It's time to go on the defensive

In the current climate, it makes good sense to review your portfolio. By Abigail Montrose

WITH THE world's stock markets in turmoil, now may not seem the best time to start building a portfolio. But if you have already invested in the markets, or have money that you need to put away, there are ways of protecting your investments.

The basic rule for a defensive portfolio is to ensure that it is well balanced, says Vivienne Starkey, senior consultant at the independent financial advisers Haddock Porter Williams. "You need to build up a series of layers. Some capital must be instantly accessible; some may be needed in the next few years; while the balance can be invested for the long term," she says.

The first step is to choose a deposit account that gives you instant access. Among the two best at present are the Egg account, paying 8 per cent gross, and Sainsbury's Bank, paying 7.35 per cent, both available on sums as low as pounds 1.

Next, look at Tessas, which offer a safe home for your money, and all interest is tax-free providing you do not touch the capital for five years. The best deals at present include Norwich and Peterborough Building Society, paying pounds 8.25 on minimum deposits of pounds 100, and Principality Building Society, offering 8.2 per cent on a minimum deposit of pounds 2,500.

Then consider National Savings Certificates, where your capital is safe and you earn tax-free interest. Next, look at low-risk investments such as gilts, corporate bond funds and investment trust zero-dividend preference shares.

If you keep a gilt to its maturity date, you know exactly what the return will be and how much interest you will receive each year until then. Corporate bonds work in the same way, except that they are issued by companies wanting to raise money, rather than by the Government. A corporate bond fund such as the M&G Corporate Bond Fund, paying 8 per cent net, will invest your money in a range of corporate bonds, thereby spreading your risk, and you can reinvest the income if you want only capital growth.

Investment trust zero-dividend preference shares do not pay out income, but offer a predetermined return on a set date. These shares are affected by the equity market, so choose a good fund. Ms Starkey recommends Gartmore Scotland-Zero shares and Dresdner RCM Income & Growth-Zero shares.

The cornerstone of your equity investment is likely to be a UK growth fund. A well balanced portfolio has low-risk non-equity investments in place, and so has built-in security to deal with the current volatile market conditions, explains Ms Starkey.

"If you have to get at some money now, you should start by drawing out cash from your savings account, and work upwards. What you don't want to be doing is selling equities when the market is low, as this is how you will lose money," she says.

Tim Cockerill, managing director of the Bristol-based independent financial advisers Whitechurch Securities, agrees. "A well structured portfolio should weather a storm like this with little difficulty, and will need little re-engineering," he says.

This does not mean you should not review your portfolio. It can make sense to switch to a fund with a better record in the same sector. Providing that you reinvest straightaway, you will also benefit from buying when prices are low.

It can also make sense to switch funds if your portfolio is unbalanced, or has higher-risk elements that you are unhappy with, says Mr Cockerill. If you are partly invested in a UK smaller companies fund, for example, you may want to realign your portfolio to blue chip funds, perhaps moving into the Prolific Blue Chip fund or the Mercury Blue Chip fund.

"If you expect the market to recover over the next 12 to 18 months, then these are the types of stocks that will be the first to move upwards," he advises.

With share prices down, regular savers are getting more for their money than they were when share prices were higher. If, like Ms Starkey, you think that things will get worse before they get better, you will want to stay out of the stock market for the time being, and concentrate on non-equity investments.

For those who are not sure, a good compromise may be to filter your money into the market over the next 12 months or so. You could do this by dividing your lump sum in four, and investing a quarter of the money into the market every three months.