: Spring 2017
Fed raises its key interest rate As expected, the US Federal Reserve (Fed) raised its key interest rate by onequarter of a percentage point to a range of 0.75% to 1% at its March interestratesetting meeting. This was the second increase in interest rates in three months; the Federal Funds rate hit nearzero levels in 2008 and remained unchanged until the Fed raised its rate by 0.25 percentage points in December 2015 and again in December 2016 as the economic recovery continued to gain traction.
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The Fed’s move was widely anticipated in the wake of an increasingly hawkish tone from the Federal Open Market Committee (FOMC) and Fed Chair Janet Yellen. The decision was not, however, unanimous – nine Fed officials voted in favour of tightening rates, while one policymaker voted for no change. Ms Yellen said, “Even after this increase, monetary policy remains accommodative, thus supporting some further strengthening in the job market and a sustained return to 2% inflation”. Although the Fed appears more confident about the outlook for inflation, household spending, and business investment, future rate increases are still likely to be “gradual”. Looking ahead, further rate increases are widely expected this year; the FOMC’s next meeting is scheduled to take place in May. In its statement, the Fed emphasised that officials will continue to monitor inflationary developments relative to its “symmetric” inflation goal. Consumer price inflation rose at an annualised rate of 2.7% in February, while core inflation – which strips out food and energy costs – rose by 2.2% year on year. Policymakers expect core inflation to reach 1.9% this year and 2% in 2018 and 2019. Labour market data appears relatively encouraging and the rate of unemployment fell to 4.7% in February. The increase in the Federal Funds rate suggests that Fed officials are broadly optimistic about the economic outlook and do not believe that higher borrowing costs will have a significant impact on consumer spending. Ms Yellen said that a “modest increase” in the Federal Funds rate was appropriate “in light of the economy’s solid progress”. The economy is forecast to grow by 2.1% in 2017 and 2018, moderating to 1.9% in 2019. Nevertheless, it is worth noting that the Fed’s expectations for economic growth remain considerably lower than those of President Donald Trump, who is aiming to return the US to an annualised GDP growth rate of 4%.
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UK inflation gathers pace The UK’s headline rate of inflation rose above the Bank of England’s (BoE’s) 2% inflation target for the first time since September 2013 during February. The annualised rate of inflation (as measured by CPIH) surged to 2.3% in February, compared with 1.9% in January. In comparison, average wage growth (excluding bonuses) for the three months to January 2017 slowed to 2.3%. Higher prices for transport and fuel helped to drive up the cost of living; meanwhile, food prices rose at an annualised rate of 0.3% following 31 consecutive months of annualised decline. The pound’s strength following last summer’s Brexit vote has helped to push up import prices. According to its most recent Quarterly Inflation Report, the BoE expects consumer price inflation to reach 2.8% in the first half of 2018. The BoE’s key interest rate reached an alltime low of 0.25% in August 2016, but policymakers appear to be in no hurry to tighten interest rates at present. The Office for National Statistics (ONS) has changed its headline measure of inflation from the Consumer Prices Index (CPI) to CPIH, which includes housing costs. It is worth noting that annualised CPI also came in at 2.3% in February, compared with 1.8% in January. Nevertheless, according to the ONS, CPIH has been 0.3 percentage points above CPI on average over the past two years. Over the past decade, however, CPI has been an average of 0.2 percentage points above CPIH.
The benefits of regular savings In the complex world of investment, timing might appear to be crucial. However – unless you are gifted with foresight – it is impossible to secondguess the market. Nevertheless, there is a solution: by saving regularly, investors can benefit from what is known as ‘poundcost averaging’. This mitigates the risk of buying your entire investment at a single price; instead, smaller sums are regularly invested at a variety of different prices, reducing the risk of investing at the wrong time. Most investment products offer regular savings schemes as an option, including investment funds, Individual Savings Accounts (ISAs), life assurance and pension plans.
Interest in possession trusts An interest in possession trust separates the right to the income and the right to the capital from the trust’s assets. An income beneficiary will have a right to the income generated; the trustees are responsible for paying income tax on income generated by the assets in the trust, and the beneficiary receive the income after tax and expenses. In most cases, however, the rights to the capital will pass to a different beneficiary at a specified point in the future. Such trusts are commonly used to provide for a surviving spouse whilst ensuring the assets ultimately pass to children.
What is NEST? The National Employment Savings Trust (NEST) is a defined contribution workplace pension scheme set up by the UK government to support autoenrolment. NEST provides one pension pot per person, ensuring a simple, costeffective, easytotrack pension scheme for individuals who might subsequently change their job or stop working altogether. The annual contribution limit for each member’s pot is currently limited to £4,900 for the 2016/17 tax year, which might make NEST less attractive to those earning a moderate or high income. Any UK company can choose to use NEST to help them meet their new obligations. An employer can use NEST as its only workplace pension scheme or alongside another scheme. If NEST is unsuitable for the entire workforce, the employer can choose to use NEST for one group of employees and another pension scheme for employees who fall within a different category. NEST members can choose from a total of six funds in which to invest their pension pot. Retirement Date Funds target the year in which the saver expects to withdraw their money, and NEST also offers Ethical, Higher Risk, Lower Growth, Preretirement, and Sharia options. However, the majority of members are expected to opt for the defaultoption Retirement Date Funds. NEST’s charges are relatively low, comprising an annual management charge of 0.3%, and a charge of 1.8% for each contribution. At present, NEST is available free of charge for any UK employer who wants to use it.
Your choices at retirement When you reach retirement age, you have important choices to make. Reforms introduced from April 2015 drastically increased the amount of freedom and choice available for pension savers. Individuals can now choose how and when they access their pension pot, and can tailor their approach to their personal circumstances. * An annuity will provide a predictable income stream, but annuity rates are low and do not necessarily offer good value. * Flexiaccess drawdown: you can take up to 25% of your pension pot taxfree, and reinvest the remainder to generate a regular, taxable income. However, income is not guaranteed and you could run out of money. * Take the entire pot as cash in a single withdrawal: 25% of each withdrawal is taxfree and the remaining 75% will incur income tax, so you could incur a substantial tax charge. * Take lump sums when you choose: this spreads your 25% taxfree allowance. However, your pension provider might restrict the number of withdrawals you can make in a year, and you could incur a tax bill if your withdrawals push you into a higher incometax bracket. *Alternatively, you can leave your pension pot untouched until a later date, allowing it to continue to grow. Above all, having spent years building up your pension pot, it’s important that you take time to make the right decision. Talk to your financial adviser; alternatively, Pension Wise (www.pensionwise.gov.uk) is a governmentprovided service that provides free, impartial guidance on your options.
Government Uturn on NICs One week after unveiling a controversial increase in National Insurance Contributions (NICs) for the selfemployed at the Spring Budget, the Government performed an unexpected Uturn. In a letter to the Chairman of the Treasury Select Committee, Chancellor of the Exchequer Philip Hammond announced that planned increases to Class 4 NICs would not take place during the current Parliament, which is scheduled to end by 2020. Under the Budget proposals, Class 4 NICs would have increased from 9% to 10% in April 2018 and from 10% to 11% in April 2019. The changes were intended to redress the imbalance between employees and the selfemployed; however, the uplift was heavily criticised for breaking the Conservative Party’s 2015 manifesto pledge not to raise NICs. The British Chambers of Commerce (BCC) welcomed the announcement and urged the Government to examine business and employment taxation “in the round” in order to ensure that the tax system is fair. Meanwhile, the Federation of Small Businesses (FSB), which had described the decision as a “tax grab” on the selfemployed, hailed the government’s volteface as “a victory for our economy’s strivers and risktakers”. The planned increases were expected to raise £325 million in 201819, and £645 million in 201920, provoked questions over how the Chancellor intends to plug the gap. Mr Hammond said that the cost of the change would be funded by measures that will be revealed at the Autumn Budget later this year.
What is a corporate bond? Corporate bonds are loans issued by companies and funded by investors. In exchange for your capital, companies pay preagreed interest payments at regular intervals, and eventually repay the capital at a specified future date. The fixed nature of their payments makes corporate bonds particularly attractive for investors who want to supplement an existing income stream. The corporate bond market is divided into two principal segments: investmentgrade bonds, which are generally considered to be relatively financially secure; and high yield bonds, which offer higher interest payments than investmentgrade bonds in order to compensate investors for taking a greater level of risk.