I’m very pleased to have launched a significant upgrade to my website. There is additional material in the Learning Centre and this is being updated regularly. I encourage you to have a look at the new website and if you think of any friends or colleagues who might find it useful I would be pleased if you forwarded the website address to them. I would also welcome any feedback you might have.
Australian housing prices – why so high?
There has been much commentary in recent times about how expensive Australian housing prices are. There are many potential explanations but BT’s well-known economist, Chris Caton, recently made the interesting observation that “ it shouldn’t surprise if we were the most expensive; Australian houses, measured in terms of floor space per capita, are the biggest in the world”. This chart that he provided shows that the average size of our houses is not only the largest in the world but they are twice as large as houses in the UK. Perhaps if we want more affordable housing will have to accept a reduction in the average size of our homes.
Shares or Property? Russell Investments – ASX 2014 Long Term Investing update
Each year consultants Russell Investments and the ASX publish a report detailing returns for various asset classes, such as cash, bonds, international and Australian equities and residential property. The 2014 report has recently been published and details returns for the 10 and 20 years up to December 2013. Highlights of this year’s report include:
- Pre-tax returns from Australian shares and residential investment property are broadly similar over longer time periods but returns have been better for Australian shares over the last decade.
- Over the 10 years to December 2013 Australian shares returned an average of 9.2% per annum and residential investment property returned an average of 6.1% per annum.
- The numbers over 20 years favour residential property with a gain of 9.9% per annum versus 8.7% per annum for Australian shares.
- Australian shares outperformed hedged and unhedged overseas shares in seven of the past 10 years.
- Hedged overseas shares outperformed unhedged overseas shares in 8 of the past 10 years (this is not surprising given the strengthening of the AUD over the last decade).
- Dividend imputation and the tax deductibility of expenses related to residential investment property benefit these types of investments as compared with cash, bonds and global equities.
Term deposits versus shares – the state of play
Anyone with maturing term deposits would be well aware that the rates on offer from the banks have fallen substantially over recent years. It is difficult to get more than 3 ½% on a term deposit today which is only just above the inflation rate and for most people that is before they pay income tax on the interest. Of course, we are not alone as rates are even lower in the US, Europe and Japan.
Australia’s slow growth and the lower rates prevailing in the rest of the developed world mean that the Reserve Bank is likely to keep interest rates low for some time to come, which is bad news for investors with money in term deposits. In 2013, nominal returns (before inflation and tax) fell below 5% and in my view are unlikely to get back into that level before 2016, at the earliest. The long-term average isn’t much better – from January 1989 through to January 2014, the average one-year term deposit rate was 6.06% a year.
Low cash and term deposit rates mean that most investors are lucky if they are keeping up with inflation after paying tax. These very low returns are a key factor that has driven demand for shares that pay reliable fully franked dividends, such as the banks and Telstra. Of course shares are riskier and more volatile than cash and term deposits, but shares typically offer higher income and even without any capital growth the return is likely to beat a term deposit. This is not an argument that everyone should be switching from cash and term deposits into share, particularly as shares can result in capital losses which is highly unlikely with a term deposit. What I am highlighting is that, at today’s rates, cash and term deposits provide very limited scope to grow your wealth or to provide income sufficient to meet the needs of most retirees. Your age, circumstances and how long you are intending to invest for are all important factors in determining an appropriate mix of investments.
This chart compares the income and investor would have received over the 20 years to the end of 2013 from an equivalent initial investment in shares and term deposits. One interesting observation is that the interest received on the term deposits fluctuates almost as much as the dividend income on shares. It also shows that dividend income on average grows over time whereas interest received on a term deposit does not grow but fluctuates in line with prevailing interest rates. Of course, the capital value of shares fluctuates daily unlike a term deposit.
Retirees and anyone intending to retire in the near term who expects to receive at least a part government age pension should be aware that new rules that can reduce the pension you might receive will apply from 1 January 2015. In simple terms, the way in which Centrelink assesses the income retirees receive from personally funded pensions will be changing and in many instances the assessed income will increase thereby reducing the pension that the retiree will receive. The Centrelink deeming provisions applicable to Allocated Pensions/Account Based Pensions (ABPs) announced by the previous Government in last year’s Federal Budget have not been altered by the Abbott government so will come into effect for all new pensions commenced after 1 January 2015.
The way the new rules apply, briefly explained below, is somewhat complex so if you think you may be impacted by this you should consider getting advice before the new rules are introduced.
From 1 January 2015, ABPs will be added to the definition of financial assets in social security legislation, which means they will be subject to deeming rules (along with other financial assets) for both Centrelink and Department of Veteran’s Affairs (DVA) income test purposes. Under the deeming provisions, all financial investments are assumed to earn a certain rate of income, regardless of the actual income actually generated. Applying the deeming rules to ABPs means that actual payments taken from an ABP (regardless of whether received as a pension payment or lump sum commutation) will be ignored for income test purposes; it is the deemed income that will be counted.
Pre-2015 ABPs will only be ‘grandfathered’ under existing rules if the pensioner was in receipt of a Centrelink/DVA income support payment immediately before 1 January 2015.
This newsletter contains general advice. It does not take account of your individual objectives, financial situation or needs. You should consider talking to a financial adviser before making a financial decision.