The official cash rate set by the Reserve Bank of Australia (RBA) on the first Tuesday of every month currently sits at 2.5%. This is a quite a distance from the 17.5% cash rate Australia endured in the winter of 1990 and creates an interesting economic and investment back drop for investors and home owners today. Just a few short years ago in 2008, it was possible for Mum and Dad retirees and conservative investors alike to achieve a risk free rate on savings accounts of 7.6% with rates upwards of 8.0% not uncommon. Since then, interest rates have fallen and continue to tumble….. but the question remains…. how low can interest rates go?
Reserve Bank of Australia Cash Rate (1969 to 2014)
A quick look at history and the bigger picture often gives great insight into future economic trends. Mark Twain once said “History doesn’t repeat itself, but it does rhyme” and the long term rhythm of interest rates suggests we should be bottoming out around now, give or take a few years. Long term interest rates tend to move in big 30 year cycles with peaks occurring in the 1920’s, troughs occurring in the 1950’s, peaks in the 1980’s, and now what appears to be a long extended trough into the 2010’s.
AJ Financial Planning’s clients have also asked us recently – how do we know when interest rates are no longer falling so we can plan our term deposit and fixed interest investment strategies and manage our fixed and variable rate home loan strategies?
Two of the major factors influencing the RBA’s decision on the cash rate are inflation and economic strength. The likelihood of Australia defaulting on its debt is also a significant factor, however this has been discounted almost completely at this time as currently Australia holds a S&P AAA credit rating- so the likelihood of default is remote. For the people of Argentina however, this is a very different story and with default risks are running high whereby the drastic affects of this being seen in the interest rate markets of that nation.
In July 2014, Commonwealth Bank released it’s 5 year fixed rate home loan at 4.99% p.a.- with the other major banks of Westpac, NAB & ANZ quick to follow suit. This is significant in answering our questions about the future of rates as it provides great insight into the bank’s views for the next several years. From a statistical perspective, the probability of a borrower being in a better financial position at the end of a fixed rate term compared to staying with a variable rate home loan is typically less than a 15% chance.
This is not to say that fixed rate loans don’t provide a very effective strategy tool, provide great certainty for borrowers and many other benefits. It’s just that Australian banks prefer variable rate loans which carry less risk for the lender because they can be easily adjusted to changing economic conditions, and price fixed rates high enough to incentivise borrowers to take on variable rates.
Your AJ Financial Planning professional adviser is available to answer any of your interest rate questions so you can chart an effective course for your investment strategies- as well as anticipate future trend changes.
When it comes to investing, throughout my career I have been particularly interested in the equation of whether an
Increase in IQ = An increase in wealth?
When I have spoken to people within the industry about it, I have found that most of them may initially state a resounding “YES”. When I think about this equation however, I normally place one exclusion on the data set whereby if the wealth was created primarily from entrepreneurial activities, such as your own business, then this person or data would be excluded. An example of this would be Elon Musk the founder of Tesla. He is clearly a genius from an IQ perspective and what I would classify as a “propeller head”. However in terms of the above equation, I would probably not include him in the assessment, as most of the wealth was generated from from his business activities as opposed to his genius investing activities. As a side note, you may already be aware of research which confirms that as you increase your education levels there is generally an increase in income. These are broad assessments and broad statements, because we all know the world is full of high school drop-outs who have created multi-million and billion dollar businesses. However, if you are wanting to play the the safe option with the odds stacked in your favour, then increasing your education is something to keep in mind. This data set however does cap out, and the basic level of education that we receive in Australia is often taken for granted from a global scale. Getting back to the above equation however, I was particularly interested to see if when it comes to investing if you have a higher IQ does this result in better investment decisions? The data set I believe is inconclusive and the we can only look at incidental examples such as the ones below: Warren Buffett, a famous investor, was once quoted stating “that if an investor had an IQ of 150 points they they should sell 30 points to someone else, as anything above 120 is unnecessary.” Interestingly Warren scored only C for English and Maths in his high school report card. The founders of Long Term Capital Management, were hedge fund managers and winners of the Noble Peace Prize in Economic Science for their company to only later fail in 1997 and require financial intervention of the US Federal Reserve whereby the company then went into liquidation. Today this question still goes unanswered in my mind, but I think the short coming in the equation is that it misses one key element of common sense – something that should be applied to every decision making process. The realities are, when it comes to investing, regardless to whether or not you are a propellor head, you can leverage from the expertise of experienced professionals. Here at AJ Financial Planning, we have over a decade of experience in Financial Planning and believe we balance our IQ with a common sense approach to investing. So why not chat to us about your ideas and dreams, and together we can work to achieve them?
The Reserve Bank of Australia has recently released a report where they have done an analysis of average property growths and rental yields since 1955. The report is called “Is Housing Overvalued?” You can find it here (http://www.rba.gov.au/publications/rdp/2014/pdf/rdp2014-06.pdf) or you can search the name using Google and it should appear. Some of the main points to come out of the report are the following:
Property prices have risen in Australia by an average of 2.4% above inflation since 1955.
The average rental yield for a property over this time period was 4.2%.
The main conclusion is that house prices would need to rise by around 2.9% above inflation for buying a home to be the better financial option.
This is an interesting and thought provoking conclusion but we feel that some important considerations have been neglected that may affect the outcome. Average prices – the report looked at property prices from all over the country. Some cities have growth levels above the average such as Sydney and Melbourne, and properties in rural non-mining areas traditionally have lower growth rates. Forced saving – at least in the early years of buying a home, the mortgage payments will be higher than the rent you would have to pay. In a perfect world you would invest the difference in a portfolio of investments that would ideally achieve investment returns higher than property returns. In reality, very few people have this financial discipline, and most people will fritter away the difference on other lifestyle expenses. Improving the value – you can improve the value of your home by more than the cost by painting and making superficial changes. Stress of renting – the nature of renting means that your landlord can decide that they want to sell the property or move into the property at any time. This will usually mean moving house a lot more often than someone who buys their home, and this can mean greater stress due to not having a sense of permanency. Limited rental options – you can only rent the type of property that is available on the market. Many people buy houses that aren’t exactly as they like and then they renovate to make their desired changes. With a rented house you don’t have this freedom and you are stuck with the property in the state it comes in. So what are our thoughts? We feel that if you would buy a similar property to what you would rent then in the long run you will be better off by actually buying a home. You will have a forced saving plan when you make the mortgage payments, as many people retire with their home being their only significant asset outside of superannuation. You will also benefit from the capital growth and there is a certain satisfaction from owning your own home. Some situations where we feel that renting would be better however, are the following:
If you purchased an investment property and you rented. This would be beneficial as you could claim the tax benefits of negative gearing and you won’t miss out on the capital growth of the property market.
If you don’t plan to be too long in the one place. The buying and selling costs associated with properties are expensive and if you move around a lot these can add up to a significant amount.
If you would rent a smaller home than if you bought your own home. This is especially true for younger people who may live in shared accommodation and pay a relatively low rent, but if they bought a home they may share with fewer people or live alone.
If property prices are overvalued. This will ofter be difficult to know, but in some situations such as in the USA around 2005-2006 many people purchased homes only to find the values plummet in the following years.
If you are facing this conundrum of whether to buy or rent and would like to discuss this further with a team of experienced financial planners, please contact us for a FREE no obligation consolation.
Which is the most valuable brand in 2014? BrandZ report each year provides us the answer to this question. Sometimes when it comes to investing, we forget that the stock price which goes up and down each day is linked to an actual company. We forget that these companies operates in the real world, and they sell goods or services to people every day. There are a bunch of groups which release these types of reports, but what I find interesting, is that the companies where people love their product or service, are sometimes the ones which are preforming financially well. The trick I think to some degree, is linking these types of reports, such as the BrandZ report, to investment ideas. I am always constantly on the search for new investment ideas and I often find some of them come from the most surprising places. For example, when I go out shopping and I come across a store which packed full of people and a buzz of activity, whilst my family goes off looking around the store, I am frantically looking up the company to see if it is listed and what are the investment fundamentals of the company are on my smart phone. Sometimes it might be brands that I am familiar with, and sometimes it might be companies which are new to the Australian market but have been around for years abroad. I have found these types of experiences always great places to find new and emerging trends – particularly in the retail space. If I may be looking for a more mature business, then I might also look at the BrandZ report which I have found a great source of insight in a range of dimensions. Lets look at an example…. In 2014 Google was listed in the top as the most valuable brand and interestingly the stock is up 31% year to date. Not surprisingly, we have had a love affair with this company for a long time. Now it is important that you don’t get caught up in fads or fly-by-night companies. Sometimes I am also interested in changes in these reports. By looking at the historical reports you can see if a brand as moved up the ladder or down. These changes can also give great insights too. Like most things with investing it is important to look at a range of variables and not just one in isolation. Some companies which rank well on the report, might be too expensive or difficult to value. If they are in the “too hard basket”, I would just cast them aside and then look for the next. I find the best ones are often the most simple to understand and simple to forecast. But keep in mind next time you are out shopping and you see a store packed to the rafters with people and excitement. It might cause you to, instead of grabbing for your plastic credit card (whereby incidentally Mastercard is ranked 18 on the BrandZ report), instead grab your smart phone and punch in the company to see if it is listed and whether this might be the start of an exciting investigation into a potential new company for investment. Like most great ideas, it is important to get professional advice. So if you want to run past your latest great investment ideas with an experienced company who shares your enthusiasm, feel free to contact our office to chat further about your thoughts, dreams and investment aspirations.
Australia is set to claim the mantle as the nation with the oldest retirement age in the developed world following Joe Hockey’s federal budget announcement on 13th May 2014. The new plan will see the retirement age for Australians born after 1966 increase from age 65 to 70 and is set to ensure that by 2035 our age pension age will have reached 70. Australia first introduced the age pension in 1909 which was for males aged 65 years and over. At the time, the life expectancy of a male was 55.2 years making the likelihood of receiving a pension quite small. Interestingly 1909 also marked the advent of corporate income tax in Australia so where there’s a benefit payment there’s also a tax! The qualifying age for the pension today for both men and women is 65 and the life expectancy for men is 80.6 and 84.8 for women. We are living on average 25 years longer than our ancestors of 100 years ago but the system in place & eligibility criteria is very different. Today it is possible for a couple aged 65 years and over to have assets of up $1,126,500 (excluding their family home) and be eligible to receive a part age pension. There is a key demographic shift taking place in our economy as the baby boom generation closes in on retirement. The ratio of working-age Australians to people aged over 65 currently stands at 5:1. This ratio is expected to decline to under 3:1 by 2050 as the baby boomers reach their retirement years. To give give this some global context, in Japan, a nation widely recognised for it’s ageing population, they currently has a ratio of just under 3:1. The economic reality for Australia is a lack of tax-paying workers to support the social security needs of our baby boom generation. In addition to our immigration policies to grow the working population, the key strategy of government has been the promotion of a semi or fully self-funded retirement using superannuation as the primary retirement funding vehicle. The tax concessions available for people accumulating wealth inside super and people drawing an income from their super (both pre & post retirement) are very attractive. The maximum rate of tax on investment earnings on assets held within the super is 15% falling to 0% when a person is aged over 60 and drawing an income. It’s important to note the key difference between the age pension age and the age at which people can access their superannuation for retirement funding. The table below illustrates that most people can access their superannuation benefits from age which is sooner than age pension age 65 (increasing to 70) Your AJ Financial Planning adviser will be able to assist you to not only maximise the tax advantages of your super assets, but also structure your affairs to provide maximum lifestyle & income flexibility both while building wealth & when drawing an income in retirement.
It’s almost July already, and while the calendar year is half over, the 2014/2015 financial year is only just about to start. So, now is a great time to review your situation and make some changes to make the most of the next 12 months of the financial calendar. Here are some tips that should help you to improve your financial situation. 1. Start a regular savings plan If you find that it is sometimes difficult to set aside funds for investing after you have paid all your bills (and spend a little on entertainment and luxuries), a regular savings plan is a great way to start your investing career! The plan involves setting up a regular direct debit (usually monthly) from your bank account to contribute to an investment. This can be a managed fund portfolio or you could transfer funds to a separate high interest cash account and purchase shares when the balance increases. A benefit of this option is that you will be purchasing the investments on a regular basis, so you will be less affected by the ups and downs of the stock markets. Some months you will buy at higher prices and some months you will buy at lower prices, but over the longer term things should even out. If you invest just $100 per month at 9% investment return with all dividends and income reinvested your portfolio will grow as follows:
After 10 years your portfolio will be worth $18,962, compared to investing a total of $12,000
After 20 years your portfolio will be worth $63,814, compared to investing a total of $24,000
After 30 years your portfolio will be worth $169,902, compared to investing a total of $36,000
After 40 years your portfolio will be worth $420,833, compared to investing a total of $48,000
If you increase the monthly contributions by 3% to take into account the inflation your results are even better:
After 10 years your portfolio will be worth $21,341, compared to investing a total of $12,000
After 20 years your portfolio will be worth $79,159, compared to investing a total of $32,325
After 30 years your portfolio will be worth $225,779, compared to investing a total of $57,233
After 40 years your portfolio will be worth $585,837, compared to investing a total of $90,707
So now is the time to consider what you are doing with $3 or so each day that you could be putting towards an extra retirement nest egg. 2. Put money towards salary sacrificing Most people start to think about salary sacrificing when they are 10 years or less from retiring. With the Government looking to reduce people’s ability to get the age pension, the sooner you can start to add to your superannuation the better. The benefit from salary sacrificing is that you don’t pay income tax on whatever you sacrifice, but you will pay a 15% tax within your super fund for the contribution. If your marginal tax rate is higher than 15% you will benefit from an overall tax saving. In addition you will increase your superannuation balance, which will hopefully grow and grow for many years to come. 3. Review your investments Take an objective look at any managed funds and shares that you have, along with your money in your superannuation account. You can then compare the performance of these assets against various market indexes and other managed funds. If you find that some of your assets have under-performed, it may be time to consider selling or switching investment options. If you have some assets that have performed very well, it may be worth selling a portion of your holdings to take profits on the investment. 4. Reduce your debts If you only make the minimum payments on your home loan, personal loan or credit card you are going to be paying a lot of interest and your payments will last for many years. Even a small increase in your payments each month can save hundreds or thousands of dollars and cut a significant time off your loan period. 5. Make a budget I tend to find that very few people make a budget, but those that do are, on average, in a better financial position than people that don’t do a budget. A budget doesn’t have to make you feel like an accountant, you can simply set up three bank accounts:
One is for fixed expenses like loan payments, utility bills, groceries etc.
One is for saving. Set yourself a saving target for each pay packet and only use these funds to invest.
One is for discretionary spending and entertainment. You will use this account for eating out, movies, holidays and any other non-essential spending.
By splitting your income this way and having the discipline to not ‘dip into’ your savings account you will see your wealth slowly build and you will improve your financial situation. So as we enter this new financial year, make the resolution that it will be the time that you get your finances in order and take action, and to achieve your goals. If you need a little hand however, our team of Financial Adviser are always here to help with a FREE no obligation consultation.
Diversification is a staple principle for most investors. The general idea is one of risk mitigation – or in other words, trying to avoid loosing your entire investment portfolio due to one bad investment decision. Most people think about diversification in terms of risk however very few consider the impact of return on the funds invested. There is an important balancing act between the risk and reward elements. If you hold too many positions then some of your greatest ideas generate very little return on your total invested capital. For example lets say you have $100,000 of investable assets and each position is about 1% of the total portfolio exposure. In this example each position would be around $1,000 each. If one positions provides a strong return of say 50%. The return on this one investment would be $500. Now you may be very excited with this return, however it will only drive around 0.5% of total performance to your entire portfolio. Hence, there is a fine line when it comes to investing. It is important to think about not only diversifying your risk away but also at the same time diversifying your return away too. The other problem with very diverse portfolios is one of investment ideas. The more positions that you hold the more ideas which are worthy of including in the portfolio are required. So in the example above, a person with the $1,000 exposure per position would need around 100. This is compared to somebody that might hold just 19 positions whereby they can be more selective about what might include and what they might leave out. Warren Buffet once stated “diversification is protection against ignorance, it makes little sense for those who know what they are doing.” His portfolio via Berkshire Hathaway holds $117 million in 15 odd positions. Yet you compare this to the typical managed fund which is labelled as “actively managing money” and they might hold up to 200 different positions at any one time. So the question is how much do you really need to be diversified? The statistical answer is around 19 positions. If you hold 19 position you will be around 95% diversified. Trying to chase the remaining 5% of diversification to reach the 100%, in essence, actually waters down the total underlying return of the portfolio – or as otherwise stated above, diversifies away your return. Now it is important that when you look at these 19 positions that they are different. For example you can’t hold 19 different mining stocks and say “look I am now diversified!” You also need to consider your asset allocation in that you have exposure to different sectors such as cash, fixed interest, shares etc is important too. Within in each sector you may also have further breakdowns in exposure, for example within shares you might hold a range of positions in different sectors. It is important however, that you don’t hold a range of assets just for diversification sake. I have seen too often people holdings exposures to assets classes which might have poor medium to long term prospects just for diversification reasons. Equally, I have also seen people invest into sectors which have poor long term economic prospects just for diversification principles. So, it is vital that each exposure provides meaningful returns, and if one can’t be found then you just wait until the opportunity presents itself. If you want to find out more about how to fine tune your investment portfolio for risk and also return with the ideas discussed above, feel free to contact AJ Financial Planning for a no obligation free discussion.
The Self Managed Super Fund (SMSF) sector is the fastest growing part of the superannuation industry as many Australians are choosing the ‘do-it-yourself’ route of an SMSF rather than your more traditional personal superannuation accounts and platforms. If you are considering a SMSF there are a few things to consider…. Is my balance high enough? Technically there is no real minimum for starting a SMSF, but in saying that, the ongoing costs make it an uneconomical option for lower balances. So what should my minimum balance be to start a SMSF? This question really depends a lot on what your accountant charges. Every year your SMSF needs to pay a $321 fee to the ATO which is a fixed cost. You will also need to pay for an external audit (that your accountant will usually organise) and your accountant will need to complete the annual reports and tax returns. These can cost anywhere from as low as $1,000 for a very simple SMSF to as much as $5,000 for more complex SMSFs with high charging accountants. Things that affect the accounting cost for an SMSF include:
Number of transactions in the SMSF, both in the cash account and in relation to purchases and sales
Number of different investments
If your accountant is able to automate transactions and reporting by having managed fund platforms or dividend recording software
If you are drawing a pension form the account
If you are contributing to the account
Type of investments e.g. property investments can be more complicated
So back to the question of how much do you need to justify the accounting costs? Fees on superannuation funds typically range from 0.5% – 2.5% per year. To keep the numbers simple, if your current super fund charges 1% in fees and your accountant will charge you $1,000 to do the SMSF accounting then you could justify an SMSF with a balance of $100,000 or more. If your accountant will charge $3,000 and your current fund charges 1% then you probably want to have around $300,000 in super before the SMSF will be a cheaper fee option. Are you prepared for the responsibilities? With a SMSF you will be responsible for the decisions relating to your investments and for the ongoing compliance of the fund. If you are the type of person that just wants to let their super sit there and not look at the investments more than once a year, then a SMSF may not be for you – unless of course you use a financial adviser to manage your SMSF for you! So if you like to take control and take an active part of managing your money (with or without the assistance of a financial adviser) then a SMSF can provide this for you. Will an SMSF give me something that my current super fund can’t? If there are specific investments that you want to access, a SMSF is often the only realistic option for you. If you want to use funds in your superannuation to purchase direct property, direct international shares, precious metals and other non-traditional investments, you will usually find that you need to set up a SMSF. If you are happy only investing in managed funds with perhaps a few direct Australian shares, then you can often achieve the same result with a personal superannuation fund that has these options. For larger balances there may be a cost saving even if you are going to invest in managed funds and Australian shares, but you will have to do the sums. Still not sure if an SMSF is for you? If you would like one of the financial advisers from AJ Financial Planning to assess your personal situation and discuss whether an SMSF is appropriate for you, please email firstname.lastname@example.org or give us a call on 03 9077 0277 and we can organise an initial meeting for no cost to you!
The above terms are classic marketing tag lines which have been hammered away at people for decades now. The interesting part is that from a consumption and consumer point of view, it has structurally changed the way we spend. The thoughts of patience, perseverance and sacrifice/trade offs in today’s world are mostly considered negative terms. In some regards, these might be considered traits possibly of the past or conjure up thoughts of frugality which for some maybe uninviting ideals. What is of particular interest, is that the instantaneous consumption patterns now seem to have also been filtering into the investment world as the approach people take with day-to-day investing. Let’s look at one example which is the average holding period for an investor when they acquire a share.
In around 1960 it was around 8 years the average holding period
In around 1970 the hold period reduced and was around 5 years.
In around 1980 it was around 3 years
In around 1990 it was just over 2 years
In 2000 it was around 14 months
– Today the current holding period of a share is around 6 months The above figures I find particularly interesting on so many levels. One of the most valuable pieces of insight from this data could be potentially the inefficiencies that this might create in the share market. John Templeton, a famous investor, statistically believed that on average you needed to hold a company/share for around 5 years to allow a missed priced investment to come to full realisation. We often too find that some of our greatest ideas may percolate for 8- 9 months doing very little and then break out upwards in a wild rush of excitement when the market realised they had misplaced this company. In some cases the time period can be even longer stretching out years, and yet the price adjustments sometimes leaves me scratching my head thinking “why did they not see this earlier?” In reality, most investing in growth-based assets, whether it be a share or property, tend not to operate like a bank account which credits interest each day. Most growth assets move in surges and periods of rest. I guess somewhat similar to life and how a human operates in that we move then we sleep. With investing, sometimes it comes back to also thinking differently to the general herd. This unfortunately requires patience and perseverance and sometimes sacrifice with a savings plan or retain capital in an investment that is building for tomorrow, as opposed to spending the capital or cash today. Like most great ideas, holdings periods need to be considered with the greater global framework and market place. Sometimes shorter holding periods may be appropriate if there is upcoming drama or uncertainty. A well structure approach however gives consideration to balancing these elements. If you would like assistance in creating your investment portfolio, we would like to help with a free no obligation consultation.
Albert Einstein famously described compound interest as the 8th wonder of the world. A profound statement given that it was coming from one of the greatest minds of all-time. Put simply, compound interest is the earnings on an investments re-invested earnings, as we relate the principle to the world of investing. As the capital sum invested grows so to do the earnings on the capital until a snowball effect starts to take shape. As a snow ball rolls it accumulates more and more snow (investment returns) and more and more momentum (capital invested). The two keys to investing are to find wet snow and a really long hill if we are to grow a nice snow ball. The good news is savvy financial planners can target the wet snow for you so your snow ball can compound and grow in a variety of market conditions and economic cycles. This helps ensure one of the vital ingredients is present in our snow ball analogy. The other key ingredient is the length of the hill which plays a hugely important role and can only be determined by the individual investor and their investment time frame. To illustrate the importance of starting early we have taken a real world example of the US stock market which has grown at a rate 6.9% per annum over the very long term since 1926. This growth rate of 6.9% per annum is the real return achieved which means the eroding effects of inflation have been removed making the example more meaningful. If we assume an initial investment of $1 grows at 6.9% per annum return and is allowed to compound each year, the importance of having a long hill becomes very apparent. The table below illustrates the amount by which an initial $1 will have grown by the end of each investors timeframe, depending on the age they start the snowball rolling. Let’s highlight 3 scenarios: Investor A – 25 year old with 40 year timeframe Investor B – 35 year old with 30 year timeframe Investor C – 45 year old with 20 year timeframe The value of Investor C’s $1 investment will have grown to nearly $3.8 just by putting time and compounding on his or her side. The value of Investor B’s $1 investment would be worth $10.4 or nearly 3 times that of Investor C just by starting 10 years earlier. The magic of compounding and starting early becomes apparent when we look at Investor A’s initial $1 investment which will be worth $14.5 at the end of their timeframe. AJ Financial Planning is highly experienced in finding wet snow for your investments. If you feel the time is right to start the ball rolling, please don’t hesitate to contact the office and we will be happy to assist. *Thank you to Warren Buffett for his analogy & quote “Life is like a snowball. The important thing is finding wet snow and a really long hill.” which provided the framework for this weeks article.