It has been five working days since the UK voted for Brexit. During those five days the FTSE 100 has fallen sharply: it ended the first two days down 8%. The FTSE 100 has also risen sharply: it ended Thursday at its highest level since last August. The pound has dropped nastily – and then stabilised.
Some of our big companies have said Brexit means nothing to them (Aviva, for example). Others have started threatening to move headquarters or to cut jobs (Unilever says that “the way the company is run will be fundamentally different”). The Labour party is in meltdown. The Tory party is having a surprisingly exciting leadership contest. Anti-democracy protests have been held by groups demanding new referendums to replace the one that has given them the “wrong” result. We’ve had hints of summer interest rate cuts. And of course the cycle of pre-negotiation briefing has begun: depending on who you listen to the EU has either “hardened its stance” on key issues or “started to crack”.
It’s a lot isn’t it? But let’s go back to the first sentence. Five days. It isn’t very long. You can’t extrapolate much of the short term, any of the medium term or even a hint of the long term from five days, particularly given the extraordinary level of panic in the media that has surrounded the vote. So we don’t yet know anything at all about what Brexit will actually mean.
We know something about the potential negatives: it is easy to extrapolate negatives from current positives and pop them into models. But we can’t put numbers on the things that haven’t happened as a result of our EU membership that might now happen.
Models can’t factor in the benefits we will get from new trade deals outside the EU: the US, India, Australia, New Zealand, South Korea and Mexico have already expressed interest in getting deals done fast. They can’t factor in any changes to our welfare system that might result from negotiations over free movement of labour.
They can’t even start to take into account the twists and turns of British politics: how well Brexit goes depends to a large degree on who leads Brexit Britain. Brexit hysterics have spent the last five days behaving as if they know – for absolute certain – what hideous dark disasters are waiting for us around dark corners. They don’t. In a few years they might find themselves pleasantly surprised.
Still, the question I am being asked most often at the moment is about safe havens. Where can you put your money and be pretty sure that you won’t lose too much of it?
The obvious places at the moment are the big exporters (benefiting from the pound) and of course gold (which has been working pretty well as insurance over the past week). But one independent financial adviser, Ian Lowes of Lowes Financial Management, came to visit me just before the vote to insist that I look again at what he considers to be one of the safest havens of all: equity-linked structured products.
Anyone with an IFA will have been offered one of these at some point, but let me explain how the whole thing works with reference to one that Mr Lowes is keen on at the moment: the 10:10 Plan. Here you hand over your cash. At the end of three years, if the FTSE 100 is not more than 10% below its starting point, you get your money back plus an interest payment of 7.05% for each year.
If it isn’t, the plan continues and the same conditions apply each year until year ten. Then, if the FTSE is more than 10% below its starting point but less than 30% below its starting point you get back your original capital and nothing else. If it is 30% below its starting point you’re in trouble: you will now lose your capital in line with the index: if it is down 35% you lose 35% too.
You might think this all sounds rather good: after all you will think it unlikely that the FTSE 100 will be down 30%-plus in ten years so the worst that can happen is just that you get your capital back as is. You will also think it unlikely that the FTSE 100 will be down 10% ten years out, so you will think that the most likely scenario is that you will earn a neat 7.05% a year for a decade with very little risk taken. Given how low interest rates are and how volatile the markets look in the short term, my guess is you think that looks pretty good.
Not so fast. First, it is far from a given that the FTSE won’t be down more than 10% over the ten years (it was in the ten years after 1999, for example). Second, the 7.05% is not compounded: it is paid on the original capital only. That makes a total of £70.05 paid on every £100 over the ten years – or an effective compound return of 5.5% a year.
You’ve also taken on some of the risk of being invested in the equity market but given up the inflation protection that it offers and – crucially – the dividend payments. The FTSE 100 still yields more than 4% a year and with a weak pound you can probably count on it sticking at much the same levels (and rising with inflation).
Look at it like this and it makes no real sense to me. You are taking equity-style risk and you can make capital losses (although the risk of that is lower than if you invested directly into the market). But you’ve given up your rights to capital gains and to dividend income. You’ve also taken counterparty risk (the bank creating the complicated options to make the product behind the scenes could go bust) and locked up your capital for up to ten years.
And all for an extra income over dividends of under 2% a year. I can see why this kind of thing looks attractive and why Mr Lowes likes them for his more nervous clients. But for me a nicely diversified portfolio of equities from which I can earn dividends, have the potential for capital gain and which I can sell whenever I fancy looks like a better safe haven.
I went to see Nick Train, manager of the Finsbury Growth & Income Trust this week. The stocks in his portfolio are seeing annual dividend growth of about 7% a year. That’s fantastic in our low-inflation, low-rate environment and, I think, about as good a long-term safe haven as you will get anywhere, Brexit or no Brexit. (Read what Nick has to say about what Brexit means for the Finsbury Growth and Income Trust.)
• This article was first published in the Financial Times