Six to four against and back-end loaded welcome to the new world of money
James Bond said that life was six to four against, and a wise City owl now says that it is back-end loaded. They may amount to the same thing, and, for the unlucky, they will. Look through my owl's amber eyes at what is happening in the world of investment and savings. In that world, a front-end load is the dead weight of cost that you have to bear at the beginning. The early premiums on your life assurance policy go to pay the salesman who persuaded you to buy it. Only when he is paid off does the policy start to provide for you. Once it sets to work, though, it works harder and harder, or that, at least, is the idea. At the end of its life — the back end — its value is compounding strongly. My owl says that we have got used to living in a front-end loaded world. Schemes like PEPs or ISAs, which offered tax shelters for long-term investment in shares, were expensive at the front end, but you could pick your shares with a pin and still expect to come out ahead at the other end. Pension schemes claimed that your expectations would rise with your salary and length of service, so long as you paid the price of hobbling your career and staying put with one employer. (Of course, if you moved around, or got fired, or the employer went out of business, that was different.) Life assurers sold with-profits policies which never, or hardly ever, proved to be with losses. House buyers bought endowment policies which would mature, one day, and pay the mortgage off. Now they consider themselves to have been deceived and betrayed when they learn that they still have something to pay at the back end.
Risk and reward
SO far this millennium, share prices, as measured by the FT-SE index, are down by a third. No wonder that the big investors are doing their sums again, with life assurers looking for cash and for capital, and the pension schemes barring their doors to new applicants. Gone are the happy days when markets always went up and the biggest risk was to be out of them. Alan Greenspan might warn against irrational exuberance but, like greed, it was good for you — and besides, while the great man was still at the Federal Reserve's wheel, nothing could really go wrong. If the Dow Jones index now loses another third of its value, it will be back where it was when he uttered his warn ing. Here and in America, as I thought at the time, shares' last surge to the top was an excess that they could not sustain. It was founded on airy hopes of the transformation that new technology could deliver. We can now see that the arithmetic put out by some of the revolution's leaders was airy, too.
Sorry, wrong number
THIS week's shock comes from WorldCorn, once valued at $180 billion but, now that a major fraud has come to light, very possibly worthless. It was enough to knock what remained of the stuffing out of telecom shares round the world. How relieved British Telecom must be that, when it wanted to splurge $22 billion on an American company. WorldCom outbid it. Two and a half years of falling prices warn that this decade will not bring investors the sort of returns that they saw in the last one. The implications are now showing through: it will be harder for us to stop working and keep ourselves, or be kept, in the style to which we are accustomed. We may have to retrench or to stick to the grindstone for longer. Back-end loading has set in.
HOUSES have been everybody's idea of a front-end loaded investment. Buyers would scrabble to put a deposit together, and grovel to a mortgage lender, and then stretch their incomes to cover two sets of payments — the interest on the money they owed and the daunting business of paying it off. That was a burden that time would lighten. Inflation was eating away the value of their debt, and the money they had borrowed in pound notes could be repaid in pound coins. As for house prices themselves, there was no holding them down, or not so that they stayed down. They overreached themselves and, a decade ago, tumbled over, but in a few years they had picked themselves up and went charging off again towards the blue horizon, or back end. The mortgage lenders are still throwing money at them but are calling for higher interest rates to slow them down — like a man wading into a pub fight while muttering to his friends to hold him back. Prudent lenders would before now have been holding themselves back.
HOW far house prices can race away in the opposite direction from share prices, we shall soon see. This week the Chancellor joined the mortgage lenders in hinting that it was time to hold them back, and the Bank of England will need no encouragement. Not much in the way of dearer money would be needed to change the mood. Logically there would then be two possibilities. Prices might lose their knack of walking on water, and sink. That would leave many recent buyers owing more than they could pay, and would see off the 'buy to let' craze — the middle class's most recent idea of a painless way to make money. Alternatively, houses would still be expensive and mortgages would still be burdensome. Inflation, for so long the housebuyers' friend, has at least for the moment lost its appetite for eating their debt away. My friend the owl tells me that in Switzerland, where money is honest and houses are dear, a mortgage can last for a lifetime. When you inherit your great-uncle's chalet, you inherit his mortgage along with it. Now that is back-end loading for you.
The best investment
WE can learn to live with back-end loading, if we have to. It has been around before now, and is no aberration. At such times, present income can be worth more than the hope of gain later. A house, of course, yields no income and a mortgage can be what its name implies: a dead weight. Cash may be no bad investment — so far this millennium, it has outperformed almost everything — and repaying debt can be the best investment of all. There is no better way of shifting the load so that it is more or less bearable, and of changing the odds so that they may, after all, work in our favour.