What’s the fuss about interest only loans and offset accounts?

180220.Interest only loans
Interest-only with offset: a winning product?

Interest only loans for residential property purchase, for both owner occupiers and investors, have been in the news lately. With no requirement to repay principal, the concern for financial regulators is that many borrowers don’t have the incentive to build sufficient equity “buffers” to cope with any falls in housing values and/or rising interest rates.

The rapid growth in interest only loans was considered such a threat to financial stability that in March last year the Australian Prudential Regulation Authority (APRA) placed a 30% cap on interest-only loans as a share of new bank housing loans.

In October 2017, Westpac chief executive, Brian Hartzer, made the shock admission to the Parliamentary Standing Committee on Economics that about 50% of Westpac’s housing loans were interest only. He also explained that his bank was expecting to comply with the APRA requirement by making interest-only loans considerably more expensive than traditional principal and interest loans.

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The changing shape of emerging markets

180118.BRIC economies

Emerging markets have recently re-emerged

The two years to end December 2017 saw the MSCI Emerging Markets index (the most widely used benchmark for emerging market shares) massively outperform the MSCI World Index (the benchmark for developed market shares). Emerging markets recorded an annualised return of 19.2% p.a. for the period, compared with 10.8% p.a. for developed markets.

This stellar performance has escaped the attention of many, perhaps because the previous five years saw very lacklustre relative returns for emerging markets. They returned only 2.0% p.a. compared with developed market returns of 15.4% p.a. for the period from December 2010 to December 2015.

Soon after the worst of the Global Financial Crisis, many subsequently disappointed investors jumped onto the story that the future belonged to emerging markets – remember the BRIC excitement (i.e. Brazil, Russia, India and China) – with prospects for developed economies generally assessed as bleak.

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Forecasting share market returns


Our investment philosophy relies on capitalism continuing to work

A key tenet of our investment philosophy is that it’s extremely difficult to reliably predict short term (i.e. out to five years) movements in share markets. Markets are very effective in distilling all that is currently known about individual companies, their markets and the relevant economic and political environment to determine “fair” values both for the companies that make up a share market and for the market itself.

Now “fair” doesn’t necessarily mean correct. But it does mean that it should not be an easy task to reliably outperform a share market index by identifying and buying “undervalued” companies (and, perhaps, selling “overvalued” companies) or by entering or exiting that market based on views of its future direction. There is a mountain of robust academic research to support this view of “fair’.

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Household Income, Wealth and Debt in Australia: an update

171012.Household wealth

A summary of household wealth and income

Every two years, the Australian Bureau of Statistics (“ABS”) releases its survey of Australian household income and wealth. The latest release[1] relates to the 2015-16 year. It provides the opportunity to update our “Household Income, Wealth and Debt in Australia” article of September 2015, that examined various findings from the 2013-14 survey, and to drill down a little to further into the growing level of debt held by Australian households.

The left hand side of the chart below shows how household wealth or net worth was distributed in 2015-16, while the chart on the right hand side shows how that distribution has changed (in 2015-16 dollars) over the 12 years since 2003-04. Some takeaways from the charts include:

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How “real” are your financial planning projections?


It’s maintaining real spending power that matters

When clients consider how much they expect or wish to spend in the future, they naturally think about it in terms of today’s dollars. The implicit assumption is they don’t want price inflation to erode the amount of goods and services they are able to purchase.

In our cash flow modelling, we assume an inflation rate of 2.5% p.a., mid-way between the Reserve Bank’s target of 2-3% p.a.. With inflation at 2.5% p.a., the spending power of a $1 would be reduced to about 48 cents over a thirty year period.

So, while a financial projection that shows your investment wealth grows from, say, $1 million now to $2 million in 30 years’ time may appear impressive, after adjustment for inflation of 2.5% p.a. the future $2 million is only worth $953,000 in today’s terms i.e. you’ve actually gone backwards in spending power.

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Pitfalls of retirement planning

170815.Retirement Pitfalls

Retirement expert reconsiders previous thinking

Most planning advice, both regarding saving for, and the enjoyment of, retirement, is given by people who are not retired. So, while the advice may be well meaning, it could inadvertently suffer from a lack of empathy with the realities of retirement.

In addition, the experience and expectations of current and previous retirees may differ significantly from that of the vast numbers of baby boomers that will increasingly dominate the ranks of the retirees over the next decade. As a result, retirement advice based on researching earlier generations may not be as relevant as desired.

A recent article in “The New York Times”, titled “Three Things I Should Have Said About Retirement Planning”, touches on the above issues. It is a confession by Paul B. Brown, who co-authored two books on saving for retirement in his 30s and 40s and is now aged over 60, that his typical advice suffered some inadequacies, now made apparent by his own life experience.

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Does “rentvesting” make financial sense?


Rentvesting: a cheaper way to own a home?

Before attempting to answer the question posed by the title of the article, it may be necessary to explain what “rentvesting” is. Essentially, it involves purchasing a residential property to rent to a third party while, at the same time, renting another property to live in.

It’s the mechanism that many young (and some not so young) adults are using to get a foothold in increasingly less affordable housing markets, particularly in Melbourne and Sydney. Many property spruikers, who previously would have used the old chestnut that “rent money is dead money” to promote residential property purchase, now promote rentvesting as a smart way to rent and buy property.

But does rentvesting make financial sense? We have identified at least three approaches to rentvesting, making it difficult to generalise. The three approaches are:

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The purpose of personal financial planning

The purpose of personal financial planning

The “big picture”: Matching your lifetime financial assets and liabilities

Most people don’t really grasp what we regard as the primary purpose of personal financial planning. As a result, they often fail to identify some long term issues that should significantly influence their current decision making.

Personal financial planning is often viewed as having three increasing levels of complexity or sophistication. They are:

  • Financial planning as investment advice – those without experience of financial planning usually associate it primarily with providing advice on investments. Some planners, while paying lip service to the more sophisticated levels of financial planning, also see their key role as advising on and managing investments;
  • Financial planning as technical advice – while also providing investment advice, planners provide advice of a more technical nature in areas such as superannuation, taxation, insurance and estate planning; and
  • Financial planning as strategic advice – more generally known as comprehensive or lifestyle planning, detailed long term cash flow analysis examines the consistency of a client’s lifestyle objectives with their current and projected financial resources. Relevant investment and technical advice is also provided to increase the chances that any gap between the client’s current and desired position is closed with no more investment risk than is necessary.

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Australian households have never been wealthier

170517.Household wealth Picture

High level aggregate data suggest household balance sheets are in good shape …


In both actual dollar terms and relative to household incomes, Australian households have never been wealthier. The chart below (or a variant of it) is often used to demonstrate that despite the potentially worrying levels of debt being taken on by households, net wealth as a percentage of income has completely recovered from GFC lows and now exceeds the previous pre-GFC, September 2007, high.

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At last, a “good news” financial planning story

170418.Good News

Our clients respond to an online “Client experience” survey

In late February-early March 2017, a representative group of our clients was asked to participate in a confidential on-line “Client Experience” survey. The survey aimed to help us, among other things, better understand:

• what our clients look for in their relationship with us;
• how they measure the value of our service;
• their greatest personal finance fears; and
• how they felt we were doing.

We were pleased with the 70% response rate we received and thank those clients who participated.

The same survey was simultaneously offered to clients of other financial advisers that choose to use the services of global fund manager, Dimensional Funds Advisors, both in Australia and internationally. The results provide us with the opportunity to compare our clients’ feedback with that of almost 19,000 other respondents.

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