Pension traps, inflation traps and retirement traps to avoid; Today, we're delving into the reader mailbag for your thoughts and questions about pensions, inflation, banks, and retiring abroad. They all have one thing in common, though: they all involve evading a trap before it clamps shut.
This is especially true of the first…
Would it be possible to obtain your insight or ideas into the […] Pension, and whether you think there are alternatives to keeping in it if it's a wise investment, and so on?
Some pensions, like many others, appear to be good at first glance, but the goalposts frequently shift as contribution percentages and length of service requirements alter. If you have the time to think about it, I'd like to hear your opinions.
We can't comment on individual pensions, which is why I removed R's name. But it's the second paragraph that truly piqued my interest. The concept of relocating the goalposts.
You know, once you're inside a plan, tax structure, scheme, or whatever it is, it might be difficult to get out. Meanwhile, those in charge may easily adjust the goalposts, change the rules, shift the incentives, and reduce the promises. This is especially true of the government, which alters the laws that are supposed to control us.
In the past, bringing up this topic elicited a rush of reader letters about Gordon Brown's revisions to pension policy. That change exemplified the point I'm attempting to make. When investing, be mindful of any type of pen that may be difficult to get out of. You might get a “door slams shut behind you” experience.
The solution is to diversify. Utilize incentives such as ISAs and pensions, but don't rely on them for a large portion of your wealth. They will very certainly become targets in the future.
When it comes to goals…
Good day, Fortune and Freedom Team.
Could someone please explain the following?
My friend just informed me that he had remortgaged in order to construct an extension. Nice, I responded, just out of curiosity, what rate did you get? He informed me that he had locked his rate at 2% for ten years. 2%
I tried it myself, borrowing £100,000 for ten years with my current mortgage provider, and they offered me the same rate, 2%.
Now, I've learned a lot since joining Fortune and Freedom, and if I'm correct, if a bank agrees to fix a rate at 2% for ten years, interest rates will remain low for the foreseeable future.
This does not appear to be related to the Bank of England tightening monetary policy by raising interest rates, as expected, to alleviate so-called inflation fears.
Perhaps inflation IS temporary. What exactly is going on? Is there something I'm missing, or can we expect cheap money for a while longer?
It is far from certain or even expected, that inflation will continue to soar and central banks would tighten interest rates. Heck, given present levels, 2% would be quite a shock to individuals who are accustomed to 0% or even negative rates!
P.M.'s email encouraged me to pose a similar inquiry to our experts, former (reformed and possibly contrite) bankers Rob Marstrand of UK Independent Wealth and Charlie Morris of The Fleet Street Letter Wealth Builder.
I inquired whether bank stock would be a suitable investment when interest rates climb. Yes, according to conventional opinion, because they can earn more money when interest rates rise.
Because of the difficulties raised by P.M., I say “no.” How can banks earn money if interest rates rise after lending at 2% for ten years?
Rob and Charlie's response nearly gave me a headache, but here's the gist…
Banks can create deals with investors to offload the risk of rising interest rates. The bank that lends at a fixed rate of 2% on a mortgage can locate an investment bank ready to take on the risk of rising interest rates and pay upon the losses the bank incurs as a result. However, the agreement is mutual, and the bank would be required to pay up if interest rates fell. However, the net impact is to de-risk the bank's part of the transaction while shifting the risk to someone else willing to bet on interest rates lowering.
One option for an investment bank is to purchase an investor's fixed-rate mortgage loan and include it as part of an MBS (mortgage-backed securities).
As a result, the bank only makes a profit on the interest margin – the difference between what it costs the bank to borrow money and the profit it makes when it lends. And if interest rates rise, the interest margin on new loans and variable loans is likely to rise as well.
Another possibility will be recognisable to those who remember 2008.
The mortgage lender may potentially sell the fixed-rate mortgage loan to an investment bank, which will incorporate it in a mortgage-backed security (MBS) sold to investors.
The mortgage lending bank receives loan arrangement/maintenance fees but does not receive interest or have to use capital in this manner.
The MBS is most likely purchased by a pension fund or bond fund whose manager believes that a yield of 2% is appealing…
The underlying issue, however, remains the same. Someone expects interest rates to fall sharply and is ready to gamble on it. I guess ten years is a long time…
This email, which was sent in October, appears to be foresighted:
With regard to the state of the markets, are we witnessing a situation similar to that right prior to the 2008 catastrophe, when, despite hundreds of thousands of homeowners defaulting in the United States, the stock prices of major mortgage lenders and other financial institutions were actually rising?
Michael Lewis masterfully explained this in his book The Big Short, as well as in the film that followed. The system kept feeding itself, like a perpetual motion machine, until it couldn't anymore!
The mortgage lender may sell the fixed-rate mortgage loan to an investment bank, which will include it in a mortgage-backed security (MBS) that is sold to investors.
Companies are overvalued, and inflation is on the rise, yet the markets appear to be continuing their upward path. It's nearly like the dying days of a star, when it grows to many times its original size before imploding.
Indeed, stocks have recently corrected dramatically. Inflation and rising interest rates are weakening valuations, just as PM predicted.
I'm not sure if we're on the verge of a real crash. Timing is difficult, as PM's email also emphasises. However, the point is that the likelihood of such a collapse is extraordinarily high.
However, not all crashes are financial…
After listening to your fascinating podcast with Sam Volkering on financial repression, I felt compelled to add a few words.
You see, I've been retired in the Philippines for ten years, with all of my meagre income generated in the UK, where taxes must be paid.
Naturally, cash must be sent from my UK bank account to a local account in another country on a regular basis. This technique has had some hiccups, but in general, it has allowed for faster transfers via Worldremit.com rather than an expensive bank transfer.
However, in late December of last year, the Philippines was hit by a tornado, which knocked off the electrical supply and broadband connection in Cebu City, where I live. It also meant that ATM machines, as well as bank in-house computers, were rendered useless.
Delaying any financial transfers from the UK in the hope of a favourable increase in the exchange rate had exposed me to a position in which locally available funds had dropped dangerously low, with no way to top them up for an undetermined period of time.
Of course, after a few days, select banks were able to arrange for an electricity generator to power their ATM for limited periods during the day, but the lines were horrible, and it could take an entire morning waiting in the blazing sun to withdraw any cash.
Fortunately, a wonderful friend was able to assist me financially until the situation returned to normal after about three weeks.
What I've learnt is that it's always a good idea to keep a significant sum in a local account in case of an unforeseen tragedy, but that doing so does not guarantee that you'll be able to withdraw if the banks lose power.
Similarly, without electrical power, crypto becomes inaccessible, so while it may technically provide a safe haven, it is not yet a perfectly reliable replacement to the old banking system for everyday expenditure.
This is why, according to the series of emails sent to all new Fortune & Freedom subscribers, cash is our number one asset to hold. That is something I had to learn the hard way as well…
Editor, Fortune & Freedom
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