Platforms:
Re-platforming
Capital adequacy
Pensions:
Pension tax relief
Pension scams
Impact of Lifetime ISA launch on auto-enrolment opt outs
Auto-enrolment review
State pension age
Investment themes (and fund picks to play those themes):
Article 50 and Brexit – (UK equity – Jupiter UK Special Situations & UK Absolute Return – Henderson UK Absolute Return)
Banks – (db x-trackers Stoxx® Europe 600 Banks UCITS ETF 1C)
The dollar, the Fed and Trump – (Polar Capital Global Insurance)
Bonds – (Royal London Short Duration Credit)
Emerging Markets – (Hermes Global Emerging Markets)
Platforms – Andy Bell, chief executive
“The two big themes for the platform market in 2017 are re-platforming and capital adequacy. Both have the potential to cause some serious headaches for platforms and the advisers that use them.
Re-platforming
“There are six adviser platforms in the process of moving to a new IT supplier, either because their existing technology is no longer fit for purpose or due to consolidation following a number of acquisitions in 2016.
“In total there will be an eye watering £200 billion of client assets being migrated from one platform to another. Anyone who has been through a replatforming exercise will know that it is not easy and there will always be issues.
“When service levels drop it wastes advisers’ time and costs them money. The key will be how quickly platforms respond to the inevitable issues. Advisers will give them a certain amount of lee way but if the problems persist for too long we could see advisers voting with their feet and moving clients to alternative platforms. This will be particularly prevalent where they can achieve the same client outcome at a lower cost and with a better service.
“In these instances I’d like to see greater clarity from the regulator on whether a simplified suitability assessment can be followed. The current individual advice requirements make moving blocks of clients from one platform to another overly arduous. Where it can be clearly demonstrated that all the customers will receive the same or better service at a lower cost, I think there needs to be acknowledgement from the regulator that a streamlined suitability process can be used.
Capital adequacy
“Platforms are not the capital light businesses they used to be. As platforms increasingly account for a growing proportion of the market, the regulatory focus is sharpening. We’ve already seen it in the banking and insurance sectors and investment is next in the regulatory firing line, with platforms at the heart of that.
“We saw new capital adequacy requirements introduced for SIPP operators introduced this year and they heralded a series of business failures and consolidations. I think the regulator has its eye on the wider platform market next and more onerous capital requirements here could have a similar effect. We saw a number of platform acquisitions in 2016 as the patience of some shareholders ran thin and I think this will be an ongoing theme in 2016.
“Never has it been more important for advisers to use platforms that can demonstrate that they are well capitalised, have a healthy balance sheet with no debt and are operating on modern technology that is not due for a re-boot.”
Pensions – Tom Selby, senior analyst
Pension tax relief
“Pension tax relief remains the elephant in the room. However, the way the current pension system is set up creates too many barriers to the widespread reform some people assume is coming.
“The problem is that currently the Defined Benefit and Defined Contribution systems are run as one and trying to apply one set of pension rules to DB and DC schemes creates unnecessary complication.
“Changing the levels of pension tax relief might be quite simple in a DC context but it creates significant complexity for DB schemes, including those of the politicians making the decisions. This is something they’ve looked at several times and realised there is not an easy answer.
“Unless there is a broader move to separate DB and DC pensions and accept that the cost of pension tax relief for each of them needs to be controlled separately, it is unlikely there being widespread change to pension tax relief in 2017.
“A review of the interaction between DB and DC schemes, including the process for DB to DC transfers would be a welcome addition to the 2017 calendar.
Pension scams
“The Government took a significant step towards tackling pension scams in the Autumn Statement when it announced plans to ban cold-calling, crack down on the abuse of small self-administered schemes (SSASs) and give providers more power to block suspicious transfers.
“It is now critical policymakers work with the industry to ensure these measures are effective in deterring scammers and act as a starting point in a renewed effort to tackle the threat of pensions fraud.
“There is much more the Government and regulators could and should do to deter fraudsters, however. A permitted list of investments for SIPPs would provide an extra layer of safety for savers, while more radical ideas such as allowing people in financial trouble to access their tax-free cash before age 55 could also be considered.
Impact of Lifetime ISA on auto-enrolment opt outs
“For many retirement investors – particularly basic-rate taxpayers and the self-employed – the new Lifetime ISA will provide an attractive alternative to a pension. It could also prove popular among young people attempting to get a foot on the housing ladder.
“However, policymakers will need to carefully monitor the impact the Lifetime ISA has on automatic enrolment when it launches in April 2017. Clearly savers who opt-out of auto-enrolment and instead save into a Lifetime ISA will be missing out on the valuable employer contribution. This will not be in their best interests in the vast majority of circumstances, so providers will rightly be required by the regulator to plaster health warnings on the product explaining this and the implications of the early exit penalty.
Automatic enrolment review
“The Government’s flagship auto-enrolment programme reaches a critical point next year as the UK’s small employers are caught by the reforms. This represents the first major test of auto-enrolment as many employers and employees engage with pensions for the first time.
“This therefore seems like a sensible time to conduct a wide-ranging review of auto-enrolment. The Government has confirmed the scope of the review will be vast, covering the level of the earnings trigger, charges, raising minimum contributions and whether the self-employed should be brought into the reforms, among other issues.
State pension age review
“John Cridland will publish the final recommendations of his independent review of the UK’s state pension age in 2017. This will be used to inform any the timetable for changes to the state pension age after 2028, when it will increase to 67.
“Whatever the conclusions of the review, the seemingly unstoppable rise in average life expectancy continues to place huge pressure on the public purse and makes a further increase in the state pension age inevitable. Indeed, savers may face the prospect of waiting until their 70s to receive the state pension.
“However, life expectancy varies based on a vast number of factors, including where you live. The Government will need to balance the desire to ensure the system is fair and progressive against the risk of adding complexity to an already hugely complex system.”
Investment themes – Russ Mould, investment director & Ryan Hughes, head of fund selection
Article 50 and Brexit
Russ Mould, investment director:
“The terms of the “soft” or “hard” Brexit will be instrumental in shaping sentiment toward the UK equity market in 2017. A “hard” Brexit could well snuff out the autumn rally in sterling, especially as Britain still runs a combined annual budget and trade deficit that would shame a banana republic. That in turn could boost the overseas earners in the key indices, although this trade is now well know and ironically the real value may be appearing in the downtrodden domestic names, such as real estate plays and consumer discretionary stocks, where a lot of the potential damage offered by a “hard” Brexit is priced in.
“This may offer further scope to funds known for their value-hunting expertise, especially as Brexit does not turn out to be as bad as feared. The UK’s 4%-plus dividend yield for 2017 could also be a source of support, especially as rising oil prices underpin the 24% contribution to UK dividend payments forecast to come from Shell and BP alone.”
Funds to play this theme:
UK equity – Jupiter UK Special Situations
Ryan Hughes, head of fund selection:
“With ‘value’ strategies having been out of favour for so long, we’ve started to see the early signs of a switch in investor focus away from defensive companies towards highly unloved, lowly valued companies. This plays nicely into the hands of Ben Whitmore, manager of the Jupiter UK Special Situations Fund who has forged a fantastic long term reputation of finding well run and financially sound businesses that other investors have shunned. With a patient approach and a comfort in investing away from the crowd, this strategy could do very well in 2017 as investors look away from the ‘expensive defensives’.”
UK Absolute Return – Henderson UK Absolute Return
“With the UK government highly likely to trigger Article 50 and start the UK’s formal withdrawal from the EU, there is the potential for some volatility in the UK market given the uncertainty this will bring. One way to play this may be through long / short UK equity funds which can profit from winners and losers in this environment and one of the very best is the Henderson UK Absolute Return Fund. Managers Ben Wallace and Luke Newman have proved they are highly capable of navigating volatile markets and often come into their own when markets become disrupted. 2017 could well prove to be that environment again.”
Banks
Russ Mould, investment director:
“Bull markets don’t tend to last too long unless the banks are doing well, as the lenders are such a key provider of credit, a vital lubricant in the modern-day economy. The Banks have been awful performers in the UK since 2010 and they started 2016 terribly as well, held back by the UK’s lofty debts, tight regulation and hot competition.
“Contrarians may see this is a positive sign, especially as all of the Big Five bar HSBC trade at below one times book value. Sceptics will point to negative earnings momentum, ongoing misconduct fines, the UK’s modest economic momentum and hefty debts as good reason to stay away.
“With the banks representing 14% of the FTSE 100’s market cap and 15% of both profits and dividend payments last year this is one sector that fund managers have to get right in 2017 if they are to outperform as the rally in late 2016 has caught many off guard. If that momentum continues in 2017 it will be a huge pain trade that could force many into clambering aboard, giving the FTSE indices a lift. However, if the UK economy fails to deliver and bond yields go lower again, banks could once again find themselves out in the cold.”
Fund to play this theme: db x-trackers Stoxx® Europe 600 Banks UCITS ETF 1C
Ryan Hughes, head of fund selection:
“For specific banking exposure, an ETF is the best approach and with valuations on European banks (including the UK) still at low level, the db x-trackers Stoxx® Europe 600 Banks UCITS ETF 1C could be a good play to play this theme. With an OCF of just 0.30%, this ETF gives diversified exposure to banks across Europe with 30% in the UK and the balance well spread across the continent.”
The dollar, the Fed and Trump
Russ Mould, investment director:
“Markets are latching on to the reflationary potential of the fiscal-spending, tax-cutting and regulation-slashing programme outlined by US President-Elect Donald Trump. Rising US share prices and a stronger dollar are the clearest signs of the current enthusiasm for the plan.
“This week’s expected interest rate hike from the US Federal Reserve could also further boost the bouncy buck, which is once more trading north of 100, using the DXY (‘Dixie’) trade-weighted basket as a benchmark. Any acceleration in US GDP growth and inflation, or further Fed rate hikes in 2017, could further boost the greenback and the value of US assets held by UK investors. The DXY basket reached 120 in the early 2000s and 160 in the mid-1980s (when the Reagan administration was following plans similar to those proposed by Trump) so it could have a lot further to go, especially if the ECB, Bank of Japan and Bank of England keep running their QE schemes and show little inclination to tighten policy themselves.”
Fund to play this theme: Polar Capital Global Insurance
Ryan Hughes, head of fund selection:
“The global insurance sector is one that can benefit from rising bond yields and with the industry predominantly based in the US, a strong dollar helped by rising rates could help this fund have another strong year. The industry is cash generative, giving a nice stable outlook, while consolidation could well prove to be a friendly boost. The team at Polar are hugely experienced and this approach offers a great way to diversify from traditional US equity exposure.”
Bonds
Russ Mould, investment director:
“If stocks and the dollar are welcoming the Trump plan, then bonds are recoiling from it, given the potentially inflationary implications of both the US President-Elect’s pro-growth strategy and a surging oil price.
“The question facing income-starved investors now is whether bonds offer a suitable risk-reward balance – inflation is still low, the world is more indebted than it was in 2007 and long-term demographic trends in the West look deflationary as the population is ageing and shrinking.
“Moreover, low interest rates are keeping a lid on corporate default rates and credit spreads (the premium yield offered by corporate bonds relative to Government ones) are tightening, not widening so there may be some value to be had here. In addition, there is no guarantee the Trump plan actually works – Japan has seen multiple stock rallies and bond sell-offs fizzle out since 1989 while US and UK Government bonds have seen around 10 hefty reversals since 1986, only for yields to make new subsequent lows (and prices new subsequent highs).
Fund to play this theme: Royal London Short Duration Credit
Ryan Hughes, head of fund selection:
“With the prospect of bond yields continuing to rise through 2017, fixed interest exposure is posing a bit of a conundrum for investors. One approach to protect from capital losses is to keep duration short and for this approach, the Royal London Short Duration Credit Fund could well be appropriate. The team, led by Paola Binns are highly experienced and by focusing on bonds with less than 5 years to maturity have lower turnover than many. For those that want fixed interest as part of a strategic asset allocation, looking to short duration could prove to be the best way to mitigate the problems caused by rising rates.”
Emerging markets
Russ Mould, investment director:
“One asset class is already feeling the heat from a dynamic dollar, namely emerging markets. There is a strong historic negative correlation between the buck and MSCI Emerging Market (EM) equity index because a rising dollar is inherently deflationary for nascent economies – it makes dollar-priced commodities more expensive and chokes off exports (or makes imports more costly) and means servicing dollar-priced, overseas debt more expensive.
“EM assets underperformed during 2012-15 but stormed back in the early stages of 2016 (helped by a slight weakening of the dollar, improved commodity prices and a renewed valuation case) only to fall back post Trump. The good news is that commodity prices are still holding firm (at least in the case of oil and the industrial metals), something which Bank of America Merrill Lynch research says has only happened 30% of the time during periods of dollar strength and during that 30% EM assets have generally done well. The dollar and commodities look set to once more dictate how Emerging Markets do in 2017.”
Fund to play this theme: Hermes Global Emerging Markets
Ryan Hughes, head of fund selection:
“As differentiation increases across EM, a shift towards alpha rather than beta has become the key focus and the stock picking approach from Gary Greenberg, manager of the Hermes Global Emerging Markets Fund is well suited to capitalise on this. As a bottom up stock picker who is entirely comfortable investing away from the index, Gary’s focus towards quality companies could prove to be highly appropriate for 2017.”