If you do it right, investing in shares should give you higher returns over the long term than other options such as bonds or bank term deposits, and comparable returns with property. Photo / 123RF
OPINION:
Q: We have a sum of money we wish to invest. I wish to buy some shares.
I am new to the share market but wish to invest the money in our four principal power generators. Everyone needs power and they are majority owned by the government, so should be safe.
What do you think? Are they overvalued or worth a punt?
A: First of all, good on you for looking into shares. While many New Zealanders own shares indirectly through their holdings in KiwiSaver or other managed funds, a much smaller number own them directly.
If you do it right, investing in shares should give you higher returns over the long term than other options such as bonds or bank term deposits, and comparable returns with property. And share investing — especially if you just buy and hold — takes much less effort than investing in a rental property.
However, I’m glad you’ve written before buying your shares, because I have a couple of concerns about your plans:
● Lack of diversification. You’re looking at four shares in the same industry. That beats investing in only one company. But still, specialising in any single industry heavily exposes you to problems that might beset that industry. What if there’s a revolution in the way power is generated, and those companies don’t adapt well to the change, while new companies take over?
Stranger things have happened. Nobody foresaw the Covid pandemic and how it would affect airline and airport shares, among others.
It’s much less risky to buy shares in a wide range of industries.
● It seems you think that you — or I — can judge whether shares are a good buy.
Certainly, the shares you are considering are unlikely to become worthless. You’re close to correct about the government involvement. Genesis Energy, Mercury and Meridian Energy operate under a mixed ownership model, with the government holding majority stakes, but Contact and Trustpower are private-sector companies. Still, it’s hard to picture share prices in any of those companies dropping to zero.
But that doesn’t mean they are good investments. You want more than just not losing all your money. You want strong returns in the form of dividends and gains in the share price so you can sell at a profit.
What a lot of share investors don’t realise is that a company might be run well and have a bright future, but if you know that, so will other share investors — unless you are an insider trader, and that’s illegal.
When everyone knows a company — let’s call it Bright Co — is looking good, many of the professional share investors who run KiwiSaver and so on will have increased their holdings in Bright Co before you and I could. And when lots of people want to buy something, that pushes up its price.
Similarly, when bad news breaks about Dull Co, the professionals will sell fast, lowering its share price.
In other words, share prices reflect the knowledge we have about companies. So you’re just as likely to make gains, from a low base, in Dull Co as you are, from a high base, in Bright Co. Any share might be the best buy. That’s why there are stories about monkeys or other animals “picking” shares and doing better than many people.
What to do? Don’t try to pick shares. Instead, I suggest you invest in an exchange-traded fund, or ETF, that holds shares in many companies.
The only ETFs traded on the NZ Stock Exchange are offered by Smartshares, which is owned by the Stock Exchange. If I were you, I would invest some money in Smartshares’ NZ Top 50 ETF, which holds shares in our biggest 50 listed companies, and the Total World ETF, which basically invests in the world’s biggest listed companies.
Once you’ve made the purchases, stick with them through thick and thin.
Note that these investments won’t necessarily perform better than the electricity generator companies. But there’s a good chance they will. And you will be superbly diversified, so when some companies do badly that will often be offset by others doing well. You might miss out on unusually big gains, but you will also miss out on unusually big losses. It’s a trade-off that most people are happy with.
Q: I was told by my KiwiSaver provider that I should change to a lower-risk moderate fund, as I’m in a balanced fund and turn 61 this year.
I have $124,000 in KiwiSaver and have more in managed funds, totalling $700,000. My managed funds are balanced and growth. I own a mortgage-free house as well. I probably won’t quit paid work at 65. I will need to access some of the KiwiSaver then, but not all of it.
I could open a lower-risk KiwiSaver account and feed the balance into it from the balanced account in three instalments. Or should I wait for the markets to rise before going into a lower-risk fund?
A: If your provider gave you that advice based only on your age, I’m disappointed.
The Financial Markets Authority and others have been urging KiwiSaver providers to give investors more help with their fund selection as they approach retirement and at other times of change. But providers should point out that you need to take into account your other investments and your circumstances.
I suggest you work out how much of your savings, in and out of KiwiSaver, you expect to spend and when. Then hold the money you plan to withdraw within about three years in a low-risk fund, such as a cash fund, and the three-to-10-year money in a middle-risk fund or a bond fund.
The longer-term money can stay in a growth fund as long as you can cope with the ups and downs.
It seems you probably won’t spend any of your savings for four years or more. But you might want to move the short-term money from balanced to moderate in the meantime, as a transition step, and then later put it into a cash fund.
On waiting for the markets to rise, I wouldn’t bother. They might not rise much for some time. And when they do, how will you know whether to wait a bit longer in the hope of even further rises? Trying to time markets doesn’t work well.
But I do like the idea of making your move in three instalments, to avoid moving the lot at what turns out — when you look back on it — to be a bad time.
Q: My background is in banking. Part of my role includes term deposits, and I must say I learned about laddering from you! Not from the bank I work for!
It is sad that a recent writer found their bank didn’t understand laddering. I am going to show your article to my manager and raise the issue with the teams and our product manager.
Part of my job is helping customers set up or renew their term deposits. From my experience, only two of my customers used laddering in the past two years.
I recently opened 12 term deposits for one of those customers. The terms were from one month to 12 months, then reinvest for 12 months on maturity. By doing so, after 11 months she will have 12 TDs with 12-month terms, and she will always have one TD maturing every month.
I believe laddering can benefit many people and the bank too. It saves money for the bank, as breaking TDs is very time-consuming, and causes many complaints due to the break rates.
I have helped with many TD early withdrawals over the past 12 months, as the interest rates moved up a lot and some customers had locked in for three, four or five years at low rates like 2 per cent.
It’s sad to see that sometimes they received less than they originally invested due to interest clawbacks. A lot of early withdrawals would have been avoided if our customers had used laddering.
A: Thanks for a good example of laddering over the shorter term.
These days, banks are tending to pay the same or even lower interest for five-year term deposits than one- or two-year deposits, which is unusual. More on this next week. But the banks are still doing the normal thing with terms of one year or less — they pay more if you are willing to tie up your money for longer.
So what your customer has done should work well. She’ll get considerably higher rates than if she had invested for just one month, and yet she will gain access to some of her money every month.
It’s interesting to learn that banks might prefer laddering over facing unhappy customers wanting to break their TD terms. Perhaps you could point that out to your bosses. Then, hopefully they would encourage you to help more customers set up laddering.
Q: Another question about term deposit laddering (to add to the pile!). If you had a sum of money to place in term deposits and you were going to ladder them, would you suggest laddering them with different banks?
For example, you could split the sum of money in two and then ladder each amount over two banks (one which might be giving better interest rates), or just keep it simple and stick to one place/institution.
A: There’s no reason not to use more than one bank. It will help you keep track of what interest rates the different banks are offering.
It’s worth noting, too, that lately a few banks around the world have collapsed or have been saved from collapse. The Reserve Bank is assuring us that New Zealand’s banks are not looking wobbly. Still, some people hold considerable money in bank term deposits over many years. And who knows what the future holds?
After the new bank deposit insurance scheme takes effect, some time next year, deposits totalling up to $100,000 per person will be covered. So it wouldn’t hurt, from now on, to limit your investments in each bank to that level.
Q: I just wanted to make a comment on laddering. I don’t have savings but I have a mortgage! I have been laddering my mortgage for years. The total is $600,000, and I fix $200,000 for one year, $200,000 for two years, and $200,000 for three years.
I always put pressure on my bank to do the refixing at no cost whenever one came up for renewal, and I got them to match the lowest rate at a competitive bank.
A: That’s not quite what I mean by laddering, whether it’s term deposits or mortgages.
To ladder a mortgage the usual way, you would start with what you have — say one third of the debt with a one-year term, one third with a two-year term, and the rest with a three-year term. But when the one-year loan ends you would renew it as a three-year loan, and the same with the two-year loan. You would continue with just three-year loans from then on. See the table below.
That gives you one loan maturing every year, in an even flow — unlike what you are doing, which gives you anything from one to three loans maturing each year. If interest rates have risen a lot in year six or year 12 — years in which all your loans will mature — you’ll be hit hard by the new higher rates.
Still, your way is better than not breaking up your loan at all. Under both your system and mine, you spread out the impact of rising interest rates. Of course you also delay gaining the full benefits of falling rates. But it’s a bit like the situation in today’s first Q&A. Most people feel fine about that sort of tradeoff.
Another plus from laddering a mortgage: with part of the loan maturing each year, you have plenty of opportunities to pay off extra in a lump sum without penalty.
Oh, and by the way, good on you for driving some hard bargains with your bank.
- Mary Holm, ONZM, is a freelance journalist, a seminar presenter and a bestselling author on personal finance. She is a director of Financial Services Complaints Ltd (FSCL) and a former director of the Financial Markets Authority. Her opinions 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. Letters should not exceed 200 words. We won’t publish your name. Please provide a (preferably daytime) phone number. Unfortunately, Mary cannot answer all questions, correspond directly with readers, or give financial advice.
Government, banks respond.