British Expat Investing – Cheap and Simple!

British expat investing has never been easier. Whether you are saving for retirement or something else, these days you don’t have to pay extortionate prices for financial professionals or specialized investment products.

Instead, you can put a strong investment portfolio together with a couple of cheap index tracking exchange traded funds (ETFs). A two fund portfolio, one containing stocks and one containing bonds, will more than fulfill most peoples needs.

And if you are thinking you should employ financial professionals because they can give you higher returns on your investments you may be mistaken. Here’s what famed economist Burton Malkiel writes in his famous book a Random Walk Down Wall Street:

A blindfolded monkey throwing darts at newspaper’s financial pages could select a portfolio that would do just as well as one carefully selected by experts.

Burton Malkiel

Okay maybe he’s pushing it a little bit in this example, but the concept that investing in cheap index funds will give you a better return than investing in actively managed funds is real. Fund managers find it nigh on impossible to beat a simple index fund.

There are mountains of research to back this up. Just about every study out there demonstrates active management (where a fund manager tries to beat the market) nearly always under performs a low cost index fund. (You can read more about it here)

Okay I get it, index funds beat expensive actively manage funds, but hang on a minute what are stocks, bonds and index funds anyway?

What are stocks and bonds?

When you invest in stocks you effectively buy tiny pieces of businesses. With bonds you lend money to organizations and get paid for you trouble.

Stocks give you the big returns but are volatile. Bonds give you safety and stability.

These days it’s easy for investors to buy shares in stock and bond funds. Even better you can buy cheap funds that follow a market index.

What is a market Index?

A market index is a hypothetical group of investments, but really it boils down to a simple list.

You can get market indices for all kinds of investments, but the most common ones contain stocks or bonds.

A market index will contain the names of some investments and the size of each investment.

What’s the point you my ask? Well, a stock market index basically tells you the investor which shares to invest in and what percentage of your money to put in each share.

Take the FTSE 100 for example. This is the most famous stock market index in the UK. It is the 100 companies listed on the London Stock exchange with the highest market capitalization. In other words a list of the 100 biggest companies on the UK stock market.

The list organizes these companies by how big they are. The biggest companies get the biggest share of the list, which means they get the biggest share of an investor’s money.

For example, the top three companies on the FTSE 100 index right now are Royal Dutch Shell, HSBC, and BP.

Royal Dutch Shell takes up about 11% of the index. HSBC takes up about 7% of the index and BP takes up about 6% of the index.

Investors who would like to follow the FTSE 100 index would invest 11% of their money in Royal Dutch Shell, 7% of their money in HSBC, 6% of their money in BP and so on down the list of all 100 companies.

This kind of investing is commonly termed passive investing. With passive investing, decisions aren’t required. You simply follow the index.

In fact, investors don’t even have to follow the index themselves, they can buy shares of a fund that does it for them called an index fund.

What is an index fund?

An index fund tracks an index so you don’t have to. You can put all your money in the fund, leaving the fund manager to allocate your money to the correct shares in the correct proportions.

Because following the index is simple the fund manager doesn’t really have many things to do. In fact, much of following an index can be done automatically these days.

This is good for the fund manager because it means he doesn’t have to do very much at all, but it is even better for the investor because it means fees can be kept really low.

Why are fees important?

Fees are perhaps the most important aspect of investing. In fact, keeping costs low is especially important for investments right now. That’s because lots of experts are predicting very low returns for the foreseeable future.

Vanguard, the largest provider of mutual funds in the world, and most importantly one of the most trustworthy sources of information in the business, project very low returns for the next decade.

In their Economic and Market Outlook for 2019, the company offers some sobering projected 10 year nominal investment returns.

The median for global balanced portfolios range from 1.8% for all bonds to 4.1% for all stocks. You read that right! 4.1% for stocks not 10%!

In a world of low returns fees become ever more important. The chart below is from the Money Advice Service.

Investment products	Typical yearly cost
Actively managed funds	0.75% – 1.25%
Investment trusts	0.8% – 1.8%

The Money Advice Service are saying typical fees go up to 1.8%. Think about that for a moment. Vanguard projects 1.8% returns for bonds. You don’t need to be a genius to realize that ain’t going to work out very well.

Projected returns for bonds are the same as the fees on some funds. If you bought those funds you’d be giving away 100% of your profits!

This certainly makes it easy for me to make two very important investment decisions:

• Stocks may be riskier than bonds so I don’t want my entire portfolio in stocks, but I need some in my portfolio because 1.8% ain’t going to cut the mustard.
• Fees of 1.8% would take away nearly half my returns if not more. That ain’t going to work out very well either. As a result I need to keep my fees low by using index funds.

The exact split between stocks and bonds is an important topic that you should think about before investing. (You can read more about it here)

There are a couple of different types of index fund, but often when you are British expat investing you only have access to exchange traded funds (ETFs).

What is an ETF?

An exchange traded fund is a kind of fund that can be bought and sold like individual shares on a stock exchange.

There are all kinds of ETFs, but many of them are index funds.

ETFs tend to be a good choice for expat investing because they are actually available! Many funds such as Mutual Funds, Unit Trusts, OEICS and Investment Trusts are not.

But seeing as how the other types of funds tend to be a lot more expensive than ETFs that’s no big deal! In fact, it’s a good thing.

ETFs have loads of advantages, but here are three big ones:

• They are cheap. You can buy them with fees as low us 0.04%.
• There are a lot of online brokers that allow British expats to buy ETFs. (I’ve written a comparison of stock brokers suitable for British expat investing here)
• And ETFs are very tax efficient. (You can read more about British expat investing taxes here)

What kind of ETFs should I buy?

All you really need is couple of ETFs. One for global stocks and one for bonds.

Why global and not simply UK stocks you might ask?

Well, it comes down to diversification which Burton Malkiel describes as:

The only free lunch in investing.

Burton Malkiel

If you invest in one company, you choose badly and then that company goes bankrupt you may lose all your money.

On the other hand, if you invested in 100 companies the chances of all of them going bankrupt are pretty low. Basically, the more companies you invest in the better and safer you will be.

I know what you’re thinking….. Wouldn’t it be better to just invest in all the good companies that are going to do well and pass on all the bad companies?

Unfortunately, choosing which individual stocks are going to do well is an almost impossible mission for the average investor. In fact, most professionals seem to struggle with it, too.

But there is one way to guarantee you’ll own all the best companies and that is to buy all the companies.

If you buy all of them you are guaranteed to own the ones that do well. Yes, you’ll also own some rubbish but the good companies will more than make up for it.

So, rather than invest in say the FTSE100 which only contains 100 UK based companies, why not invest in a global fund that contains thousands of companies. That way you don’t miss out on foreign companies like Apple, Google and Facebook.

Whereas everybody no matter where they live should probably have a global stock ETF, bonds require a decision to be made.

Bond (not James)

Bonds are little more complicated than stocks.

That’s because which bonds you invest in depends on where you are going to retire.

If you are going to retire in a developed country that has its own investment grade government bonds, then you are probably best served investing in those. (you can read about what investment grade means here)

For example, a Brit planning on retiring back to Britain would just invest in British Government Bonds. On the other hand, a Brit planning on retiring to the US would invest in US Government Bonds.

Simple really! Just invest in the highly rated government bonds of the place where you are going to retire.

That is unless they aren’t available. Many countries don’t have highly rated government bonds, particularly developing countries.

In this situation, investing in foreign developed market government bonds may be the right thing to do.

Let’s say you live in a developing country and it doesn’t have any high-quality government bonds. In that case you can invest in a bond ETF, containing a basket of different developed market Government bonds.

These days there are plenty of ETFs on the market that contain baskets of high quality developed market government bonds. (There are other options too which you can read about here)

ETFs

Here’s a list of ETFs which I think are suitable for British expat Investing.

I’ve chosen these funds based on availability to British expats, fees, and taxes.

• You can buy them at most brokers.
• They all have Ongoing Charges Figures on or below 0.25%.
• They are domiciled in Ireland. (you can read more about tax and domicile is important here)

If you are thinking about investing in one of the funds listed here, it is always advisable to have a good read over the fund’s documentation to make sure it suits your needs.

Here are two Global stock ETFs.

• HSBC MSCI World ETF (HMWO) OCF 0.15% (Developed countries only)
• Vanguard FTSE All-World ETF (VWRL) OCF 0.25% (Developed countries and emerging markets)

You pay a little bit more for the one with emerging markets. It is essentially a trade-off between diversification cost.

Many investors don’t think the additional cost is worth it. Typically, only about 10 percent of a global stock index will be made up of emerging markets anyway.

You might think it’s a no-brainer and that you must have exposure to emerging markets because that is where all the global growth is.

However emerging markets and emerging market stocks aren’t the same thing. Just because a country is developing quickly doesn’t mean their stocks are shooting up at the same time.

Stocks for the Long Run by Jeremy J. Siegel contains a comparison of developing countries between 1988 and 2012. As you may have guessed, the country with the largest real per capita GDP growth was China.

China grew at 9% per year during the period. However, if you’d had invested in China’s stocks at the same time, you would have lost over 5% per year!

And if you think that was the exception, contrast it with the situation in Mexico, where GDP growth was just over 1% a year, yet stock market returns were about 17% annually!

Siegel says:

It will probably surprise readers to learn that there is a negative correlation between economic growth and stock returns, and this finding extends not only to those countries in the developed world but also to those in the developing world.

Jeremy J. Siegel

Other investors think more diversification is more than worth additional fees. Personally, I think both sets of investors will be well served in the long run.

UK Government bond ETF

If you are returning to the UK in the future, it probably makes sense to invest in UK government bonds. They are just about as safe an investment as you can make for a UK resident.

Not only is the government pretty much guaranteed to give you your money back, but you don’t have to worry about any fluctuation in currency rates either. UK government bonds are denominated in pounds and you will be spending pounds when you live in the UK.

When you buy UK Government bonds you essentially lend money to the UK government, and the UK government pays you some money at regular intervals for your trouble.

The longer you lend the money for, the more money you’ll receive. However, there is a risk with longer-term bonds and that’s the risk of interest rates rising. As interest rates increase bond values go down.

On top of that, inflation also causes the real value of bonds to go down. For example if your bond is paying 5% annually but inflation is 7% your payments are giving you a real return of -2%. That’s not a good way to make money!

One way to get around this is to invest in short term bonds because in general bonds with longer time horizons will fall further in price than those with shorter time horizons. The downside of this approach is that shorter term bonds don’t pay as much.

Longer term bonds pay higher interest and are more of a diversifier in an investment portfolio because that is what people tend to buy in times of trouble. The value of long-term government bonds often goes up when stock prices down.

Short term bonds don’t pay as much and aren’t likely to go up when stocks crash, but aren’t as sensitive to interest rates.

Because of this you get two groups of investors. One set goes for the shortest duration available and the other invests in a fund with a mix of time durations.

Another option is inflation linked bonds. This type of bond moves up (& down) with inflation so one less thing to worry about. These are usually a little bit more expensive than the other types of bond ETF. (You can read more about them here)

If you want to reduce risk as much as possible then you should invest in the shortest term bond ETF available. If inflation is something you are concerned about, you may want to invest in an inflation protected fund. Otherwise, a bond fund with a mix of durations should serve you very well.

Here are 3 UK Government Bond ETFs:

• JP Morgan Beta Builders UK Gilt 1-5 ETF (JG15) OCF 0.10% (short term)
• Vanguard U.K. Gilt UCITS ETF (VGOV) 0.12% (all durations)
• iShares £ Index-Linked Gilts UCITS ETF (INXG) 0.40% (inflation protected)

Global government bond ETF

If you don’t know where you are going to retire, or if you are living somewhere without high quality government bonds for the foreseeable future, investing in a basket of developed markets government bonds maybe the right thing for you. Here are three options:

• iShares Core Global Aggregate Bond UCITS ETF (SAGG) 0.10% (total global bond market including government and corporate)
• iShares Global AAA-AA Govt Bond UCITS ETF (SAAA) 0.20% (highly rated global government bonds)
• iShares Global Inflation Linked Govt Bond UCITS ETF (IGIL) 0.25% (global inflation linked government bonds)

The first one is much cheaper than the other two but it doesn’t just contain government bonds. It also contains other types of bonds. However, it is over 50% government bonds and over 50% double A rated or above (You can read more about ratings here) so I think it is ok.

The second ETF is highly rated developed market government bonds, and the third is highly rated inflation linked government bonds.

If costs are the most important thing for your investments, you could go for the first one. If inflation is the most important thing for you, the last one could be more suitable. Otherwise, the one in the middle is probably the right option for you.

There are loads of ETFs on the market, but I think the list above provides British expat investors with all they need.

I’d like to say don’t sweat the small stuff because I think any combination of stock and bond ETF from the list above in the correct proportions will provide you with a strong portfolio.

However I’m not a financial advisor so please do your own due diligence and have a look over the ETF’s associated documentation before you invest.

Why no other assets?

There are arguments for adding things like commodities and real estate to your portfolio. However, there are also plenty of arguments against doing so too.

The bottom line is if you invest in a well diversified global portfolio of stocks you will have exposure to these things through companies. Global stock funds are packed with commodity and real estate companies and now you mention it just about every other kind of company you can imagine.

A couple of funds lets you diversity across companies, geographies and assets without making things more complicated than they need to be.

Not only does investing in a stock fund and a bond fund keep it simple, it is also likely to save you money.

Most investors add money to their investment portfolio at regular intervals. When you add money you buy shares and each time you buy shares it usually costs you money in commissions.

So the more funds you have the more commissions you pay.

That said, there are some brokers out there where you can buy commission free ETFs.

Don’t just choose a broker because it offers free commission ETFs, though. But definitely have commission fees as one of your criteria for making your choice.

As mentioned above, in a low return environment keeping things cheap is the name of the game.

Is there anything else I need to consider when buying ETFs?

No matter whether for British expat investing or British resident investing, there are other factors you should consider before choosing one fund over another. Three of the big ones are tracking error, liquidity and size. Let me explain.

Index funds track an index. The tracking error is the difference between the returns of the fund and the returns of the index. The lower the tracking error the better.

Liquidity and size tend to come hand in hand. Liquidity describes how easily something can be bought and sold without that something’s price being affected.

When it comes to investment funds bigger ones tend to be more liquid. Funds that are more liquid usually have low bid/ask spreads. Low bid/ask spreads mean it is cheaper to buy and sell funds and again in a low return environment keeping costs low is paramount.

It’s too simple!

If you are new to all this, you could be thinking this expat investing thing is way easier than you thought it would be. In fact, it’s too simple!

Many investors feel like they need something more sophisticated. And I must admit, it is simple. Simple for the investor anyway!

But just because it is straightforward for the investor doesn’t mean it is too simple. If you stick two of these ETFs together in your investment portfolio, what you end up with is a lot more complicated than it appears.

The fact is, investing in a couple of ETFs like this spreads your money across different geographies, business sectors and asset classes.

If you look under the hood of many pension funds, robo-advisers and mutual funds you’ll find something similar. The only difference is they charge you for it.

Now all you need do is get out there and start investing.