With term deposit rates falling, investors will start to look for alternatives, says the Financial Markets Authority (FMA). I think this is true and it is most true of retired investors who are starting to turn to managed funds (including KiwiSaver now that over 65s can join or re-join) to give them their income in retirement.
The FMA has seen this trend and produced a handy little paper on managed funds. That’s good because managed funds certainly carry risk.
Although I believe that retired people turning from term deposits to managed funds is an intelligent response, my guess is the FMA is worried that people will stumble off into this area and not take enough account of risk.
Managed funds risk depends mostly on the type of assets they invest in. The big split between managed funds is between Single Asset Class funds (they invest in just one investment type, say, shares or property) and Multi Asset Class funds (that invest in a mix of shares, property, bonds and cash).
The FMA will be worried that either people will go into a Single Asset Class fund and end up owning nothing but shares or property; or they may invest in a Multi Asset Class fund which is too heavily weighted towards shares.
Either way, leaving the safe haven of term deposits for one of these kinds of funds does involve a major step up in risk. History shows that when there is a major market slump, it is people who have taken more risk and invested mostly just in one asset class who turn into roadkill. Regrettably, many of those people splattered across the financial road have been retired people, trying to eke out a bit more return from their life savings.
The excesses that we have seen in the past (where some people were 100% in shares or had “diversified” by depositing in five different finance companies) should not stop us recommending well diversified managed funds in lieu of term deposits. In fact, I think that a well-diversified managed fund that is 30% - 50% invested in shares and property and 50% - 70% in bonds and cash is a very good option for a lot of people including retirees.
Term deposits with a major, well-rated bank are about the safest investment. Although they come with no guarantee (unlike nearly all other countries) our banking system is well regulated and sound, and there seems little chance of a bank failure anytime soon.
Nevertheless, they are not perfectly safe – it does not happen often, but banks do fail (and have done so in this country). Moreover, if you think of risk as the probability of failing to meet an objective, it could be argued that they are not safe: low interest rates and the prospect of further reductions mean that after tax and inflation there is likely to be little return, if any.
If a real investment return is the objective, people relying solely on term deposits are in grave risk of failure.
Moreover, investors who invest only in term deposits have concentrated their wealth to just one asset class. Such a strategy always carries greater risk and the failure of the asset class could mean a cataclysmic failure of the strategy. Everything invested with banks means that if there is a bank failure you are in real trouble.
Contrast this with investment in a managed fund with multiple different asset classes. The whole point of having a mix of different types of investment is that when trouble strikes, it does not hit everything that you own: sure, your shares may have collapsed but the bonds in the portfolio are probably doing fine.
In fact, the bonds have probably gone up in value as the shares fall.
A mix of shares, property, bonds and cash ought to give you something that will perform in most economic weather. If we have inflation, property should perform well; if we have deflation, bonds will do well; if we have some kind of New Zealand specific event, international shares will look good etc. It is unlikely that everything in a well-diversified portfolio will crash and burn: if it does, we have a world of problems!
When it becomes critical that an investor does not have absolute loss, you cannot beat a diversified, multi asset class portfolio – you need to have all the different asset classes to get you through all the different economic and political events that may be thrown at you.
This is the reason I am happy to see people who are investing for retirement income reduce their term deposits and move to managed funds. Term deposits certainly have their uses but the managed fund that has some shares, property, bonds and cash is generally a better option.
*Martin Hawes is the Chair of the Summer Investment Committee. The Summer KiwiSaver Scheme is managed by Forsyth Barr Investment Management Ltd and a Product Disclosure statement is available on request. Martin is an Authorised Financial Adviser and a Disclosure Statements is available on request and free of charge at www.martinhawes.com. This article is general in nature and not personalised advice.
27 Comments
low interest rates and the prospect of further reductions mean that after tax and inflation there is likely to be little return
So guess what's coming, Martin?! Let's call it Negative Inflation to protect the squeamish. That's where your 'return' on Term Deposit money will come from - the stored purchasing power of cash spent tomorrow and not today. It doesn't matter if your Term Deposit 'earns' minus 5% p.a. if the price of what it can buy at maturity has fallen by more than that...or more...much more...
(NB: Why else do we think 'they' are so terrified of what's coming? Why else would 'they' be trying to 'encourage' people with savings to spend them now? Higher interest rates can work to slow a hot economy down - borrowers get to a stage where they can't service a particular cost of money, but the reverse - forcing people to spend their savings - doesn't necessarily work! In fact, it makes people clutch their money to their chests even more.)
I understand that, but it's not going to change what's going to happen. They will have to spend the principal of their savings - no other choice.
Well, actually there is - risk what they have; to provide for the latter years of their lives, with yet another risky 'investment';. But after 3 set-backs in many of their lives - 87', '99 and '08 - are they going to give it another go? I doubt it.
Savings are meant to be applied in times of adversity - it's a gathering of the nuts in summer to eat in winter thing. The drawback? There's little chance of another harvest for many to replace what they have ( they're too old to rejoin the workforce). So what they have, will have to do.
It's going to be "paradox of thrift" versus shock and awe stimulus from Central Banks. Every second day the FT carries an article about how AI is going to hollow out employment and how technology is evolving so rapidly big ticket items such as cars face being obsolete within 5 years (new car sales in Australia are -10% p.a 3 years in a row). In my opinion, it's never been a more dangerous time to be cashed up - the value of your savings is going to be destroyed like Qantas torched my Airmiles.
So guess what's coming, Martin?! Let's call it Negative Inflation to protect the squeamish. That's where your 'return' on Term Deposit money will come from - the stored purchasing power of cash spent tomorrow and not today. It doesn't matter if your Term Deposit 'earns' minus 5% p.a. if the price of what it can buy at maturity has fallen by more than that...or more...much more...
Well said. I have the utmost respect for people like Martin Hawes, but I wonder if their diversification model is really suitable for these times. Sure, it would have worked wonderfully post-WWII to now, but I would argue that we're possibly at the end of a very long, warped cycle. Who knows but plunging 50%+ into precious metals might be the smartest investment move one could make if it all unravels the way it's appearing to at the moment. I very much doubt you will see anyone recommending. Furthermore, what Martin is suggesting could be easily done via ETFs, yet there are warning signs that these are potentially a time bomb that can take everything down.
Can't she that happening. There'd be mass matches in the streets.
The solutions are many, but the establishment don't like them. It's mainly around a fairer redribution of wealth. These interests have and are doing everything possible to kick the can dow the road, only to find there are few customers left to support the returns these pricks want.
Ask yourself, what justifies an overseas owned bank achieving a 15% return on equity? Answer, past and present politicians that allow it. And if you are wondering which politicians; Jonkey, Shipley, Simon Power, Don Brash, Whitehead, etc, who have or had cosy bank postings after their stints in public office.
There has been no 20-year period in stock market history where investing a lump sum into a diversified stock portfolio and drawing 4% a year (adjusted upwards each year for inflation) which has run out of money. The average outcome was 102% gain (lowest 5% left and the highest 550% gain).
Run your own calcs here: https://www.firecalc.com/
stick with the TDs and stay away from Max Churn investment advisors.hopefully the generation that got rorted by money managers and blue chip etc; wont get sucked in.better to have your hard-earned cash locked in a toolbox in your garage than entrusted to a babyface in a striped suit.
Retired 4 years ago with a nest egg to invest. Figured out that if one could get a return on that investment of 7%, then one would have a comfortable retirement. After a lot of research, opened up a ASB sharebroking account and invested in utility companies on the NZX paying reliable dividends that were averaging 7% gross at the time. How did that work out? Now receiving a 10% annual gross return through dividends and the shares, on average, have doubled in value. I'm all right, Jack!!! So much for putting your eggs in one basket. Do your research though.
If you want to go into shares now, when airports and power companies are on PEs of 20 to 40, and when even the brokers were saying they were over priced last year when the NZX was 7000, then good luck. I wont be joining you at these levels unless its a new growth company with prospects, which are hard to pick. But mature blue chips on a PE of 20, forget it.
I think you need to realise that in these times P/E ratios are almost meaningless. Many have been calling for a crash for 7-8yrs now and the markets keep rising. Why? Because there is fear out there and capital is looking for safety. As interest rates keep falling and banks become shakier then equities are the better option as far as liquid investment is concerned. All PE ratio analysis will prove meaningless in the years ahead.
Staying with TD's myself, but I guess it depends on how pushed you are for money from month to month. Not really worried about negative interest rates, it will never happen to those with significant funds, its cheaper to buy a safe and pull everything in cash which will be bad news for the banks. Should you be worried about a total banking collapse ? probably not because if that happens it will result in the total collapse of society as we know it so the governments cannot let it happen.
For those tempted to stash cash at home: DON'T !!!
Don't think you will never have a house fire!
Don't think it won't be found in a robbery while you're on holiday or just out at the supermarket.
Don't think you'll be exempt from a home invasion by crims if the economy tanks! You will open the safe if a gun is pointed at your wife's head.
Don't think a member of the household won't get dementia and one day throw the cash out in the rubbish.
(You can only insure a very small sum of cash.)
Don't think the economy will never tank; my 95-year-old mother can recall what that looked like in the 1920s and 1930s.
Spread your savings among several of the top banks.
I thought about that too.
My money is with Kiwibank now, and I'm also considering Simplicity as a future option. Kiwibank has strong local shareholders, while Simplicity are a non profit locally owned charitable trust. Best to bank locally, as the overseas banks are taking too much profit out of our economy and replacing it with more debt.
Invest locally, so you see the returns locally are than exported. Saying overseas investment is good is mostly a lie, and politicians that keep telling this same story are liars too.
How low can TD rates go ? The Banks need funds from savers and is there not a rule by RBNZ that a certain amount of total deposits have to come from New Zealand ? Won't that pressure banks to keep the rates at the level to attract deposits ? Unless they want to shrink their book ? How long can they run their mortgage show on cheap funds from other sources, many from overseas ? It all looks too simple, to keep on pushing towards negative rates, assuming that is going to be a panacea for all the economic ills...
Its easy enough to do micro trades on the NZX and ASX using either ASB securities or ANZ's equivalent, you'll be pleasantly suprised at how much you can make with some good reasearch and a few clicks a couple of times a week. Just don't let it go to your head...gordon gecko was only a great character in a movie...not in real life!
While I totally believe in diversification let us be absolutely clear that anyone moving into managed funds such as Martin is pushing, may be subject to annual fees or 'buy ins' which may entirely wipe out any small annual percentage gain with higher risk. Buyer beware, that's all.
My suggestion is keep an eye on the US. The temporary surge in the stock market there since trump rewarded the rich with massive corporate tax cuts is rapidly wearing off as stupid people are belatedly realising it was an unsustainable and dangerous infusion in an already reasonably steady economy instigated purely by personal motives for the trump cronies. Once the market tanks in the USA the world will follow suit in one way or another i.e, managed funds.
You just have to have time to weather the storm....again.
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