How an Isa millionaire chooses stocks 

This is an audio transcript of the Money Clinic podcast episode: ‘How an Isa millionaire chooses stocks’

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Claer Barrett
Do you invest in a stocks and shares ISA? Well, my guest today is famous for doing so. Lord John Lee opened his ISA in 1987, and by 2003 he’d amassed a whopping million pounds inside, making him the UK’s first ISA millionaire.

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Welcome to Money Clinic, the weekly podcast from the Financial Times about personal finance and investing. I’m Claer Barrett, the FT’s consumer editor.

In today’s investment masterclass, I’m joined by Lord John Lee. He’ll be sharing his own personal investment rules and strategy that served him well over the decades. Now, John has been an investor in small companies for years and years and an FT columnist for the past 20, charting the ups and downs of his ISA portfolio, which is mostly invested in the shares of small UK companies. Now, even if making a million is not something that you ever think you will achieve, this episode is packed with guidance for anyone who uses stocks and shares ISAs to build up their long-term wealth or who is interested in stock picking.

Now we are going to be talking about investing on today’s show, which obviously carries an element of risk. And Lord Lee is going to be talking about some specific stocks that he holds within his own ISA portfolio and why he’s chosen them. Now, please be aware that this does not constitute an investment recommendation or our advice that you should buy or sell these shares. The discussion is for educational purposes only. So that being clear, let’s carry on.

So how did the ISA millionaire build up his investments using a product that has a £20,000 annual limit? Well, here to reveal all is the man himself. Welcome, John. May I call you John?

Lord John Lee of Trafford
Thank you, Claer. Of course, you may.

Claer Barrett
Now, we’ve known each other for a long time. I used to have the wonderful job of editing your columns when I was the editor of the Money section. And we’re obviously keen to hear your investment tips. But let’s start off by talking a little bit about your journey from the beginnings of Isas. They were called Peps: Personal Equity Plans when they were first introduced in the late ’80s to now. Now, how did you get started with tax-free investing?

Lord John Lee of Trafford
Well when Peps, the precursor of Isas, were first launched, I think it was 1986-87, I recognised immediately the attraction of investing effectively tax-free or in a tax-free wrapper and set out to try and find a plan manager who would allow me to choose my own shares because I’ve always selected my own investments. And it was very difficult because with very few plan managers in those days and those that were there really only wanted people to choose from a list of their approved shares. But in the end, I was able to find, I think it was Midland Bank, executor and trustee in Sheffield, who allowed me to open Pep with them, and I invested the maximum, which I think with them was about £3,000. Today, it’s obviously a lot more. And over those first years, the first 15 years, I think from ’87 to 2003, I invested the maximum amount in total, I think about £150,000 over the years. And it was in 2003 that the Pep/Isa portfolio was valued at a million pounds.

Claer Barrett
Wow. Now, obviously, turning that investment of around £150,000 over the years into a million pounds within 15 years, an awful lot of that has come from investment growth. An awful lot of that has come from the dividends that these companies throw off, income that can then be fed tax-free back into the Isa pot. We’re going to talk a little bit more about that in a minute. But really, if you hadn’t held those investments within an Isa, then it wouldn’t be worth a million pounds because all kinds of different tax bills would have been generated over the years. Tell us about that.

Lord John Lee of Trafford
Well, certainly you would have been paying tax on those dividends. You’d have been paying tax on any capital gains that you made. And over the years, I’ve realised a lot of capital gains within the predominantly, within the Isa portfolio tax-free were companies that I’ve invested in have been taken over. And the other point I think is that because there was an Isa there with the, those taxation advantages, I obviously kept that pot of money as one and let it grow. If an Isa hadn’t existed, I think I would have probably hopefully built up a share portfolio, but I don’t think I’d have been quite as disciplined as I’ve been by having the overall wrapper and reinvesting within on a compounding basis.

Claer Barrett
And of course, the other tax advantage of Isas is that if you wanted to go out tomorrow, withdraw £100,000 from your Isa and spend it on whatever you wanted to, it wouldn’t count as income for tax purposes. You wouldn’t have to pay tax on that income. You could just go and spend it.

Lord John Lee of Trafford
You could take it out but, broad brush, you can’t then put it back in. There are one or two opportunities to put a certain amount back in, as it were. But essentially what you take out, you can’t really put back in. So once again, an incentive to keep the money together, hopefully let it grow, reinvest and compound the dividends. But as you rightly say, at any stage, you can cash the whole thing in or a proportion of it.

Claer Barrett
Now you learn from your mistakes, as all investors do. But over the years you developed the kind of type of company, type of investment, that you would be looking for. So tell us a little bit about how your approach evolved.

Lord John Lee of Trafford
Yes, I think my approach has developed over the years and now I don’t make many significant changes in my approach, but I’m very much focused on, and always have been really, on essentially endeavouring not to lose money, which of course is the number one. And therefore tending to — this is very broad brush — invest in companies that are already established, are already profitable, are already paying dividends. In other words, I don’t come in at ground floor, start-up level. I’m coming in at a later stage when the business is already established.

And over the years, I’ve learned to avoid biotech stocks. I don’t touch exploration stocks. I don’t invest in start-ups. And I don’t also invest in contracting businesses because they always hit bad contracts from time to time. And I also entirely focus on UK companies, on UK smaller caps, although I also do now invest in some of the larger cap stocks which are giving very attractive yields. Now, this is not to say that people can’t make money in biotech stocks and exploration stocks, but you require a degree of expertise in those areas, which I haven’t got. So I’m very much a generalist and so I tend to avoid those particular areas and over the years have built up holdings in a number of those small cap stocks. Obviously, there have been changes clearly, but I tend to prefer to build up holdings where I have confidence in the company and the management rather than chop and change. And the biggest mistake that most people make is to chop and change, change far too frequently. There’s a rather crude American adage, which is that you make your money by sitting on your ass. In other words, you get into something good, if you’ll excuse me, get into something good and stay with it, and stay with it. And that is the way to more successful investment. And of course, we’ve had the advantage of Peps and the precursor to Isas, which of course really it has been and is the most outstanding wrapper.

Claer Barrett
Now, what tips would you give people who are looking to run the slide rule over making a new investment? How would you approach that?

Lord John Lee of Trafford
Well, I think it’s common sense. You would endeavour to look at the company and you would endeavour to get a feel of the way its profits have gone in earlier years. You would take that into account. You would endeavour to get a feel of the market position of the particular company, whether it had some special characteristics that would enable it to prosper. And of course, with small caps, even if the overall world economy is not terribly buoyant, you can still do well with a relatively small company, as it were, which is operating in niches.

Also I think you should be or I would suggest that you look for companies where the people who run the business, the chief executive and the board chairman, have significant share stakes in the company, known as skin in the game. In other words, you know, are they confident about the business to invest their savings in the company that they’re running, not just relying to be incentivised on bonuses or share options. Is there a real commitment?

And also one of the important things is to read the wording and the tone of the comments that come out of the company when it reports its results and talks about future trading or gives trading updates. And you’re obviously looking for optimism and confidence coming through in those statements. If on the other hand, they just say something like the business is now well-positioned to benefit when there is a global upturn in the economy, you know that the immediate future is not very exciting. But on the other hand, if they use the word like, you know, next year is going to be a really exciting year for us or I’m incredibly confident, as it were, these are chief executives and similar sticking their necks out and they’re going to look very stupid if, you know, if they get it wrong.

So what you’re endeavouring to do is to create a jigsaw on a particular company. You’re putting it in the jigsaw of its past profits, the comments of the company, the business it’s in, any press comments on the particular company. And overall you look for the jigsaw and the pieces to fit together to create an overall image.

Claer Barrett
Now, you mentioned that word dividend.

Lord John Lee of Trafford
Yes.

Claer Barrett
For the benefit of listeners who don’t know what a dividend is, tell them the magic of dividends.

Lord John Lee of Trafford
The magic of dividends. Well, a dividend essentially is paid by a company out of its profits. So the company obviously hopes and aims to make profits. Then out of those profits, first of all, the taxman takes the slice and then what is left is available for the owners or the shareholders. And out of that final slice, the companies normally, if they’ve been successful and if they’ve got the cash, pay out a dividend to shareholders.

Claer Barrett
And so many pence per share.

Lord John Lee of Trafford
So many pence per share. And within an Isa, what I’ve done over the years, rather than take money out of my Isa, is to reinvest and compound those dividends. So it gives you a continuing cash flow which you can then reinvest. And so the whole thing theoretically compounds. But of course the payment of a dividend by a company when the board decides on the level that they’re going to pay out really tells you three things about a company. First of all, it tells you what the company’s profits have been over the last year. It also gives you an indication of the broad profits level that the company anticipates making in the following year. Because quite obviously, most company chiefs and boards don’t want to pay out a dividend in one year and then have to reduce it in the next year. So they have an eye to the future. And thirdly, most importantly, it’s an indication of the fact that the company does have cash to actually pay out to shareholders. And I like to see companies that are fairly conservative, that are carefully stewarded, that are cash-rich and don’t have too much borrowing or too much debt and are somewhat risk-averse, rather as I am.

Claer Barrett
Well, certainly. When a company does pay out a dividend, as you said, if you own that company within your Isa, which is a very powerful tax wrapper for investors, the money that’s paid in from the dividend, that doesn’t count as part of the £20,000 a year limit that you can pay in from your own income. That’s over and above. And you don’t have to pay dividend tax on anything within your Isa, whereas if you own those shares without an Isa, then there would be tax apply to that. So lots of reasons to hold them in the Isa. But let’s just go back to that reinvestment of the dividend. So you could either use it to buy more shares in that particular company or you could sell down some of those holdings within the Isa and buy shares with another company. But all the time, all of the money that you’ve got in that tax-protected pot has got the potential to grow and grow in the longer term. And that is how compound interest, which is what it’s called, has really boosted the value of your holdings over the past few decade.

Lord John Lee of Trafford
Absolutely. And if we move to the present day, I’ve been putting a proportion of my funds within the Isa in some of the very attractive large cap financials like M&G, which offers a dividend yield of about nine and a half per cent at the moment, I think it’s extraordinarily attractive.

Claer Barrett
Now let’s talk to the listeners a little bit about what we mean by dividend yield. I mean, one of the ways I try and explain it to people is, like, it’s a little bit like an interest rate. You know, you put £100 cash in the bank. If you’ve got 5 per cent interest after a year, you’ll get an extra £5. But when you say a dividend yield . . . 

Lord John Lee of Trafford
Yes. The dividend yield is really a percentage. So if you were investing, say, £100 in M&G as I’ve just as I’ve just mentioned, if you invested £100 in M&G at the moment, you get an annual dividend of about £9.50. Therefore, that equates to a percentage yield of about nine and a half per cent.

Claer Barrett
Yeah, which is way better than any savings account right now.

Lord John Lee of Trafford
Which is frankly an outstanding opportunity in my judgment. And of course if you are owning those shares in an Isa and you roll up and reinvest those dividends, which is what we’ve been talking about, you know, the compounding, you know, is most attractive.

Claer Barrett
Well, that’s really interesting. And just to reiterate that disclaimer, at the start of the show, we are talking about individual investments that Lord Lee has made within his own portfolio. It’s absolutely not an endorsement or a suggestion for you to go out and buy the same shares. You have to do your own investment research and make those decisions by yourself.

Now, the investment platforms tell us that, give or take, there are around 2,000 other people in the UK who are also Isa millionaires. They tend to fall into two camps. The majority of people like you who have used up their Isa allowance every year invested carefully, not taken money out, reinvested those dividends, grown their pots of money over time. There are a few who are much younger, who’ve taken big, risky bets on companies like Tesla, whose share price explodes and then contracts. It’s a very different kind of approach to investment risk. But it’s not an impossible goal for people to amass decent amounts of money in Isas over the course of their working lives. Why would you say to our listeners that they should consider this as well as pensions, which are perhaps more the obvious long-term investment?

Lord John Lee of Trafford
Because you can actually select the companies that you invest in and apply common sense to, to making those investment decisions in terms of which companies you actually invest in. I’ve come to the conclusion, Claer, after 60 odd years of investing, that to be a successful investor, you only need two things: common sense and patience. Nothing more. And patience is probably the most important of those two. And that’s what most people do find difficult. But essentially I’ve built up my Isa over the years by really I have described it as brick-by-brick investing.

Claer Barrett
Now, a lot of people who are regular listeners of the Money Clinic podcast do invest in stocks and shares Isas. Lots of them like to invest in passive funds because then they get a big spread of companies listed on the stock market and the fees are very cheap. It takes a bit of practice, doesn’t it, to actually be able to pick a particular company and buy its shares. There is a lot more risk in that approach. There is a lot more risk if you take that approach because that company could do well or they could do badly or not as diversified. But nevertheless, you have always been keen to sell the benefits of stock picking to investors, even if they’re only advancing a small amount of their portfolio to just get a taste of what it’s like to be a shareholder. Tell us more about that.

Lord John Lee of Trafford
Well, you’re absolutely right. And maybe I, maybe by way of example, I can talk about what I’ve done with my grandchildren. So what I’ve done is for the two elder boys, nine and seven, to take out via their parents — because you can’t do it as a grandparent — to take out junior Isas for them. And I think putting in £5,000 each in those junior Isas and bought for them — this was about a year ago — shares in around 10 companies, not companies necessarily with any great investment merit, but companies that they could identify with.

Claer Barrett
OK.

Lord John Lee of Trafford
So for example, we invested in Tesco, in Sainsbury’s, I think in Marks and Spencer, in Greggs, in Hollywood Bowl, in (inaudible), in Hotel Chocolat, companies that they could identify with and I was trying to get across them that they own through their junior ISAs a small portion, a very small portion of those businesses. And the younger one when I was talking to them about this, the younger one who was then seven, said to me, “I want to buy shares in Standard Chartered”, the bank.

Claer Barrett
That’s quite advanced. (chuckles)

Lord John Lee of Trafford
So I was somewhat taken aback and I looked at him. I said, you know, “Where did that come from and why?” He said, “Oh, yes, because Standard Chartered sponsored Liverpool.” And he supported Liverpool.

Claer Barrett
Oh, of course!

Lord John Lee of Trafford
So we did actually buy some Standard Chartered shares for him. Anyway, we’re now 12 months on. So we had a little roundtable discussion and . . . 

Claer Barrett
I love the thought of that.

Lord John Lee of Trafford
. . . and we decided to sell the two or three that had lost money over the years. I think the (inaudible) was one of them and Hotel Chocolat as well. And we bought more Greggs and I think more Hollywood Bowl as well. So I’ve started to try and educate them and give them an interest in the stock market.

Claer Barrett
Oh, exactly. It’s not just about passing down an inheritance. It’s about passing down the skills of managing money. So staying with that theme, Lord Lee, you mentioned that your Isa portfolio hasn’t been doing so well in the last couple of years. I think this is . . . 

Lord John Lee of Trafford
Off the peak. Off the peak.

Claer Barrett
This is a feeling common to us all. I have to say it’s much harder to eke out a return in these inflationary times especially. What would you say to people listening to this investment masterclass when it comes to your approach as an investor to beating inflation or trying to beat it?

Lord John Lee of Trafford
Essentially one has to take the long-term view of investing and you have to work on the basis that by and large we will get through our problems worldwide. If you believe that Armageddon is about to happen, I’m not sure what you do apart from maybe hide under the bed with a crate of whisky and a bar of gold, or go or climb the highest mountain to pray if you believe the end of the world is coming, as some people do. But for most of us who believe, and you have to be moderately optimistic, I think, to be an investor, it’s times like these that do present the greatest buying opportunities.

Claer Barrett
OK.

Lord John Lee of Trafford
And there is a saying that I read very recently, which I rather liked, which says that essentially you make your most profitable investments, you make most of your money in a bear market, in other words, in a market that is going down or not too buoyant, but you don’t realise it at the time. That is the saying. You make it. You make your money in the bear market, but you don’t realise it at the time.

Claer Barrett
You’ve got to hang on.

Lord John Lee of Trafford
In other words, you buy in at a relatively low level. And in years to come, assuming that you’ve invested in the growing businesses, they will prosper and you will prosper. So you will be making profits on those investments.

Claer Barrett
Well, thank you so much for joining me in the FT studio today. I’m going to give you a little tour of the building in a minute. But if you would like to hear more from Lord John Lee, both he and I will be appearing at the Investors Chronicle Future of Private Investing Conference this week on Thursday, the 15th of June in central London. If you want to attend either virtually or in person, there’s a ticket link in the show notes or search for the Future of Private Investing.

That’s it for Money Clinic with me, Claer Barrett, this week. And we really hope you like what you’ve heard. If you did, spread the word and leave us a review, we’re always looking to chat with people about their money issues for the show. So if you’re interested in taking part in a future episode and are looking for some expert money advice, then email us: money@ft.com. You can also take a peek at our website: ft.com/money. Grab a copy of the FT Weekend newspaper or follow me on Instagram. I’m @ClaerB.

Money Clinic was produced in London by Persis Love. Our sound engineer is Breen Turner and our editor is Manuela Saragosa. You had original tunes this week by Metaphor Music. And finally, our usual disclaimer. The Money Clinic podcast is a general discussion around financial topics and does not constitute an investment recommendation or individual financial advice. For that, you’ll need to find an independent financial adviser. That’s all the small print for now. See you back here next week. Goodbye.