Stock markets at record highs – is this a concern?

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Following a number of listeners getting in touch over the summer, we’ve dedicated this episode to answering your questions. Kyle is joined by Craig Rickman, ii’s personal finance editor, to tackle questions related to investments and pensions. We kick off by asking whether record stock market highs are a concern.

Below are links to recent articles that Kyle mentions in the episode:

• Should you invest when markets are at all-time highs?
• The biggest risks keeping fund managers awake at night

Do you have an investment or pension question you’d like Kyle and Craig to answer in a future Q&A episode? If so, we’d love to hear from you. You can get in touch by emailing OTM@ii.co.uk.

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Kyle Caldwell, funds and investment education editor at interactive investor: Hello, and welcome to On The Money, a weekly investment bite-sized show that aims to help you make the most out of your savings and investments.

In this episode, we’re going to be answering questions submitted by listeners over the summer. Joining me to tackle these questions is Craig Rickman, personal finance editor at interactive investor. Craig, great to have you back on the show.

Craig Rickman, personal finance editor at interactive investor: Thanks for having me on, Kyle.

Kyle Caldwell: So, Craig, I’m going to pass the baton to you straight away. The first question that’s been submitted essentially asks, with stock markets at record highs, is this a concern?

The reason I’ve asked you to answer it first, Craig, is because in a previous life, you were a financial adviser. So, I thought it’d be interesting to know whether this question cropped up on occasions when stock markets were performing well. Did you ever have experiences of clients becoming a bit nervous, a bit concerned, and maybe looking to take profits when they saw that stock markets were riding high?

Craig Rickman: Yes, it would happen every now and then. I would say that more clients were concerned when markets were on the way down rather than when they were buoyant.

But when markets are high and when they reach record highs like they have recently, it does trigger some questions and some considerations for investors about what’s the best approach from here on in.

I would say that the majority of clients understood that a financial plan or an investment plan was very much a long-term thing. And while it would be reviewed periodically, usually at least once a year, making changes in response to stock market behavior was largely avoided. Mainly because [markets] are high at the moment, but we still don’t know which way they’re going to go. So, you’re trying to get into this thing around timing the market.

That said, in some specific circumstances, there would be people who would cream off profits and spend the money. An example might be those in retirement. If they've already got enough guaranteed income from other sources and they had some savings and investments or an investment portfolio that was performing well, and they wanted to take some of the profits and enjoy the money by either going on nice holidays or buying a new car or perhaps even gifting money to children, there were some instances of that.

I guess another one was not so much realising the gains and selling out, but reducing risk before retirement. So, if someone’s pension was performing well, markets were doing well, and they were approaching retirement, they were looking to buy guaranteed income, then it wouldn’t be uncommon for them to look to consolidate the gains there as well. That would typically be by moving into safer investments to protect them should markets fall.

So, there are a couple of examples. I think the thing to watch out for if you are looking to consolidate gains and take money out of your investments is tax. So, if you’ve got money in ISAs, that’s fine. But if you have investments in a general investment account, then you need to watch out for capital gains tax. And if you’re making withdrawals from your SIPP, you’d need to watch out for income tax if it doesn’t form part of your tax-free cash.

Kyle Caldwell: Whether to consolidate gains is central to the question that's been sent in. So, it's from Gillian who said, 'Kyle, I know you don't have a crystal ball, but do you think stock markets being at record highs are a concern? Markets have quickly recovered the losses incurred earlier this year, and I'm now concerned that markets have become too complacent to the impacts of US tariffs, and there are no shortage of geopolitical tensions. I'm thinking about taking some risk off the table and taking some profits that I've made from investment trust holdings.’

So, as you mentioned, Craig, in terms of whether to take profits, it really does depend on where you are on your investment journey. If you’re 10, 20 years away from the time, in all likelihood, you’ve got to take a step back, think of your long-term plan, and if your investment objectives haven’t changed, then potentially your investments aren’t going to change either, despite them having a good run of form.

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In terms of risks, I get the point that stock markets have moved quickly over the past couple of months, and it has probably surprised most investors how strongly markets have recovered. Just to put some figures on this, before we started recording the podcast, we crunched the numbers.

From 8 April, which was the day when the stock market started rebounding following the announcement of a 90-day pause on US tariffs being implemented, the S&P 500 has gained 24.5%, and the MSCI World Index is up 23.1%. Those figures are to 4 September, and those returns are for UK-based investors.

If you’re a US investor, you’ll actually have made more than that. But because of the weakness in the US dollar versus the UK pound, it has blunted retains for UK investors. So, in US dollar terms, the S&P 500 is up 31%, and the MSCI World Index is up 29.5%.

Our own home market has also recovered strongly. So, from 8 April to 4 September, the FTSE 100 is up 18.6, and year to date, it’s gained 16%, and that’s outstripped gains of 6.4% and 3.8% for the MSCI World and S&P 500.

Naturally, due to the strong recovery, I can understand why there is some apprehension, or that there could potentially be a pick-up in stock market volatility. The question we don’t know the answer to is, have markets moved on from uncertainty from the US tariffs too quickly?

However, there was a really interesting piece of research a couple of months ago from Schroders, the fund manager, which highlights that in the case of the US stock market, the market actually reaches an all-time high more often than you might think.

So, it looked back at historic data from January 1926, and found in the 1,187 months since then, the market was at an all-time high on 363 occasions, so that’s 31% of the time.

I thought that was a fascinating piece of research, and it just highlights how, over the very long term, the US stock market has been a wealth-creating machine.

Schroders’ research also debunks the notion of investors trying to time the top of the market by switching into cash when a stock market’s at a record high. Its research found that it was actually better to invest at all-time highs rather than switch to cash and then try and reinvest when stock markets fall to a lower level.

I’m going to include a link to the article we wrote up on this research, so that you can check that out in more detail and see all the performance figures quoted for yourselves.

But going back to being wary of the stock market hitting a record high, there’s always reasons to be bearish. There are always headwinds. I think if there weren’t any headwinds, then that in itself would create a fear that the stock market’s unsustainably high. There always needs to be some sort of reason to worry. Otherwise, if the stock market’s far too buoyant, then that’s also very dangerous.

One of our freelance writers wrote an article that outlines the biggest risks keeping fund managers awake at night. Again, I’ll include a link to this below the podcast description for you to check out for yourselves.

Among the biggest risks fund managers highlighted were markets potentially being too complacent on US tariffs; geopolitical tensions; the AI theme potentially becoming overheated in terms of valuations, and the risk of inflation being sticky due to the US tariff regime.

Now, closely linked to those inflation concerns, some managers warned that high levels of government debt across many economies are potentially a very big accident waiting to happen.

Elevated government debt raises the threat that increases in government bond yields will call into question the government’s economic and fiscal credibility. At the moment, there are worries about the lack of economic growth and rising bond yields make that debt more expensive to service.

A sign of that debt becoming potentially too elevated is the fact that the yield on 30-year UK government bonds, also known as gilts, a couple of days prior to this recording, hit a 27-year high. The yield reached just over 5.7%. So, that’s among the biggest concerns at the moment.

Another question that we had related to stock market performance, which I’m going to pass to you, Craig, asks, ‘If stock markets are volatile in the lead-up to retirement, should I carry on working?’ That question came from Robert.

Craig Rickman: Yeah. It’s a very good question. Managing volatility and managing investment risk in the years leading up to retirement is one of the most important things that you can do throughout your savings and investment journey or your journey of saving for retirement.

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And, as the question notes, if something drastic were to happen and markets were to slump, and let’s say that wiped off 20% or 25% of your savings, then ultimately, if you’ve set a date for retirement, you have two options. That’s either that you retire with a smaller fund and ultimately less income than you originally would have liked or originally could have got, or you carry on working.

So, it’s quite an unenviable position. I think what this illustrates is the importance of having a plan, which you probably look to start around five years before retirement. It’s a personal thing, so for some people, they might want to plan years before or some may want to shorten it, but have a plan as to what you would do if markets were to be volatile and, ultimately, if they were to fall. The tactic here is something called derisking, so you take risk off the table, typically done over a period of time.

So, over a number of years, you gradually move from riskier assets such as shares into safer ones. But then, whether you should do that and to what extent, will depend on several factors, namely how you plan to draw an income in retirement, whether you're looking to buy an annuity, a guaranteed income. If that’s what you're looking to do, then derisking is typically more important.

If you’re looking to take flexible income, that doesn’t mean that you shouldn’t derisk, but there’s less need to because, typically, your money is going to remain invested throughout retirement. So, you want to keep the potential for investment growth on the table. But the key thing here is to plan ahead.

The other thing is to diversify. If you’ve got different types of assets, so you’ve got some in equities, some in bonds, some in cash, maybe some commodities as well, if one asset isn’t performing particularly well and is volatile, others might be there to back them up. Those that are more cautious.

So, there’s no one-size-fits-all way to do it, but, yeah, to manage volatility in the lead-up to retirement is really important, and that can avoid you being in the unenviable position of having to carry on working when you’d rather not.

Kyle Caldwell: And, of course, if you’re continuing to use your investments at retirements and you’re paying yourself an income from some of your investments, even if you’re in this nightmare scenario of seeing your pension value plummet by, like, 25% ahead of retirement, if you keep on investing, then you’re giving your investments the chance to recover. Whereas if you buy an annuity, you’re locking in that rate, and that’s the rate that you’re going to get for the rest of your life.

Craig Rickman: Absolutely. Yeah, and I think that, again, explains why it’s so important to think about what you would do with volatility. Volatility in itself isn’t necessarily a bad thing. It’s how that volatility would impact your retirement plans and how it would potentially jeopardise them.

For example, if you were retiring and you had a good, solid base of guaranteed income. So, if you had some defined benefit pension that you’re going to claim and you were claiming the state pension too, and that was going to be more than enough to live comfortably on, if you’ve then got a separate DC pot and things are volatile, but you don’t need to draw that money at the point of retirement, then volatility isn’t going to be as much of a problem compared to someone who, say, is relying on that full pot to generate income. So, they may have a state pension, but they need to generate more to enjoy a comfortable lifestyle.

So, yeah, it’s a personal thing, but it’s something that everyone should think about in the years up to retirement. How you go about it will depend very much on your personal circumstances and how you plan to draw an income.

Kyle Caldwell: Judging by some of the questions that have been sent in, there does seem to be quite a lot of pessimism around. The next question highlights this.

The person asks, ‘If I wanted to introduce some hedging, how might I do that?’ The person who wrote in didn’t leave their name, but - like a lot of people - says, ‘I’ve got a fairly heavy weighting to the US stock market through both S&P 500 trackers and various global funds. I just read an article from Morgan Stanley that forecasted further weakening in the US dollar over the next year or two and suggesting investors add hedges to their exposure to US assets.

‘I think it was targeted at professional fund managers and the like, but it prompted this question for me. I know that there are hedged versions of some funds, but how do I go about doing this? What’s available? Do I just change my asset allocation to have less US exposure, or is there some other way that I might do this?’

As I mentioned earlier, due to the weakness of the US dollar versus the UK pound, the returns for a UK-based investor have been blunted if they are invested in a US fund or if they’re invested in global funds because most global funds have a very heavy weighting to the US.

In particular, if you’re buying a global index fund or a global exchange-traded fund (ETF) that’s tracking the ups and downs of the global stock market, they typically have just over 70% devoted to the US.

Now, for investors who would like to try and mitigate currency risk, there are some funds that come in special versions that strip out changes to the exchange rates. These are called hedged share classes.

These funds have the exact same holdings and same fund manager as a regular non-hedged fund. However, the difference is that due to the currency hedging, UK investors will see the same percentage rise or ,if it’s been a bad time, same percentage fall in their funds as local investors with no reduction or benefits from the currency movements.

So, these funds are not trying to call which direction currencies will move in. The hedge simply aims to cut out the currency exposure, good or bad.

One thing to bear in mind with these funds is that the hedging currencies cost money, so the annual fund fee on a hedge share class is typically a bit higher. It’s typically 0.1 to 0.2 percentage points higher.

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Now the trouble is there’s not that many hedged share classes available. I’ve questioned various salespeople at fund management companies over the years about why the fund firm they work for doesn’t offer more hedged share class versions, and the responses I’ve had are that they’re not seeing enough demand. In some conversations, it’s been put to me that over the very long term, currency movements tend to even themselves out.

I’m not totally convinced about the latter arguments, and I also think that sometimes people want to try and use a short-term opportunity to try and profit, and this is a potential time to do that with the US dollar weakening.

Now, just to give you a couple of examples of funds that do offer a hedged share class for the US stock market, they include Artemis US Select I Hedged Acc GBP and JPM US Equity Income C GBPH Net Inc.

Both those funds offer hedged and unhedged share class versions. There are other ones available as well, but those two sprang to mind when I was thinking about the answer to this specific question.

However, there are other ways to reduce the concentration risk with the US stock market while not selling out of the whole market entirely. As I’ve mentioned on this podcast before, you could look for an equally weighted index fund or ETF.

There are some available that equally weight the S&P 500 index. What they do is they own the same percentage weightings in every single stock in that index. So, each individual stock will comprise 0.2% of the index fund or ETF.

Among the ones available on our platform are funds from Invesco, Xtrackers, and UBS. They all have S&P 500 equal weight ETFs.

There are other ways to introduce more tactical exposure for those looking to lessen the impact of volatility.

An ETF example that adopts a minimum volatility strategy is the iShares Edge S&P 500 Minimum Volatility ETF USD Acc (LSE:SPMV) ETF. So, this ETF targets shares that are typically among the steadiest performers, and it owns a basket of those shares and follows the ups and downs of those shares. There’s also a global version as well.

Another potential route to reduce concentration risk when investing in the US stock market is to target global funds that are underweight the US. Examples include Artemis Global Income I Acc and Ranmore Global Equity, both of which were among our most-bought funds in August among interactive investor customers.

We’re now going to move on to a completely different topic. So, this was a comment taken from one of our podcast episodes on the ii YouTube channel. The person asked, ‘What are your thoughts on pension funds voluntarily investing 10% of their money as part of the Mansion House Accord? Will they be using all the funds, or will this just be for the most high-risk profile funds?’

Craig, I’ll pass that one to you given you’re our resident pension expert.

Craig Rickman: Thank you. Yeah. So, the Mansion House Accord, I think it’s worth initially just unpacking what this initiative is, and then I’ll share some of my thoughts on it and try and answer those questions.

So, this is a voluntary agreement among 17 of the UK’s biggest pension schemes. So, these manage around 90% of active savers defined contribution assets.

Some household names here, the likes of Aviva, Legal and General, Royal London, etc. So, these pension schemes have pledged to invest 10% of their default funds. That part’s important, and I’ll come on to why in a second, but they’ve pledged to invest 10% of their default funds in private markets with 5%, so half of this figure, in the UK, and they’ve committed to doing this by 2030.

Just a bit about private markets. So, these involve companies that aren’t on the main exchanges, so typically things like private equity and infrastructure.

The aim of this initiative is to try and boost saver returns and stimulate the economy at the same time. Whether it will boost saver returns, we don’t know. In fact, the government published some figures on this to show some comparisons as to what people could get, or what schemes could generate for savers, by increasing allocations to private assets, and the expected differences weren’t huge. They’re actually quite small, and, obviously, they’re not guaranteed either. So there’s a bit of skepticism over whether this actually will improve returns for savers.

So, what are my thoughts? The government getting involved with where pension schemes invest savers’ money is always going to be a bit controversial. I appreciate this is a voluntary agreement, but it’s clear that the government has had some pretty heavy influence on what’s going on.

In terms of where schemes will invest, I can only assume as it’s a voluntary agreement that schemes will have discretion about how they deploy this money into private markets.

But, again, going back to the point I made earlier around default funds, or elaborating on it, that’s one of the really interesting points. So, it’s only going to apply to default funds within pension schemes. So, when you start at a company and join the pension scheme, if you don’t tell them where you want the money invested, that’s what they’ll pop you into, so-called default funds. And there are a few problems with default funds or a few potential problems.

One is that they’re designed to cater for a wide range of investors. So, they can often be quite cautious by nature. So, they were designed to hone the money of those who are just starting to save for retirement and those towards the end.

I know from a previous employer, I looked into the default fund when I started, and only 35% of it was invested in equities, the rest in fixed interest. At the time, I had three decades before state pension age.

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That’s a long time to be investing in such a small proportion of equities. Far too cautious for what I was looking for, and so I moved it into something else. And that will be available to you from what we understand under this Mansion House Accord.

So, if you don’t want to invest in UK private assets and you want to invest, say, a 100% in global shares, if your scheme has a fund like that, and to be honest, most of these do, most offer hundreds of funds, then you can do that. So, while this is going to apply to savers for those 17 pension schemes, it doesn’t necessarily have to apply to you.

But you will need to engage with your workplace pension, and you will need to take some action. But in any case, if you’ve been put into a default fund, you should review it anyway because it’s possible that there might be other investments and other funds and solutions out there which might be far more suitable for you and what you’re looking to achieve.

Kyle Caldwell: It’s the main thing I bring up, Craig, when I’m with family and friends. I’ve reached that age where dinner conversation is around what you’re invested in, what your pension’s invested in.

Well, that’s a good thing, though, because it’s really important to engage with your pension and to look under the bonnet and take a view on whether, if you are in a default fund, that’s right for you in terms of how it’s allocated.

I had the same scenario as you, Craig. I was first put into a pension default fund that was 60% shares, 40% bonds. I was in my early to mid-20s. I don’t think at that age, it needs any exposure to bonds, never mind 40%. So, I did switch, and I put it into a global fund that was 100% global equities.

As you mentioned, Craig, if under this policy, they’re only going to go into default funds, then you can take a view. If you don’t want to have 10% exposure to UK growth assets, then you don’t need to because you can make your own investment decisions and allocate yourself and decide what you want to invest in.

But if you don’t and you’re in a default fund, then in future, that’s how it may end up being allocated.

As you mentioned, it is voluntary, but the aspiration is that that’s how they will be invested. They will have up to 10% in growth assets, including private assets.

I think AIM shares are also going to be eligible for inclusion as well, and that was confirmed a couple of months ago.

So, you just need to be comfortable with the risk that’s being taken as well. As ever, it’s important to look under the bonnet.

Craig, we’re going to stick with pensions for our final question. Now, this is a very big topic, and we could probably devote an entire episode to it. I’m going to give you the final couple of minutes to share your views. The question comes from Rupert, who asks, ‘How reliant should I be on the state pension when I’m planning for my retirement?’

Craig Rickman: Well, I think if you retired with just the state pension and no other income, unless you are incredibly frugal and want to live a very, very simple life in retirement, you’re probably going to struggle. So, relying on it in its entirety, that might be a risky approach.

That said, I think there are very few people who can retire without needing the state pension to live the lifestyle that they want. So, it’s worth just talking through what you get if you were to retire today and when you can get it.

So, the full state pension, which you need 35 years of qualifying National Insurance contributions or credits to receive, is currently just under £12,000 a year. Interestingly, it uprates every year under the triple lock, which means it increases by the highest of inflation, average wage growth or 2.5%. So, that’s a valuable feature as well.

The age that you can claim it is currently 66. That’s going up to 67 from 2028, and it’s scheduled to go up to 68 from 2044 to 2046. The state pension age is currently under review, so that timetable might change. We should learn more in the next couple of years.

But in terms of relying on it, another important aspect is the age that you plan to retire. So, as I say, at the moment, you can currently claim it at 66. But if you want to retire at 60, then you’re going to have to factor in six years where you’re not going to have state pension income, which you’re probably going to have to, almost certainly, make up from other savings.

So, that’s an important thing to consider too. But again, it’s a really valuable source of income in retirement. If you wanted to replicate that with an annuity, plus the fact that it increases every year, so an escalating annuity, then you probably need a pot of £250 to £300,000, depending on your age. So, it’s a really valuable source of income in retirement. Although I don’t think anyone could rely exclusively on it, not if you want to live comfortably in later life.

It's really, really important. I know that some people are skeptical about its future. When you read surveys, younger people are concerned that they might not get a state pension. I guess my view is that there will be a state pension, but the thing that may change is the age that you can claim it.

So, under this review that’s going on, it’s currently due to increase to 68 in the mid 2040s. There’s every possibility that that timetable could be brought forward and in addition the age could increase as well above 68.

I’m due to claim my state pension in 2050. Whether I’ll be able to claim it at that point, I’m not too sure. Maybe I’ll find out more in the next couple of years.

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Kyle Caldwell: On the point about skepticism around whether the state pension will even exist in the decades to come, I brought this up with my mum fairly recently, and she said that when she was in her 30s and 40s, she thought exactly the same thing.

So, it could be a normal fear that people have in that age category. I mean, people are living longer and having longer retirements. So, it is going to become harder to fund in the future because of that.

I’ve seen, in the past, a think-tank discussing the prospect of the state pension being means-tested. I think that would be so highly controversial that whatever government even proposed it, never mind implemented it, wouldn’t win them many favours when they next tried to be re-elected. So, I just can’t ever see it happening.

But I think in terms of saving towards your retirement, the onus has switched to the individual to take control of their financial future. Nowadays, the vast majority of us have defined contribution pensions whereby what you put in and how the investments perform are going to make a big difference regarding how big your pension pot is at retirement.

That’s why it’s really important to engage with your pension. I know we go on about it a lot. But looking under the bonnet, understanding what you’re investing in, whether it meets your goals and objectives, and then taking a view on whether what you’ve invested in is still appropriate for you is vital.

Craig Rickman: Yeah. Just to add to that, the important thing is to set yourself a target income as soon as you can. That gives you more time to save and invest towards it. In most cases, you want to translate into a pot size, and there are plenty of pension calculators online that can help you do it, but doing that will help to give you a gauge of what you need to do to create the kind of retirement lifestyle that you aspire to.

Kyle Caldwell: That’s all we have time for for this episode. We had lots of questions sent in, so I’m sorry that I couldn’t get to all of them. Please do keep your questions coming to OTM@ii.co.uk. I’ll look to do another Q&A episode in the months ahead. My thanks to Craig, and thank you for listening to this episode of On the Money.

If you enjoyed it, please follow the show in your podcast app and do tell your friends about it. If you get a chance, please leave us a review or a rating in your preferred podcast app too. Those ratings and reviews really help to get the podcast into more ears. So, if you can spare the time to give us that five-star review, that’d be great. We’d love to hear from you.

You can get in touch by emailing OTM@ii.co.uk. In the meantime, you can find more information and practical points on to how to get the most out of your investments on the interactive investor website. I’ll see you next week.

On The Money is an interactive investor (ii) podcast.