ISA Types
Bonds & gilts
If you cannot properly put cash into an ISA, the next best thing is government bonds or bonds issued by companies. These are perfectly acceptable, aslong as there is at least five years left before the gilt or bond has to be repaid or "redeemed". This rules out short-term term issues, which carry lower risk. It also means that you must be careful when choosing a bond fund that the underlying investments qualify - check with the provider before you buy.
Deemed to be least risky are government bonds or "gilts". Given that they are guaranteed by the state, the assumption is that the interest will be paid on time and the money repaid when due. Even so, the average yield (like the interest rate) of the 49 funds listed under this heading by TrustNet, which provides comparative figures, was just 3.1% at the end of December, much less than a decent savings account. The hope is that that return will be augmented by a capital gain, although traditionally gilts and bonds find it difficult to make progress when wider interest rates rise, as they now seem to be doing.
Tracker funds
These allow an investor to more or less exactly mirror the returns available from a major stock market index, usually either the FTSE 100 or the FT All Share, hence the 'tracker' appellation. They are said to be less risky by market aficionados because risk is often defined by how close an investment follows the twists and turns of the wider market. Most people who saw trackers fall for three years in a row after 1999 would not, however, describe them as low risk.
Their advantages include simplicity, low cost and the ability to easily follow their progress. The disadvantage is that value of your investment falls in bad years and never has the opportunity of outperforming the market in the good ones.
Income funds
As the name suggests, these funds are managed with an eye to producing an income, either through shares which pay a high level of dividends (or "yield") or through bonds or through a mixture of the two. The risk should be relatively low, as the underlying companies in which the fund invests are likely to be mature and therefore good generators of cash.
The 46 funds covered by TrustNet in the UK Equity and Bond Income sector at the end of December provided a current yield of 4.2% - respectable, but still less than the best savings accounts.
Balanced funds
These, in theory, allow the investor to take an element of income and an element of capital growth and combine them in the same portfolio. To that extent, they are slightly more risky than a pure income fund and slightly less than a capital growth fund.
In fact, end-December performance statistics show the 27 in the TrustNet "universe" of UK "managed" funds on a sub-par yield of 2.3%, having gained 13% in capital terms over the first eleven-and-a-bit months of 2003. That is below the rest of the market, as defined by the FT All Share index, which put on 16% in the period.
Capital growth funds
Arguably the most risky type of general fund is that dedicated to capital growth. It will necessarily aim for slightly more speculative companies and obviously those growing faster than average. Such investments are highly rated by the market, but the danger is that if they fail to perform, their fall from grace is likely to be brutal. This means you have to be prepared to roll with the punches.
That said, capital growth is really the bottom line with equity investment. And with the ending of the cash dividend tax credit within ISAs next April, freedom from capital gains tax is all that these allegedly "tax-exempt" envelopes will provide. The statistics speak for themselves: the 186 UK Equity Growth funds generate a typical yield of 1.3% and have grown by nearly 21% in 2003.
Other categories
As well as dividing funds by type of return or risk, a number of other divisions are possible. Generally, most people want to put their money in UK-orientated funds or shares. However, it is possible to buy a fund with a different geographical bias. These range from the very general international portfolios, which can in theory choose stocks from or funds investing in any part of the world, to those narrowly focused on one country, like Korea, the US or Russia.
Alternatively, investors have the choice of picking a fund which concentrates on a particular sector of the investment market, not necessarily involving normal quoted equities or bonds. This might be through directly-held properties (although property funds will also hold property shares), venture capital and now even "physical" gold.
It is also possible to home in on smaller companies, ethically-chosen equities, technology, biotechnology or funds which just invest in investment companies. Most, but not all, specialist funds involve a higher degree of risk than an investment in a generalist UK fund. In general, the rule is that the higher the degree of specialisation, the more risk and the more ready you should be to lose all your investment.
