This piece first appeared in Reader's Digest in December 2003
 The text here may not be identical to the published text

Investing has never been so frightening. Pension promises have been broken. Millions of mortgages will not be paid off by endowments. And people have lost billions of pounds in complicated schemes they should never have been sold. It is no surprise that investment is down – just at the time when we are told we should be investing more.

So how can we invest to protect ourselves – and our families – for the future? For a generation the advice was always ‘the stock market’, but three years of falling share prices have left many people afraid of putting their money there. That might be an expensive mistake. In the long-term the stock market has done better than any other form of investment. And many investment professionals think it will do so in the future. Anna Bowes, investment manager at Chase de Vere, advises

"If you are looking for long-term capital growth, then you need to have some money in equities. But you have to think this is a long-term investment"

Shares – equities as the professionals always call them – seem likely to end this year higher than they began it. And many experts now say the time is right to get back in. Alan Warner is Director of financial advisers Douglas Deakin Young

"The professional consensus is that barring a new terrorist incident shares look reasonable and of course yields are so low everywhere else. The intuitive feel of investors is that shares will climb further."

Of course any stockmarket investment is a risk. Investment is not like saving. When you save the money remains yours and you can normally take it back when you want. But when you invest you give your money to someone else and hope they can make it grow for you. That is the risk you take. Financial advisers will tell you that you have to take a risk to get a reward. But remember, the reward is not guaranteed. As millions have found to their cost, shares really can go down as well as plummet!

So why do people take this risk? The simple answer is that for the last hundred years shares have produced a better return than anything else. Not every year. Not even every decade. But on the whole, in the long-term, shares have been best.

We know that thanks to Barclays Capital, the investment division of Barclays Bank, which has data going back to 1899. Its conclusion is that shares have given the best overall return – better than cash, better than government stock, better than bonds – over that 103 year period.

Of course, we do not normally invest for that long! We need a pension when we retire, we need to pay off a mortgage, we need to give children or grandchildren some help at 18 or 21. Advisers may tell you that ‘long-term’ means at least five years preferably ten. But using the Barclays figures it is easy to show that over the last 103 years there have been 16 ten-year periods when shares were worth less at the end than at the start. So ten years is not enough to be sure. Nor is 15; there have been ten periods of 15 years when shares were worth less at the end than the start. In fact you have to leave your money in for 23 years before there is no historical period when shares were worth less at the end than at the beginning. These figures take no account of the charges which are levied by the people who manage your money – they make things worse.

These figures look back over more than a century but recently things have been very different. Throughout the last quarter of the 20^th century shares rose in value almost every year. If you put your money in shares it was almost impossible to lose it. From 1974 to 1997 even three years was enough to guarantee you a gain. A whole generation of investors and their advisors grew up knowing that share prices went only one way – up. So it was even more of a shock when they fell in 2000, and again in 2001 and 2002. Now at last there seems a good chance that shares will end this year 2003 higher than they started it. And that could be the perfect time to get back into shares.

There is one simple way to do that. Advisers or investment professionals are reluctant to tell you what it is because they earn very little money from it. But the cheapest and simplest way to link your fortune to that of the stockmarket is to put your money in a unit trust – an investment fund – that simply tracks the performance of all shares. These funds make no judgements about what is likely to happen or which companies, sectors or areas are likely to do well. They simply invest the money in the same shares that form one of the indexes that measure overall stockmarket growth. For example, many track the FTSE All Share Index which measures the value of shares in around 700 companies which are traded in London. It will simply invest the fund in those 700 companies in proportion to their size in the index. Others follow the 100 biggest UK companies, or the top 500 companies in Europe.

They are called ‘tracker’ funds because they ‘track’ the performance of a stock market index. They have three advantages over more traditional funds where the money is invested according to the whims and beliefs of a fund manager. First, they cost a great deal less to run. Fund managers and the teams of analysts who support them are all paid very large salaries. With a tracker, you do not need them because no judgement is involved – it just buys the shares in the companies that are in the index. So that saves you money. Instead of paying say 5% up front and 1.5% a year out of your investment you should pay nothing to set the account up and half a percent or less to run it. Second, if you believe that shares rise overall in the long-term, trackers hitch your money firmly to that wagon rather than the opinions of an individual. Third, in the long-term trackers always outperform individual funds. Despite what fund managers tell you, the truth is no-one can consistently do better than the whole stock market. Research by fund research consultancy WM Company for Virgin Money in February 2002 found 82% of active funds failed to beat the benchmark FTSE All Share Index over the past 20 years. WM also said "While over any time frame, some active trusts will add value over and above the benchmark, this is unlikely to be consistently achievable." Of course, as WM say, some fund managers do well for a while, as do some funds. But it is impossible to pick them in advance and in the long-term, the market will do as well as anyone. Research for the Financial Services Authority found that past performance was no guide to future performance except in one way – a bad fund manager will consistently do worse than a tracker. But good managers cannot consistently outperform the market.

Of course, anyone considering investing in shares has to be sure it is the right thing for them. Michael Hughes, Director of Baring Asset Management warns

"The less money you have to invest the smaller the proportion in equities. Trackers have a level of risk attached to them. The trend of share price rises may be 5% or 6% but around that you can have a high of 25% or a low of minus 20%"

But always remember that not all your money should be on the stockmarket. Anna Bowes says you should have a balance in a variety of investments.

"What the market does should not decide what you do – you can never know when it has turned. Asset allocation is the most important thing – equities, property, fixed interest, and cash. The majority of people should have some money in equities."

Building a portfolio
If you just want to invest a few hundred pounds up to the low thousands then it is most sensible to keep your money in one place – and a tracker linked to the FTSE All Share Index will do that job for you. But if you want to invest more, or think that other parts of the world will grow faster, then you may want to hitch your wealth to a number of wagons in different countries. You could put some money into a tracker that followed stocks in Europe, or in the USA – where there is a lot of choice – or join the latest bandwagon and put money into funds that are invested in the far east. Asia, outside Japan and particularly including China, are heavily tipped at the moment by investment experts. They may be right or wrong. But if you want to bet some of your money on them being right, then there are trackers linked to all these markets. You can find funds which concentrate on technology stocks, on Japanese stocks, On European stocks, of Asian stocks. But remember, as soon as you start choosing you are beginning to your own fund manager and trying to guess where and when the market will do well. That is against the whole principle of buying a tracker and forgetting about it for 20 years or so. It will certainly require a lot more research – probably using an Independent Financial Adviser – but it may produce better results. And always go for funds which are sold in Sterling. Otherwise you have the uncertainties of exchange rates on top of the risk that goes with any investment in shares.

How to make yourself save
Saving is usually a good thing. But if you have debts there is little point in saving money which may earn 3 or 4% and borrowing money on which you are paying at least 10% or, on a store card for example, 30%. So pay off your debts first, starting with the most expensive. That can get you into the saving habit. Commit yourself to paying off a set amount of your debt each month. Then when the debt has gone, put the same amount into a savings plan – and add on the interest you are no longer paying!

And don’t forget your mortgage is a debt. Probably your biggest. Not that I’m saying don’t save till your mortgage is paid off! But over-paying your mortgage can be as good as saving – it means you will own your home more quickly and end up paying much less interest. One good tip is to look back at what you were paying before interest rates fell, say two years ago. Then pay that much now.

If your employer has a company pension scheme and you are not a member – then think about joining. Many employers pay into the scheme as well – but only if you join. So it is always a good idea to join a company scheme if your employer puts money in too. If you don’t join you are being paid less than those who do. The only danger is that if your employer goes bust you may not get what you expect – but from Spring 2005 the Government intends to block that loophole. So if your employer has a pension scheme that they pay into as well, join it.

If you are already in your employer’s scheme – or there isn’t one that they pay into – you can pay into your own pension through a stakeholder. Charges are low and you cannot touch the money until you are 50 – so there’s no temptation to spend it now. Because there is tax relief on every penny you pay into a pension the Chancellor boosts whatever you put in by 28% - more if you pay higher rate tax. Every employer has to offer a stakeholder now, but unless they put money in too, there is no point in joining that one – you may as well find your own.

However you decide to save, the best way to make sure you do it is to set up a standing order to make the payments – into a pension, your mortgage, or a stock market investment. You’ll miss the money less – it just becomes another regular bill. The only difference is you’re paying it to yourself!

Spending less is also a good start to saving. Do you need that cappuccino on the way to work each morning? Or that drink with colleagues before you go home? Why buy a book to read when the library offers them free? Little daily savings can mount up – put them in a separate jar or box and then at the end of the month you could even have enough to put it into a savings plan.

Where to buy an index tracker
Not all trackers are the same – two funds that track the same index can still give different returns. Some trackers just do the job of tracking better. And some charge you more than others for doing the job. You can do your own research by checking out tracker funds – indeed all funds – at the website of Standard & Poor. Find one that tracks the FTSE All Share index, has no initial charge and no more than 0.5% annual charge. At the time of writing M&G Index tracker was better than most and charges just 0.3% a year. Over the last 12 months it has grown by 12.58%.

Once you have decided you want a tracker and which one you want there really is not any point in going to a financial adviser. Save money by buying it from a funds supermarket. Easy access online means substantial discounts. Popular fund supermarkets include egg, Fidelity, and Ample. Or you can go to a discount broker - many will cut initial charges and share their annual commissions too. Places like Cavendish Online, Chartwell Investment, or Torquil Clark.

You should also consider you want to put your tracker into what is called an ISA – this is a way of making sure that the growth in the fund is free of tax. But the way the tax system works, Shares ISAs are only of real value to people who pay higher rate tax or may pay capital gains tax – a small minority of investors. You should not put more than £3000 into an ISA and make sure it is called a ‘mini-ISA’ – that leaves you free to put another £3000 into a cash ISA, which is a good idea for everyone.

If you are not confident enough to do all this yourself, then any Independent Financial Adviser should help you find the best tracker if you insist that is what you want. But some may well offer you advice based on the commission they will earn – and trackers will earn them less than some other sorts of investment. Always remember – do not put all your money at risk on the stockmarket. And the money you do put there must stay there for the long-term, maybe as long as 25 years.

December 2003

e-mail Paul Lewis on paul@paullewis.co.uk