Martin Fagan suggests some options that can turn regular savings of £50 per month into a sizeable nest egg.

The risks inherent in committing to most investment markets may be offputting at present, but investors can’t expect any return if they just stash the money in a mattress; and, even if you do just that, don’t assume your money is safe.

Remember the Israeli woman who, in June this year, threw her mother’s mattress away only to discover that it contained $1 million (£620,000) her mother had been squirrelling away. So the mattress is the worst of both worlds – lots of risk and absolutely no reward.

Keeping it simple
Arguably the least risky route to regular saving is a cash savings account. And if you have some unused ISA allowance, you can use this to avoid paying 20 per cent tax on any interest your savings generate.

The whole point of a savings account is that you entrust your money to the institution paying the best rates of interest, and these change weekly, sometimes daily. But there are some aspects of how institutions – be they banks, building societies, telephone or internet organisations – structure their savings accounts you should bear in mind before committing your cash.

The first is that tempting, larger-than-average, tax-free headline yield. On the surface, the rate paid on a savings account/cash ISA is very good – but check first to see if any nasties lurk in the small print. For one thing, be suspicious of that headline-grabbing rate of interest: there are always strings attached. If you want no-notice, penalty-free access to your cash, you might not get it from the organisation offering the highest rate.

With ISAs, there is also a possibility that the highest rate – however penalty-free – will only be applicable to savers who deposit the whole £3,600 allowance as a lump sum, so if you’re investing £50 a month, this isn’t something you’ll benefit from. And a high number of cash ISA rates include a ‘loyalty’ bonus – usually 0.5 per cent – that is paid only if no withdrawals are made during the first 12 months. If you have to take money out, the rate drops.

It’s about now that the risk-averse might ask the question: ‘Well, what about National Savings?’ Yes, they are risk free in that your capital is 100 per cent guaranteed by the government, but few of its products are geared for regular savings. And those that are – Direct ISA, Premium Bonds, Easy Access Savings Account – all require monthly contributions of more than £50. The only regular savings NS&I product to fit our bill is the Investment Account, which takes monthly payments of £20. But it is currently only paying 0.2 per cent a year on deposits under £25,000 and is not tax free. You’ll easily find better deals elsewhere on the high street or online.

Risks and rewards
For someone with a medium-term view – five years or more – and an appetite for risk, there are ways to get that monthly £50 into the stock market. These chiefly involve unit trusts (or OEICs), investment trusts or buying shares directly through a stockbroker’s share purchase plan.

There are literally hundreds of unit trusts out there, but here are three that not only will take £50 a month, but also are well managed and offer a cautious, balanced and adventurous approach to the markets.

Managed by Nigel Thomas, the AXA Framlington UK Select Opportunities fund invests in the UK and Thomas is a highly respected manager. Like the vast majority of funds it has spent the past two years falling off a cliff but looks poised for recovery. Your £50 a month over the last five years – £3,000 in total – would now be worth £2,666.63. But, as they always say, past performance is no guide to the future…

The T. Bailey Growth Fund is a fund of funds that has just announced that it will reduce its exposure to UK markets from 40 to 25 per cent while increasing its weighting towards the US from 15 to 25 per cent and upping its exposure to emerging markets from 15 to 17.5 per cent.  Had you invested £50 a month over the past five years, your £3,000 would be worth £2,713.97, but global markets look a more optimistic bet over the next five years and the fund is positioning itself for this.

If an investor is squirrelling away £50 a month for the long term, will accept a degree of volatility and wants to diversify away from UK equities, they should give BlackRock Merrill Lynch Gold & General fund serious consideration. It’s the only one of our three with a positive return over five years – £4,363.66 – as gold is seen as the perfect hedge against falling markets and it is also a good way of putting a little bit of spice into your portfolio.

The investment trust option
Although Witan Investment Trust has its well-known ‘Jump’ savings plan for children, it also welcomes monthly investment from adults. Witan manages an international portfolio, and although its biggest single holding is the UK (32 per cent), it has a combined exposure of around 60 per cent to the US, Europe and Japan and the Far East and, over five years of £50 a month, has returned £2,854.96. Like Witan, the Scottish Mortgage Investment Trust has a global reach and has a slightly better return at £2,918.83 over five years.

If you want something riskier, are comfortable with volatility and like the idea of exposure to private equity, then Graphite Enterprise Trust Plc is a fairly liquid way into the private equity market.  The share price has taken a hammering these past 12 months, losing 35 per cent of its value and reducing your five-year return to £2,785.63. But the NAV is almost unchanged and the discount to NAV on the shares is 35 per cent. At current prices, this means you’re getting £1 of assets for 65p.

Direct action
Another option, often overlooked, is investing £50 a month directly into shares. Hitherto, this would have been unfeasible, simply because of the trading fees charged by stockbrokers, ranging from £6.50 to £15 per trade, although the average is around £10 – that’s 20 per cent of your monthly investment spent on fees before your money reaches the market. But, over the past few years, a number of the big brokers have developed schemes to pool the share purchases of numerous small investors to produce economies of scale and reduce trading fees.

One such scheme is Halifax Sharebuilder, where an investor creates a regular investment plan online to automatically purchase their chosen investments on a set day each month. Because the scheme only invests on a set day four times a month, Halifax is able to group customers’ orders together to limit costs. Of your £50 monthly contributions, Halifax charges a fee of £1.50 and the government charges 25p stamp duty, so £48.25 remains to buys shares.

The main drawback with buying individual shares is that it takes a while to grow the portfolio to a point where there are enough individual companies in there for diversification to reduce risk. However, the very nature of investing £50 regularly reduces risk because of something called ‘pound-cost averaging’.

Regular savings, whether phased over different periods or through a regular savings scheme, can be very beneficial in a volatile market. Drip feeding your money into the stock market in this way means that each month when your money is invested, you will buy a different number of units or shares, depending on the price. So, for example, if the price drops you will have more units/shares to benefit from future growth. Conversely, if the price rises, you’ll buy fewer units/shares.

Starting small
If £50 a month is too big a commitment to make but you can spare £25, check out the tax-free savings plans that friendly societies offer, which are unique to these societies. They are in addition to your ISA allowance and also include a small amount of life cover. Monthly contributions are invested in the society’s with-profits fund and the plan must run for a minimum of ten years (the maximum term is 45 years!). At the end of the period the investor receives a lump sum free of tax.

According to the UK’s biggest friendly society, Liverpool Victoria, the maturity value for its 10-Year Tax Free Savings Plan starting 1 July 1999 for a male non-smoker who was aged 30 next birthday at entry paying £25 a month is £3,325.42. This corresponds to an effective net annual yield of 2.03 per cent over the policy’s duration.

Clearly the market volatility in two periods – 2000-02 and over the past year or so – has impacted returns. The recent market falls have had an adverse impact on the plan at a time when most of the money had been paid in, even allowing for smoothing of investment returns. The value of a ten-year plan maturing in July 2008, before the worst of the recent volatility, would have been £3,757.

So if you have £50 a month to spare at the end of every month – invest it. In ten years’ time, you’ll be glad you did.