Wealth & Security Planners have been contacted by many people seeking assistance as they attempt to understand the current turmoil in financial markets. The impact on share portfolios, superannuation, insurance and cashflow planning can be substantial. Although it may appear that the "old" basics are no longer applicable, we do not believe this to be the case. Rather, the turbulence and uncertainty reflect a period of transition, in which the core valuation principles of the past decades have been called into question. This may require a rethink of some strategies but in most cases a return to fundamental concepts and strategies will be a valid reaction.
NOTE : What follows is general information only. You cannot rely on it as advice applicable to your situation, and you should not take any action solely on the basis of these notes.
Bloomberg - An excellent news website. Although the perspective is that of the United States, it does help to provide an excellent global perspective of financial news.
IMF - The International Monetary Fund. A look at the VERY big picture.
RBA - The Reserve Bank of Australia website. Excellent data and commentary from our central bankers.
Crikey! - A reasonably independent website with strong opinions and different perspectives of money and markets.
michaelsmusings - Our own linked website that contains very opinionated views of the world of money.
Monday 27th July 2009
The key area that people will feel the immediate impact of the financial panic of 2008 is through the balances of their superannuation accounts. A brief commentary on that is set out further down this page.
Given that this particular crisis is a "credit crisis", it is likely to evolve and impact in ways that are not expected and that are difficult to predict with any certainty. This is partly because businesses that are doing quite well can be thrown into turmoil when they are suddenly required to renew loan facilities or obtain funds for an ongoing development. Up until that point, the managers and employees could feel quite comfortable, and believe that all is well. In other words, enthusiasm that Australia has missed the global impacts felt elsewhere may be based on a tenuous assumption. In addition, Australia has a tradition of "lagging" economic conditions from the United States and elsewhere.
It is reasonable to therefore expect a good deal more uncertainty than was the case with previous large falls in market prices (such as 1987 or the Dotcom boom of 2000).
Some commentators have recently called the "end of the recession". While we all hope that they are correct, it is a statement that is based on hope more than cold logic. Australia still sources a good percentage of its annual cash needs from overseas investors. This leaves us susceptible to contractions in conditions and only partly buffered by our role of providing basic (and much needed) commodities to the world.
It should always be remembered that times of difficulty can also be times of opportunity, so it is worthwhile being aware of what is happening in the world of money but not letting that blind you to the possibility of improving your personal position during this time.
Friday 20th January 2009
For many Australians, the frequent media references to global financial problems are wearing thin in terms of being of any interest or relevance. To some extent, this may be a reflection of the "get on with it" attitude associated with Australians today - or it may be a desire to simply ignore something that does not appear to have much impact on us locally.
Either way, the changes underway on a global scale are unprecedented in the post-war period that reflects the experiences of most of those who will read this note.
Superannuation
The vast bulk of Australians will be exposed to those changes initially through their superannuation account balances. Some will look at their annual statement and suddenly realise that they did not truly appreciate just how investments worked (the cynical will add a quip, "or don't work!"). By far the highest percentage of people with work superannuation have their funds invested in the "default" strategy. This will usually be referred to as "balanced" or "managed". Neither of these titles will reveal exactly where the money has been invested, as these are terms used by a wide range of investment strategies.
The average "balanced" fund will have anything between 40% and 60% of its assets in areas that will be severely impacted by the global financial turmoil of the past 18 months. These assets would be Australian and overseas shares. There would also usually be some form of exposure to property - in many cases, property listed on the stock exchange (again, locally and globally). From the "high" value points reached in 2007, these markets have fallen substantially. Shares anything between 30% to 50% (for a broad portfolio) and for listed property almost 70%. These are movements at the extreme end of anything that would reasonably have been expected two years ago. The "balanced" portfolio would also usually include around 20% to 50% of fixed income investments - ie, Government and statutory authority bonds and notes that pay income and are backed by the issuer. These should be considered very secure in the current environment, and will have helped to offset some of the losses from other parts of the portfolio.
The "balanced" type fund would "usually" be expected to provide returns in the range -15% to +20% in any given year. However, in recent times there have been only positive returns and for the last few years they have been quite high when measured against the long term trends.
If a person were to look at their balances today, it is quite likely that they will see falls of 20% to 35% from their previous high points. The size of the fall will depend almost entirely on the exposure to the areas that have been hit hardest recently (ie, listed shares and property). Sometimes a super fund will have access to businesses and property that is considered "direct". That is, it is not listed on sharemarkets. This means that any valuation will be based on different criteria to listed securities. Extreme care should be taken when comparing super funds when such assets are involved as only vigorous research will reveal information on which a valid decision could be reached (in terms of selecting one over another or comparing performance).
The "lucky few"
Of course, not everyone is a member of a superannuation account that is subject to the vagaries of market forces. Many older super funds offered by Governments and large companies were of a form in which the benefits to be received were defined in the fund rules. Pension funds offered by the Federal and State governments are examples.
There was a push in the '80's to transfer members from these pension funds to "lump sum" funds. In many cases, most of the benefits provided by the lump sum funds were also guaranteed. (For example, if an employee paid 5% of their salary then they would be entitled to a benefit of 20% of salary for each year of service).
Those who have these funds will not have been impacted by the recent drop in returns of "market-linked" funds.
Before crowds of people start to rush their employers to establish a defined benefit pension fund, remember that pension funds also have drawbacks - and they can be very, very expensive. So expensive that the Federal Government has had to place tens of billions of dollars into the "Future Fund" to help finance the obligations of the federal super fund. State Governments have been severely impacted by these "unfunded" liabilities (Victoria being an example).
More detail on super fund assets
Most market linked super funds offer a range of investment options that give you exposure to different assets - from "Cash" through to "Shares". They will usually also offer a range of funds that are a mix of different types of assets (shares, property, fixed income and cash). These are usually given names such as "Conservative", "Balanced" and "Growth". Let's refer to them as "diversified" funds.
Diversified funds are strucutured to give exposure to the range of assets in a way that provides a range of risk/return outcomes that are usually measured by the number of years that the return would be expected to be fully realised.
For example, if we consider a "Conservative" fund, it will usually have a suggested time frame of 2-3 years. Why the time frame? It is because there will be some exposure to shares and property linked assets in the fund. These will have returns that can be positive or negative. In negative years, these assets can take away the return of the more secure assets, resulting in very low or even slightly negative returns for within a 2 to 3 year time period. However, the bulk of the assets would be in fixed income areas (government, statutory authority or highly rated institutional fixed income notes) that are guaranteed by the issuing institution. Even if there is a negative return by some parts of the portfolio, it is likely that the bigger exposure to "safe" income-earning areas will compensate for that eventually. In a "normal" market, the annual returns from such funds would be slightly higher than that expected from term deposits.
A conservative fund would usually have anything from 25-30% exposure to shares or property assets. In the current market turmoil, those with a higher allocation to these areas will show a bigger negative return. In the long term (over the working life of a superannuation contributor), it would be expected that this higher exposure would lead to higher returns.
If we consider a "Balanced" fund, it will usually have a suggested time frame of 3-7 years (the band is purposefully broad, as there are many different types of balanced funds with more or less exposure to shares and property). These funds will usually hold around half of their assets in shares and property, with the balance in fixed income or cash areas. The higher exposure to shares and property (known as "Growth Assets") will result in a longer time frame needed to report positive returns if the share and property markets turn negative.
The balanced fund would be the most popular type of fund that Australian's super is invested into. The naming is a bit unfortunate, as we all have different definitions for the term "balanced".
In superannuation industry terms, the phrase denotes an attempt to "balance" out the short terms risks of shares and property with the short term benefits of fixed income investments (ie, guaranteed capital and regular income receipts). Over the long term, the aim is usually to identify a pool of assets that have a higher chance of providing a return greater than inflation - something that a fixed income investment will not usually achieve.
A "Growth" fund will usually have a nominal exposure to fixed income investments. Its aim is to provide the highest exposure to shares and property with the aim of achieving a higher rate of return. The other side of that is the greater exposure to negative returns in any given year. Again, the long term expectation is a return greater than inflation. A growth fund would currently be showing returns of around minus 30% to 40%.
We will add to this section over time. Feel free to check back from time-to-time.
