Irregular Roundup, 12th September 2024

We begin today’s Irregular Roundup with inequality.

UK Inequality

For the FT, Tim Harford looked at inequality in the UK.

• He reports that 19% of the public now regard poverty and inequality as one of the most important issues facing the UK.

But contrary to popular opinion, inequality isn’t getting worse:

The World Inequality Database is clear: in the UK, the share of income flowing to the richest 1 per cent is lower than it was during the financial crisis.

It is much the same in the most recent numbers as it was in 1997, when Tony Blair was elected, and this is true both for pre-tax income (of which the richest 1 per cent get 13 per cent) and for post-tax income (8.5 per cent). Income inequality hasn’t risen, it’s fallen.

The UK’s redistributive tax system helps:

The total tax take (relative to the size of the economy) is near the highest level for more than 70 years. Yet for people on average incomes, direct taxes are at their lowest level for decades. More taxes are levied indirectly (such as VAT), but the rich pay more than they used to.

Someone on £200K pa pays an extra 10K than in 2009 (as we mentioned a couple of weeks ago).

• But those on average earnings have seen steady falls since the 1970s down to a rate of less than 20% today (for income tax and NICs).

The real problem in the UK has been low growth, which means there is less money to redistribute (and with which to fund public services).

• There’s also a regional divide.

London remains one of Europe’s most productive and populous conurbations, albeit some way behind Paris. But it’s the UK’s smaller cities that are failing to live up to their potential.

Lyon, Toulouse, Barcelona and Milan are all doing substantially better than Birmingham or Manchester. Germany has a dozen cities doing better than the UK’s second most productive major city, Edinburgh.

We also have a problematic housing market, with house prices at six times average earnings (up from three times when Blair was elected).

There is a paradox here: the weaker growth becomes, the more people focus on inequality, fighting over the pie rather than finding ways to make the pie grow. This new government is right to emphasise the need for growth.

Tim is right about that, but the evidence so far is that although they might build a few more houses, Labour’s policies are anti-growth.

UK productivity

Joachim Klement also looked at UK productivity.

• He’s previously reported on our lack of investment (particularly in infrastructure).

This time out he was digging into governance, primarily in unlisted firms.

The ‘misallocation of resources’ [is] the second largest contributor to the decline in productivity. This misallocation stems from a misallocation of human resources, a lack of competitive pressures, and a lack of creative destruction.

A recent study looked at 151 UK firms (108 of them unlisted), plus companies from the US, Germany and France.

For each firm, the researchers calculated a management quality score based on management practices in operations. monitoring of employees, target setting and incentives. Better management practices are associated with higher productivity, profitability, sales growth, and valuation.

The poorer companies had some things in common:

[They] tended to be active in areas with limited competition where inferior companies can survive since nobody forces them to innovate or become more efficient. [They] were particularly prevalent among companies with dominant family ownership. 

This is a surprise since family ownership is usually held to be a good thing.

Family-owned and founder-run firms tend to have better long-term performance because they are less beholden to short-term earnings management. The problem starts when the family exerts too much control over a company, for example if a member of the family is also the CEO of the company.

It’s even worse when the CEO’s job is passed from father to son.

• This is particularly common in the UK and France.

But it doesn’t sound easy to fix.

Retail portfolios

In a second article, Joachim looked at what he described as the sorry state of retail investor portfolios.

• The big problem is a lack of diversification.

Most developed countries show a retail share of ownership close to 50% of the stock market. This excludes ownership of stocks via mutual funds which are counted as institutional.

In the US, the UK, and Australia, retail investors are much more important than [in other countries]. But in every country they are the most important group of owners by volume.

Retail investors are very home-biased.

• I’ve read research that says that a 25% allocation to home stocks makes little impact on performance, though I’ve gone off the UK market’s prospects in recent years and reduced my holding.

Most people are even worse than that:

Typically, retail investors invest 85% or more of their stock investments in domestic shares. If direct investment accounts for some 40% of total firm ownership and some 90% of that are domestic shares, then this implies that retail investors typically hold about 30% to 40% of their portfolio in single domestic stocks. 

A second study look just at Swiss investors.

On average, Swiss retail investors held six to seven actively managed funds, three ETFs, two index funds and seven single stocks. These seven single stocks account for 36.6% of the portfolio.

Even worse, a change to rules on commissions means that Swiss banks now push their funds and close to two-thirds of products held by investors are issued by their bank.

• This “house bias” will be lower in other countries, but will still be present.

Retail investor portfolios are not very well diversified both in terms of countries as well as asset managers. Retail investors pretend they are great stock pickers and let their stock picking skills dominate their lifetime investment outcomes.

Pensions tax

In FT Adviser, Amy Austin reported that the amount of pensions tax overcharged since the pension freedoms were introduced in April 2015 is now close to £1.3bn.

• This is a subject close to my heart since I make a UFPLS withdrawal once a year.

Around a third of the total disappears in tax, which I reclaim via my self-assessment.

• The overcharge comes back to me after somewhere between a few weeks and a couple of years.

In 2Q24, HMRC returned £57M to sixteen thousand people who made reclaims (either through self-assessment of the dedicated claims forms – P55, P53Z and P50Z).

Tom Selby of AJ Bell said:

HMRC’s outdated approach to the taxation of flexible pension withdrawals continues to hit hard-working savers. Worryingly, the average reclaim per person spiked to £3,540 during the latest quarter, the third highest three-month figure on record.

My claim is multiples of the average.

The problem arises from the requirement for the pension provider to have the correct tax code for the individual making a withdrawal.

• They usually don’t, so emergency tax is applied.

Helen Morrissey of HL said:

More than nine years after pension freedoms it is inconceivable to think that people are still being overtaxed on their first pension withdrawals. Many of these people will not have been expecting this, and will have had a nasty shock when their tax bill was way higher than expected.

This can cause them huge problems: a tax nightmare is not the way to start your retirement. This is a complication many people do not need andit’s a situation that should have been resolved years ago.

For once I agree with the pension companies.

Financial goals

Also for FT Adviser, Tom Dunstan reported that 17% of UK adults have no long-term financial goals.

• The research comes from Scottish Friendly’s 2024 Family Finance Tracker, which questioned 2,600 people.

The most common priorities were early retirement (22%), leaving something behind for their family (usually the family home – 21%) and paying off the mortgage (20%).

• Lower down the bequest scale than the primary residence came cash, pensions, heirlooms, stocks and other property.

Renters were less likely than homeowners to plan to pass on any wealth.

For Scottish Friendly, Jill Mackay said:

These findings highlight the significant value people place on leaving a lasting legacy for their loved ones. It’s evident that securing their family’s future is a key concern. This is reflected in the broad range of assets people intend to pass on.

Labour watch

In Money Week, Max King went full Corbyn on his predictions of what Rachel Reeves might do in her October budget.

• His thesis is that most of the currently predicted tax changes will be easy to avoid.

So a second round will be needed after the CGT and IHT changes (along with VAT on private school fees, more tax on North Sea oil and gas, and the non-dom reformation).

His ideas for phase two include:

• Higher fuel duty to push drivers towards electric cars (which could then be taxed like normal cars, once a critical mass has been purchased).
• VAT on (higher) student fees, private medical insurance and private treatment.
• Abolition of higher-rate tax relief on charitable donations and elimination of the IHT tax breaks for legacies.
• A tax on ISAs – say a 1% annual charge (this would be a wealth tax in disguise).

I can’t see most of these happening, but I hope I am right.

Quick Links

I have two for you this week:

1. Alpha Architect asked Can smart rebalancing improve factor portfolios?
2. And UK Dividend Stocks said Next’s shares are up 100% since 2022: Time to buy or sell?

Until next time.