Mary Holm 's Opinion

Mary Holm is a personal finance columnist for the NZ Herald.

Mary Holm: Watch out for foreign exchange risk

6 comments
Money invested in an overseas share fund can be adversely hit by changes in the value of the Kiwi dollar

It can pay to reduce the risk of currency fluctuations by investing money at home as well as abroad. Photo / Getty Images
It can pay to reduce the risk of currency fluctuations by investing money at home as well as abroad. Photo / Getty Images

You have often advised the value of passive index tracking - low fees, diversified, low risk, easy care, etc.

I invested some 10 years ago in SmartMozy but have watched as it has slipped. This does not seem consistent with the Australian Stock Exchange index. Am I missing something?

The investment is for the benefit of my grandsons who may require some cash within three to four years for student loans, etc.

I will combine the data (for two grandsons).

In February 2005 I purchased 5650 Mozy for $25,425.

In August 2008 I purchased 3195 Mozy for $19,489. Total shares bought were 8845 costing $44,914 minus costs. All dividends were reinvested, so total shares are now 10,982. No shares sold.

The total value is now about $51,615, or about $6700 profit on nearly $45,000 invested for between six and nine years.

This appears to be less than a 2 per cent gain per year. I am committed to exchange traded funds, which these are, but am I wise to change something here?

I chose this investment because I believed it to be safe, with slightly above average returns and without my having to constantly monitor it. Am I being naive and optimistic?

For the benefit of others, SmartMozy invests in the shares in the Australian MidCap 50 index - shares ranked 51st to 100th on the Australian stock exchange.

As an index fund, SmartMozy trades only when the index changes. It's therefore much cheaper to run than funds in which the managers actively trade shares, so the fees are usually considerably lower. This is a major reason why I recommend index funds - sometimes called passive or tracker funds.

SmartMozy is also an exchange traded fund, meaning you can buy and sell shares in the fund on the sharemarket.

Okay, on to your situation. You're right that the investment is probably safe in the sense that your money almost certainly won't disappear. And yes, we expect higher average returns than in, say, bank term deposits, because you're investing in shares. But - contrary to your first sentence - I wouldn't call share index funds "low risk". They are not a good place for investments of less than 10 years. Over shorter periods, sharemarkets sometimes fall a lot, and that's just what's happened to you.

Furthermore, SmartMozy is unhedged against the Australian dollar, so your investment will fluctuate with changes in the kiwi-aussie dollar exchange rate. And in the past three years or so, the exchange rate has also moved against you. You've been hit by a double whammy.

Smartshares, the NZX subsidiary that runs SmartMozy, says the currency risk is pointed out in its investment statement - although it's not mentioned in its one-page online fact sheet, and I think it should be, and quite prominently.

Breaking down your investment into your two purchases is telling. According to Smartshares' calculations:

Your first investment, of more than nine years, has an average annual return of about 5 per cent.

Your second investment, of about six years, has an average return of almost nil, even with dividends reinvested.

Your overall calculation of about 2 per cent a year is about right.

Why the big difference for the two investments? Returns between February 2005 and August 2008 were a fantastic 12.4 per cent a year. But the timing of your second investment, in August 2008, couldn't have been worse. The global financial crisis started right after that, and shares around the world plunged.

While many markets have grown well since then - including the Australian market - the fall of the aussie dollar against our dollar has cancelled out that growth for SmartMozy.

What can be learned from this? Firstly, share investments should be for at least 10 years. Secondly, be aware of foreign exchange risk. If you had put half the money in a New Zealand share fund, you'd have done much better. Thirdly - and this is important - it's usually better to gradually drip-feed money into a share investment. Nobody knows whether now or the future is a better time to buy. So if you spread your purchases, you'll at least have bought some at what turns out to be the best time.

Smartshares has a plan enabling people to gradually buy into its funds, contributing $50 or more a month after they've bought a minimum number of units.

But that's too late for your investment. What should you do now, assuming you want to withdraw the money in three or four years?

With that time horizon, conventional wisdom says you should move the money now to high-quality bonds or bank term deposits. It should then grow slowly but steadily, safe from further sharemarket or foreign exchange movements when you have too little time to recover.

Does that sound reasonable? Or are you saying, "Hey, I've had rotten luck so far. I want to leave at least some of the money in SmartMozy in the hope that it's my turn for some good luck!"?

That's understandable - as long as you appreciate that markets don't respect fairness, and your bad luck could continue. If you do want to stick partly with SmartMozy, I recommend you plan to gradually move the money to bonds or term deposits. In the same way that dripfeeding into shares works well, so can dripfeeding out again.

Oh, and good on you for setting money aside for your grandsons.

Looking at index funds

I would like to invest some of the proceeds of the sale of two rental properties over the past few years in index funds. I see from a previous column that you are a fan of index funds, like some of ASB's, Smartshares and SuperLife.

I'm unsure if this is a good time to buy into any of these funds after such high growth in New Zealand shares over the past few years.

We are retired and have more than enough to live comfortably - in fact I wish I had spent more earlier! The majority of our money is invested in layered term deposits, and one rental property. Recently I moved $60,000 into a balanced PIE managed fund and moved my KiwiSaver to a higher risk category to ensure some long-term growth.

PS: I wonder if your other readers are aware that they can easily access past columns using a keyword search through your website, www.maryholm.com

As I said above, nobody ever knows when it's a good time to buy into any sort of share funds - index or otherwise - despite lots of people's claims. So dripfeeding your money in, perhaps over a year or two, is a good idea. You can also reduce risk by:

• Investing only money you don't plan to spend for 10 years or more.

• Spreading the money into international index funds as well as New Zealand ones.

Hang on a minute. Didn't the correspondent above lose money because he invested overseas? Yes, but you can also gain from foreign exchange movements. And by investing some of your money beyond New Zealand, you reduce your exposure to just one sharemarket.

Thanks for your postscript. I should add that I don't make any money from the website, so I'm not trying to plug it here!

Capital gains tax

I have a question about Labour's proposed capital gains tax.

What happens if I move into my rental property a few years after the tax is introduced? The property would go from being a rental to a personal home. Is that considered the point at which the tax is payable on any gains?

Labour's finance spokesman David Parker replies: "Gains on the principal family home are not taxed. Gains on investment property after the date of introduction are only taxed when realised. The details around the unusual situation described would be determined by the expert advisory group. We expect similar issues will have been considered overseas." In this context, "realised" means "made real" or "converted into cash". In most cases that simply means "sold".

Simplifying tax

I propose a simpler system than trying to read someone's mind when deciding whether their capital gains should be taxed under the current system.

Regardless of "intention" at the time of buying, if you own an asset for between zero and one year, you pay capital gains tax at the top tax rate. Then reduce the tax, say five percentage points per year until - after owning the asset for six or so years - no CGT is payable.

There would be some finer points around "ownership", but a lot of those have already been addressed in other legislation that would stand as a precedent for CGT. Do you think any Government would institute such a simple process?

No, and I don't think it should.

The logic behind the current law is that many of us pay tax on income we earn from working, receiving interest and so on. So why shouldn't someone who earns income from buying and selling assets at a profit also pay tax?

The trouble is that people also buy and sell for other reasons. A couple might plan to own a rental property their whole lives, live off the rents, and leave the property to their children. Their intention is not to sell at a profit.

However, if the couple unexpectedly find they need more money and so they sell the property - and it happens to be for more than they paid for it - the thinking goes that the gain shouldn't be treated as income. They're not traders.

Under your proposal, if they had to sell soon after they bought they would be taxed heavily. Meanwhile, someone else could earn a living by holding property or shares for six years and then selling, and pay no tax.

There's another issue, too. If we went with your proposal, people would hold on to assets for longer than they otherwise would. Whenever tax law distorts the way people behave, it hurts economic growth.

KiwiSaver puzzle

Just one question: How on earth can the 67-year-old retired widow in the first Q&A last week have saved $112,926 in the KiwiSaver scheme?

I, too, started from the very first date (August 2007) and pay - after retirement since 2010 - my voluntary contribution of $1043 annually. The total sum of my KiwiSaver is $16,759 (May 2014). Can you please explain?

There are two possible explanations. Firstly, anyone can transfer any amount into KiwiSaver - perhaps other savings, or an inheritance or bonus. Many people don't do that because the money is usually tied up until they retire. But that wouldn't be a problem for last week's reader who would soon gain access to the money. Secondly, although she's retired now, she may have been working until recently.

When KiwiSaver started, employees had to contribute 4 or 8 per cent of their pay. While the minimum contributions have changed several times since, the reader may have kept her contributions at 8 per cent, in which case her account would have grown fast even if she wasn't on a high income.

• Mary Holm is a freelance journalist, member of the Financial Markets Authority board, director of the Banking Ombudsman Scheme, seminar presenter and bestselling author on personal finance. Her website is www.maryholm.com. Her opinions are personal, and do not reflect the position of any organisation in which she holds office. Mary's advice is of a general nature, and she is not responsible for any loss that any reader may suffer from following it.

Send questions to mary@maryholm.com or Money Column, Business Herald, PO Box 32, Auckland. Letters should not exceed 200 words. We won't publish your name. Please provide a (preferably daytime) phone number. Sorry, but Mary cannot answer all questions, correspond directly with readers, or give financial advice.

- NZ Herald

Mary Holm

Mary Holm is a personal finance columnist for the NZ Herald.

Mary Holm is a columnist, best-selling author and seminar presenter on personal finance. She is also a director of the Financial Markets Authority and the Banking Ombudsman Scheme, and holds an MBA in finance. Previously she was business editor of the Auckland Sun and Auckland Star, and has worked for the NZ Listener, Australian Financial Review and Chicago Tribune. She has been called “The nation’s favourite investment agony aunt.”

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