first year’s 5yr scheme, £50 of the next years 5yr scheme, and so on. After five years, your allowance for the first year’s scheme will come free as it matures, and you can allocate that to the sixth year’s SAYE scheme. If you sell as soon as your options mature, assuming they are in the money, then you will have the cash to allocate to your next allowance, so this one-way bet is now free.

You can do that instead with the three year scheme, but your options will only be in the market for three years rather than five, which reduces the amount of time your cash is in the market exposed to that one-way bet.

I simulated this using the FTSE 100 index as a proxy for a typical blue-chip firm offering a sharesave scheme.

yearly Sharesave returns if the company followed the FTSE100 index

yearly Sharesave returns if the company followed the FTSE100 index

and the cumulative profits over a 20 year period:

Cumulative sharesave profits over 20 years

Cumulative sharesave profits over 20 years

The cumulative profits understate things because of inflation, and it also shows the heady profits that were to be had from the stock market in years gone by, the fat years after the early 90s recession up to the dot-com boom, then the 10 lean years from the dotcom bust to now…

The pattern is familiar, I made most of the money from sharesave in the years leading to the dot com boom, and very little in the decade after. Unfortunately there was corporate action for my employer in 2001 which means I can’t get a historical time series back to 1990. The ride was a bit more choppy than this graph shows, and sadly I didn’t realise that the 5 year schemes are so much more valuable than the three, so I did a mix of 3 and 5 years.

Watch out for specifics

The industry your employer is in doesn’t necessarily have the same statistics as the FTSE100. It’s likely to be a damn sight more choppy – I know my company is. So it may be worth simulating the last decade or so of price data for your firm. Here is the spreadsheet I used, exported to Google docs. There may be cyclical patterns in your company’s share price that make some of the assumptions break down. Having said that I’d have done fine running rolling five years sharesaves with my employer’s shares.

Don’t go with your gut

I learned something from writing this post. From a gut feeling, I had gone for diversifying the period, buying a mix of 3 and five year schemes. I had not realised until now the fact that the 5 year schemes give me more time in the market and how valuable that was.

This may have been offset by the fact that for my entire sharesave career I was able to drop previous schemes where the option price was higher, and reallocate the allowance to the more advantageous sharesave scheme. HMRC disallowed that in 2009, so you won’t be able to do that. Now if you take out a 5 year sharesave scheme even if you stop saving you can’t reallocate that allowance until the original 5 year term is up.

Responding to exceptional share price events

My employer had a near death experience which resulted in some pretty nasty management practices. Previously I had assumed I was going to carry on working to 60 at that time, but one particular incident showed me I was unlikely to make the course, so I switched all effort into saving up to be able to retire early. This near death experience slammed the share price in 2009, so the option price on that sharesave was very low. Though I didn’t know if I would still be working there in 2012, I dropped every single previous sharesave and threw everything into that year’s sharesave, with half the money allocated to the 3-year and half to the 5-year scheme. Obviously I have to put a lot more per month into the 3-year scheme as you only have 36 months to buy your shares, as opposed to 60 months. The aim is to have an equal monetary stake at the end. This works out to £94 in the 5-year and £156 in the three.

The principle is that you don’t know what will happen in 3 or 5 years time, so I want to bet on both horses. Say the Euro blows this year, then the 3 year options might lapse but the price on the option maturing may be lower. In that case don’t execute the option. There’s still chance for some of the storm to blow out and the 5-year option to come good. Although I don’t expect to be working there when the 5 matures, once the scheme has been running for three years then under some of the circumstances I may leave I could make it paid up.

If the 3 year option matured tomorrow, I would do very well out of this sharesave, indeed I couldn’t liquidate the shares without becoming liable for capital gains tax, which would be a first for me. I believe that the Euro is doomed beyond redemption, and that the denouement could very well happen this year.

So I have gone to IG Index and shorted half the number of shares I have options in. Barmy, you might say, why the hell short something I own, but that has the effect of locking in half the options at the current price. If they go down I make a profit at IG to compensate, if they go up I have to pay IG but I get more selling the options. I’m prepared to pay that as insurance. In three month’s time I will short half the remaining half, assuming it makes sense, to lock in the price for three quarters of the shares.

Spread betting comes with an extreme wealth warning, but it’s the right tool for the job here. Another case where you may want to short a stock you hold is to avoid eating a capital gains hit. Just carry on holding the shares and short them, buying the short and the number of shares you own / 100 (because IG prices move £1 for every penny the share price moves, with you rescale back but selling 1/100th of the amount). If nothing untoward happens I may have to do that in August; sell half the shares to avoid the CGT liability and roll over the IG short on half the total which I will still hold, eliminating my exposure to my employer without selling the entire stake.

Spread betting works for the tax-free employee share incentive plans too. With these, you buy up to £125 of shares from pre-tax and NI income, which you have to hold for five years before you can sell.

Sadly, this is another trick I missed, so some of the shares I hold went through the near-death experience, though they’ve come back up. I could have shorted thse guys as I bought them every month, taking the tax-free bump up and protecting my purchase against the vagaries of the stock market. However, it just goes to show one of the dirty little tricks of capitalism. By the time I got experienced enough to spot this insurance scheme, I’m about done with the opportunity to use it. As a colleague once wryly observed, money is drawn to money…

I don’t really understand the need to short, since you’re saying you’re only buying the shares if they’re in the money anyway?

Doesn’t that protect your downside? The short is a drag on profits, plus the cost of the debt and of paying any dividends due on your company’s shares to the other side of your short contract (even if via a spreadbet, as you know). Quite expensive.

I may well be missing something though, as I’ve never been gainfully employed long enough to see or benefit from one of these Sharesave wheezes! ;)

@Monevator In my case the option price on the shares three years ago was 70p, the share price now is in the region of £2. Shorting is only worth doing in the later stages of a contract, if the SP has gone up (significantly in this case!) and one is of a nervous disposition about either the company in particular or the stockmarket in general. I’m happy to give up half of any SP rise from now to August to ensure a 100%+ profit :) I look at it as the cost of insuring my putative gains.

There are risks, I could screw up and get the order of the boot between now and August. I’m okay with that risk. There are special terms for sharesave that would kick in in the case of redundancy now, so that isn’t an issue.

In the case of ESIP shares which you buy at a 42% tax advantage (and get the dividends during the 5 year embargo period) I’d argue that the cost of shorting 60% of those over 5 years could probably be easily met from the putative 8% a year simple interest achieved in the tax savings. That would be a way of converting the unknown gain/loss to a structured guaranteed equity bond/no numerical loss product of the sort you don’t really approve of, which may suit some people who want to save to a specific goal. IG Index is probably a good counterparty to have here, as you say, most spread betters lose hand over fist, which is good for the bookies.

I love your sunny disposition “The short is a drag on profits” ;) It also what protects you against losses. Doing a graduated short over time like I am doing also lets you slowly come out of the market towards the end of the contract before you crystallise the SP at the end.

That’s the logical corollary of pound cost averaging on getting into the market – I want to get out over a period of time too, to mitigate the risk of getting pasted by a market crash between now and August.

[...] How to use Sharesave Save As You Earn Schemes – Simple Living in Suffolk [...]

Thanks for the explanation. I guess I’d have to see the numbers, as perhaps the tax situation makes it worthwhile financially.

I suppose it fits into the general economic thinking that people are much more risk adverse than they are wary of forgoing gains?

i.e. You are effectively betting that you would prefer the gain from the short to the loss of extra income from a share price rise from here?

Anyway, investing in shares with no downside risk (bar inflation?) – nice deal if you can get it! :)

My stake is £250/2 x 3 yrs x 12 mths = £4500, which I used to buy shares @ 70p, ie about 6428 shares. Were I to sell now @204-ish, I’d get £13113, a profit of £8613.

I bought around 32 IG options, eating a hit of 3p spread, ie paying £100 for the privilege, due to mature in Sept.

Paying £100 to insure a £4.3k+ profit (half the total) is a reasonable deal to me. Now, if the SP goes up, I gain half the upside, and if it does down I eat half the loss. So I’d still like the SP to go up, if they please ;) I’ll happily pay IG the short costs from the profit of twice the amount.

> i.e. You are effectively betting that you would prefer the gain from the short to the loss of extra income from a share price rise from here?

That applies to ESIP, where you actually buy the shares at the start of the period. It is possible to make a loss on these, though in aggregate I have a handsome profit (due to the staggered monthly purchasing and the decent dividends plus the tax plus). However, I am rich enough to be able to live with that risk.

Many colleagues hated ESIP with a vengeance because of the possibility of loss, and took the piss endlessly during the SP skydive – I had been buying at £2.80 (*0.6 for the tax break = £1.68). I’ve actually had the last laugh as the dividend income alone compensated for much of the fall, and they have come up again. I always maxed it until 3 years ago because I was easy with the risk at a 40% discount, and it was money I didn’t really need. It is indeed my stake in these coming out of the 5 year embargo from April to August that combined with Sharesave gives me personally the potential CGT liability if I clear my holdings in the next financial year.

But it goes to show just how much most people hate the downside risk potential, and IG would be one way to protect against capital loss. I’m not advocating it as the right way, but it is a way for people to control the risk to take just the profit, even though that’s not what HMRC intend them to do ;)

Just to quickly say I think I know what company you work for now. If your worried about people figuring it out, you might want to change the maths in your comment above to a generic example – and then delete this comment if you like. :)

I’m easy with that, I did consider the ramifications before listing the prices. People should have to work at it, but there aren’t that many blue chip firms with a significant presence in Suffolk. As long as the Firm isn’t called out by name that’s okay. Several workers from there have identified it already, merely from the narrative ;)

The incident that started my journey here was a local issue, though against a backdrop of corporate stress. The Firm has actually made a decent attempt to try and row back from those times. However, my eyes were opened to a different world, and that fact that the years I carry on working are years I won’t live again. So while they have rowed back, I haven’t changed course.

Hi Ermine, interesting points.

I’m in the same boat. Can I check my understanding of the method here?

I have 5000 shares coming out of the 3 year this year.

So 5000 x 200p (for rounding sake) = £10,000
If the shares go up 50p from here I gain £2500
Go down 50p I “lose” £2500

So I short at 0.5 x £5000/100
Or £50/2 (as I’m only shorting half the risk)
So my short is £25 per penny

Shares go up 50p I gain £2500 but lose £1250 on the spread bet – net gain £1250
Shares go down 50p I lose £2500 but gain £1250 on the bet – net loss £1250

Difference between the two is £2500. As you say, I make half the loss or half the gain, plus the cost of the spread on the bet.

But the difference is that without the hedge I either lose £2500 or gain £2500 (in the +/- 50p scenario).

Is that right?

Assuming it is, I now have the decide whether to pay for the hedge or take my chances.

@TNT Just to get this out of the way, none of this should be construed as a recommendation to take any course of action, DYOR etc ;)

Having said that, you’re right. You want to cover half your shares, ie 2500 shares. You scale this down 100 times to account for the pound/penny factor, so you short at £2500/100 = £25/point. The actual SP is immaterial, other than affecting your stake. If you are shorting your own holding, you short the number of shares / 100.

I shorted the SEP 12 option rather than using daily funding, as for some reason IG are necky enough to charge interest on short DFBs

Something you need to bear in mind is that you need to put up capital against that stake. Worst case you have to put up capital to cover your entire stake, which at £2-ish a share is £5000

I have a stake of 37 points, that uses a deposit of £386.86 – I have no stops on this. I have lodged about £900 with IG, I may up that somewhat and/or consider putting up £2500 so they don’t margin call or spike me out as The Firm is rising at the moment. Which I’m all for, I gain in the round :)

I see two possible scenarios. One is that the Euro shitstorm rides into town, and that hammers all shares. IG start to owe me then, so they can’t spike me out.

The other scenario is that for some reason The Firm is considered some sort of bizarre safe haven because of its sector and increases. I might get spiked out and eat the hit if I’m down the pub when the Euro shitstorm comes to town and the SP goes up to £4 or it jams up the financial system so BACS doesn’t work to top up, but then I guess being spiked out of a losing bet isn’t so bad when I have a rising stake in the share options covered with the short.

However, there is some risk of whipsawing in that sort of stock market turmoil, so I may lodge the full 5k with them. My problem there is these are savings towards loading my ISA next year, and the breakup of the Euro may create interesting opportunities there too, if Frau Merkel and her bunch of merry men could hold Euro Armageddon till the new ISA year, please…

26 Jan 2012, 2:32pm
by David Mansell


I’m interested in the comment you made about HMRC changing the rules re. cancelling and re-enrolling. Do you have a citation for this as googling isn’t turning up much of relevance…

@David Mansell It’s possible I was suckered by company propaganda in blaming HMRC for the change. It does apply to me with the Firm’s sharesave scheme, but this leads me to believe this is more the Firm’s decision to reduce switching costs

An issue vexing some employers is the costs associated with voluntary cancellations of sharesave contracts. Some employees will voluntarily cancel a contract to save the money for another launch they believe might be more fruitful, incurring cost for the employer as they do so.

To combat this, some employers are looking at altering scheme rules so that cancelled contracts still count towards an employees’ total monthly savings limit of £250, says Downes. But while the sharesave sector, like any marketplace, has its challenges, it is continuing to hold its own.

This article gives some of the reasons why The Firm may have made the change – due to accounting changes IFRS2 in 2005 that made share options charegeable to earnings. This has the result of

Effectively, the change causes a double charge to a company’s earnings where participants in a Sharesave plan cancel their savings contracts and take out a new one. Employees often do this, particularly where the options they were granted in previous years are underwater.

The result is that employees may burden their employer with a greatly increased earnings charge. Without changes to the way plans are operated, employers can do little to control this cost. The resulting hit to earnings can accelerate the slide in the share price that caused employees to cancel their contracts in the first place.

27 Jan 2012, 11:34am
by David Mansell


@ermine That dovetails with what I was able to find – thanks!

I think my “firm” doesn’t have such a rule (at least for now) so I can breath again :).

27 Jan 2012, 11:35am
by David Mansell


breathe*

[...] to shift into an ISA, and this year is complicated by a possible need to bed and ISA some of the sharesave shares. Next year I will also have to think about opening a S&S ISA with a different firm. I’m [...]

[...] my original how to use sharesave SAYE schemes  post I assumed that the changes made by my company to stop employees dropping share [...]

[...] reasons that made me believe I had to draw my pension immediately on leaving The Firm, to get a Sharesave scheme that was particularly advantageous. I discovered that the technical reasons ceased to apply to me [...]

[...] the last five years, I haven’t bought any stocks that doubled in price (with the exception of Sharesave holdings of The Firm bought in its existential crisis in 2009)  never mind went up tenfold, whereas in the [...]

[...] at the Simple Living in Suffolk blog did a good piece on the benefits and pitfalls of these types of share [...]

[...] gone on about Sharesave before, and I was also an avid customer of the Employee Share Incentive plan, particularly as I was [...]

[...] doubled my portfolio, though getting them into my ISA was beyond me. If you get the opportunity, join sharesave, to the max. JFDI – it’s like the Lottery, except the odds are better and you get your [...]

[...] are other ways to build up a stake like that, for instance join Sharesave, on maturity you can transfer up to £10k worth of shares to a S&S ISA, job also done but you [...]

The Monevator put me on to this great post – I had contacted him/her/it with a question along these lines (to which IG Index appears to the the answer). Hoping to become a regular blog reader.

9 Jan 2013, 3:51pm
by ermine


@Ross Parker – glad you liked it. FWIW the tactic worked pretty much exactly as designed. I paid IG £500 in total for the ‘insurance’ when I exercised the options because The Firm’s SP went up, so the options were about £750 up. Grexit didn’t happen last year, but I was happy – the peace of mind was worth the £500 to me. The shares themselves have risen more since exercising too.

If you do use spread betting, you need to hold enough with the SB company to avoid being margin called so you typically have to lodge about a quarter to a half of the shares’ value in cash at the point of hedging, depending on the volatility of your employer’s share price. Lodge more rather than less (since you can’t lose on this deal, unless you get made redundant in less than three years).

[...] – nobody’s ever offered me a one-way bet on the stockmarket before or since, so I filled my boots.The trick with sharesave is to keep on turning up. Most of the time it’s a damp squib or a [...]

[…] of chancellor’s, seems like employees now get to save up to £500 a month into Sharesave rather than the £250 that is was all through my working life with The Firm. Nobody else is going to […]

 

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