One of the triggers that got me started with this site was my recent experience of opening a Stocks & Shares ISA. I’d like to share my experience so far with all of you, in the hopes it might help if you’re in a similar situations. I’ll also post periodic updates, to see how this experiment works over the next year or so.
Why a S&S ISA?
Due to a series of fortunate events, I have a little extra monthly income that’s looking for a home. I’ve already fully matched my employer’s contributions into my workplace pension, and I don’t want to lock more money away until I’m 55 or 57 (setting aside the questions of a foreign grantor trust, but that’s another small part of it). I’ve also fully contributed to Roth IRAs for myself and my wife – thanks COVID stimulus!
So, using The Flowchart, I’m at the box asking “Are you comfortable with individual stocks?”
To be perfectly honest, I’m not 100% sure what my answer to that question is, but I’m going to have a go! I’m still a big believer in passive investing and I’m not looking to go into serious stock picking, much less day trading, but the US tax system has pushed me to try out individual stocks so I can avoid the punitive PFIC regime.
Where to open my ISA?
There are loads of brokers in the UK that offer S&S ISAs – Monevator has a great comparison list here. Unfortunately, most of those brokers don’t want to work with US citizens (thanks FATCA!). Eventually, I’d like to put together a definitive list of brokers that will work with Americans, but for the moment, this Reddit post has a good starting list.
I went with Hargreaves Lansdown, for three reasons:
- They’ll happily work with Americans
- They’re an established company with a good track record – I’m not worried about them disappearing in the night, and trust they will be around for a while.
- Their fees are competitive – not the lowest out there, but not too bad:
- 0.45% annual platform fee – for holding shares, this is capped at £45, so if your ISA grows larger than £10,000, the fee doesn’t go up any more.
- £11.95 dealing fee (buying or selling of shares). This adds up quick, but I’m not planning on trading much. Also, if you set up automated monthly investments, this fee drops to £1.50.
Actually opening the account was easy – all online, and nothing extra complicated due to being a US citizen except needing to provide my US passport number. My account was open within a few minutes and the initial contribution went through my Nationwide debit card without any issues. Next step – picking the stocks to invest in.
Wait, why can’t I use index funds?
I’ll write a longer post going into the details of what a PFIC is and ways of dealing with this onerous US restriction. In the meantime, the Bogleheads wiki has a great explainer.
Very short version:
- Unit trusts (mutual funds in American) and ETFs are almost all PFICs.
- PFICs require the submission of an extra form on your US tax return, Form 8621. You need to do a copy of this form for each investment.
- There are a few options for how to report the PFIC gains/losses – even the least punitive (mark to market) is still painful, because you have to pay taxes on any gains every year, even if you don’t sell the investment.
- So the best option for most people will just be to avoid PFICs entirely.
Picking stocks for my ISA
Even though the US tax system has pushed me into individual stocks, I’m still a believer in passive investing generally. So I’m creating a “pseduo-index” or a “brew your own index fund” – trying to mimic the performance of an index using individual stocks.
Trying to actually own all the funds in an index would be hugely expensive due to the dealing fees – even at the lower £1.50 for an automatic investment, buying the whole FTSE 100 would cost £150, plus any additional investments later. That’s more than I wanted to spend on fees, plus owning 100 stocks makes for more bookkeeping headaches and more reporting on my US taxes.
So I decided to pick 20 of the largest stocks in the FTSE 100. Why the FTSE 100? Hargreaves Lansdown charges an extra 1.5% on foreign currency transactions, so I wanted to stick to stocks traded on the London stock exchange. I have a target of 10% UK stocks in my asset allocation anyway (future post to come on asset allocation more generally), so this counts against that.
Why 20 stocks? I did some crude backtesting against the overall FTSE 100, and found that 20 stocks felt like the sweet spot where it’s not so many stocks that it’s painful and expensive to manage, but not so few that the performance of any one stock will have a huge impact on the overall performance. This is not especially scientific – it just feels right to me.
So I got the list of all the FTSE 100 constituents, and started going down the list from biggest to smallest to pick the first 20. But as I looked, I realized some of these weren’t companies that I was particularly interested in over-investing in. These fell into two categories:
- Companies that made me feel a little icky. Many of these are materials companies with questionable human rights records and a long colonial history of exploitation, or banks that facilitate money laundering and other criminal activities. I also ruled out tobacco companies, but not alcohol – you may have different ideas about what makes a company “icky”, and that’s fine!
- Sectors that really don’t feel like a good investment in the current environment – for example, with interest rates so close to zero at the moment, I don’t see the environment for banks improving any time soon.
Both of these judgments are against the idea of index investing! But, this is an experiment, and it’s my money, so I’m going to try it my way. Worst case, this ISA will probably be less than 3% of my investments by the end of 2021, and even if one of these companies goes to zero, it’s a minor hiccup on my way to FIRE.
- It’s worth mentioning that I do still own some of these stocks through index funds in other accounts. I’m not going out of my way to complete divest from them, I’m just choosing not to over-invest in these particular companies.
I also decided to equally weight each of the 20 stocks, instead of market weighting. Why? Because it’s simpler and easier to manage. To rebalance, I just add money to whichever stock has the lowest value, no complicated math involved.
Which stocks did I pick?
Here’s the list of FTSE 100 stocks, from biggest to smallest, with either my decision to invest, or a quick reason why I didn’t. I stopped once I got to 20 “yes” votes.
|HSBC||HSBA||No – both a “slimy” bank, and a bank that I see struggling with low interest rates|
|Rio Tinto||RIO||No – exploitative history, environmentally problematic|
|British American Tobacco||BATS||No – tobacco|
|Royal Dutch Schell||RDSA/ RDSB||No – exploitative history, and I thought one mostly oil company was enough with BP|
|BHP||BHP||No – exploitative history, environmentally problematic|
|Prudential||PRU||No – when I did the whole list, having two insurance companies seemed like more than enough, and Aviva seems more likely to succeed to me. But that’s just a guess.|
|Anglo American||AAL||No – exploitative history, environmentally problematic|
|Glencore||GLEN||No – exploitative history, environmentally problematic|
|London Stock Exchange Group||LSEG||Yes|
|Barclays||BARC||No – I see banks struggling for a while to come|
|National Grid||NG||No – two utility companies seemed excessive, and SSE seems like a better longer term bet with their focus on renewables|
|Flutter||FLTR||No – the way gambling works in the UK seems icky, and online gambling commercials drive me crazy|
|Lloyds||LLOY||No – I see banks struggling for a while to come|
|NatWest||NWG||No – I see banks struggling for a while to come|
|Ferguson||FERG||No – overlap with CRH and Ashtead on the construction market, one seems like enough|
|Ashtead||AHT||No – overlap with CRH and Ferguson on the construction market, one seems like enough|
|Associated British Foods||ABF||Yes|
|Antofagasta||ANTO||No – exploitative materials|
|Legal & General||LGEN||No – one insurer felt like enough, and L&G always comes across as a bit scammy to me (totally subjective!)|
|Scottish Mortgage||SMT||No – PFIC in disguise! UK investment trusts look like stocks, but they’re actually PFICs.|
|Standard Chartered||STAN||No – I see banks struggling for a while to come|
|Skipped a few||lines||here, because I wanted the ones below|
|International Consolidated Airlines||IAG||Yes – wanted an airline, because I think they may come back from COVID faster than expected (but that’s just my guess!)|
|Intercontinental Hotels||IHG||Yes – wanted a hotel chain, because I also think they will come back faster than expected. IHG also has a somewhat COVID-resilient business model (they don’t own most of the hotels).|
I did do a comparison of this portfolio against the overall market weighting of the FTSE 100 – it’s not all that out of whack, even with those very subjective decisions above (numbers as of Feb 2021, although I don’t expect them to change too fast):
|Sector||FTSE 100 Weighting||My Weighting|
Once I picked how I wanted to invest, getting started was pretty easy. I had funded the account initially with a few hundred pounds, which I invested into the top two companies. Then I set up a recurring plan to invest in the rest – I’ll do a large first month, because my annual bonus got paid in March, and then a few hundred pounds each month into whichever stock (or maybe 2 or 3) has the smallest value, with an aim to keep them all roughly equal.
I don’t plan on rebalancing through any sales, and I’m hoping I don’t need the money anytime soon. If I do, though, the flexibility of an ISA means I can take a withdrawal at any time and just pay the transaction fee and any US capital gains taxes.
There are a few things I’d like to explore some more over time, and will go into in future posts:
- Tracking my ISA vs an index fund: how am I doing? Better, worse, about the same?
- US taxes: since I started the ISA in early 2021, I won’t need to report anything until I do my 2021 US taxes, about this time next year. I’ll look at what records need to be kept, how the ISA gets reported on my taxes, and any pitfalls to avoid.
Is there anything else you’d like to know about a S&S ISA? Let me know in the comments!