The Best Way to Invest for Your Children in New Zealand Part 1 – What You Need to Know

(This post was originally posted on thesmartandlazy.com on 12 Sept 2017.)

I am a father of two pre-school kids and I been researching on how to invest for them in New Zealand. There are some options out there, but the good one is surprisingly hard to find. So here is my finding on the best way to invest for your children and what you need to know.

There is a lot to write about investing for kids, so I am breaking this topic into three parts. I will talk about why invest for your children and what you need to know before investing here. Part 2 will be my pick on the best investment options for kids and part 3 will be my view on some other investment options in New Zealand.

Why Invest for Your Children

Education: The main reason I invest for my kids is that I want them to know about personal finance. I personally know a few smart and bright teenagers who are horrible with money, which leads them to big money problems (I used to work in student accommodation and know lots of students who left home and flatting with others). It seems like we don’t teach personal finance at school and we don’t talk much about money at home.  When some of those kids leave home, they have no idea how to handle money and make a mess with their finances. So for my kids, they will learn about personal finance from a young age. I won’t start them off the complex financial product, but eventually we will get there. That will be a great example to show how their own money is working for them.

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We will start with a piggy bank first, but we will get to managed fund… eventually

Prepare for their future: I can’t predict whats going to happen in the future, so I want to do my best to prepare for it. For now, you can get an interest-free student loan for study, but it is not always the case. Student loan used to carry interest and before that, Univesity used to be free. For my kids, I have no idea what sort of society they will be facing, so it’s always better to have something prepared. No matter if they want to go to Univesity, go overseas, start their own business, there will be some money for them.

Best time to invest: There is a Chinese proverb said something like, ““The best time to plant a tree was 20 years ago. The second best time is now.”. For us, we can’t go back 20 years ago and invest for yourself unless we get our hands on a DeLorean DMC-12. At least we can do it for our kids. “It’s not timing the market, it’s time in the market.” By investing at their young age, that investment will have all the time in the world to grow and ride out of recession. It almost guarantees those diversified investments will have a great return once your kids reach adulthood.

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You can’t go back 20 years ago to start investing, but you can do it for your kids.

There are two New Zealand personal finance bloggers wrote on this topic I think you should check them out. Ruth from the happy saver wrote a great blog post on ‘Teach kids about money’. Ryan from Money for Young Kiwis wrote another great piece on “Should you invest for your children”.

What do you need?

Before we go into the details, here is a checklist of what you need to set up an investment for your kids.

  • IRD number for the kids
  • Set up a new email account for kids’ investing purpose
  • Identification document for kids (Birth cert, Passport)
  • Identification document for guardian (Passport, Driver license)
  • Prove of relationship between guardian and child (Birth Cert)

Tax Matter

Some people think children do not pay tax as they have little or no income and that is not true. No matter how cute your kids are, IRD is going to charge tax on them. There is two type tax your kids will be paying, Resident withholding tax (RWT) and Prescribed investor rate (PIR).

Resident withholding tax (RWT) will be familiar to most people because you can see that on your bank statement when you received interest. Resident withholding tax is a tax deducted from a New Zealand tax resident customer’s interest income before they receive it. So it’s basically a tax on your interest and dividend received. Your kids will be using this tax rate if they earn interest from bank deposit or receive a dividend from shares.

Prescribed Investor Rate (PIR) is the rate at which an investor pays tax on their share of taxable investment income from a Portfolio Investment Entity (PIE) investment. It basically taxes on your investment funds like KiwiSaver, index fund and managed fund.

All investment service require IRD number so you MUST register your kid with IRD. If your children don’t have an IRD number, go to this website and get an IRD number for your child. You can check out IRD website to find out the correct RWT and PIR for your kids.

Tax Rate Difference between Adults and Kids

For most kiwi kids who have no income, their RWT and PIR will be at 10.5%.   This tax rate is important because average working adult RWT is at 30% or 33% and PIR at 28%. So kids pay much lower tax compared to an adult, and this is a great advantage for kids.

Some parents already set aside some money to invest for their kids under their name because of convenience. There is nothing wrong with that, but it’s not tax efficient. Let’s look at an example below:

Parent A and B both put $500/years into an investment fund with an average return at 7% after fees before tax. Parent A invested under their own name with PIR at 28%. Parent B invested under their child name with PIR at 10.5%. Here is the result after 15 years.

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Parent B’s fund ended up with a higher balance because it was taxed at 10.5%. The actual tax paid with PIR 28% was 1.4% of the fund and 0.525% with PIR at 10.5%. The different is just 0.875%/year. When the kids paid less on tax, more money kept in the fund to grow.  At year 15, it resulted in 7.39% different in value.

Remeber, your kids are NOT your tax shelter. Don’t put your own investment and life-saving under your kid’s name to pay less tax. IRD may treat that as tax evasion, and this is a criminal offence. When you invest for your kids, that money supposed to be their money or planning to use for them.

Skip the Bank Account

A popular thing parents do for their kids is to set up a bank account and put money into it for saving and earn a bit of interest. When I look at bank saving, it’s a safe option but not a good investment. Yes, you do earn interest from the bank, but the returns aren’t very good. Also, inflation and tax will reduce your return. You may get some interest on that money but it may worth less in the real terms after inflation.

Take a look at the interest rate on high interest saving account from January 2003 to August 2017 below.

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Before 2008, you can get about 4% – 8% interest on your deposit and now is above 2%. Let’s add tax and inflation to those interest rate. I will be using RWT at 10.5% as tax rate here.

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The green will be the real return on bank interest. It was around 2%-4% before 2008, dropped below 0% at 2010 and currently sitting just above 0%. Therefore, if you keep your kids money in the bank as ‘investment,’ the return is only a better than inflation.

For me, I will still open a bank account for my kids, but the purpose will only be temporary saving. The bank account is not an investment for my kids, it’s just a safe keeping.  Most of their money will be sitting in some funds.

Long-Term Investment

Some parents may think investment funds are too volatile for their own risk appetite, that’s why they choose saving account. This is true as saving account provide a low but safe return, investment funds’ return can range from 20% to -20% in a single year. However, we need to separate parent’s risk appetite with kids.

Kids have a lot more time ahead of them compared to their parents. For an average Kiwi kids in an average income family, here is a list of some life events that they may need to use that investment fund.

  • Pay for tertiary study at 18-20 years old
  • Moving out for job or school around their 20s
  • Overseas experience around their 20s
  • Buying their first home between 20-35

Most of those events happen around their 20. If you kids are under 10 years old, the investment time frame will be at least 10+ years for them. The common wisdom is you should take more risk when you have a long investment time frame. You shouldn’t worry too much about market downturn as they will definitely occur within their investment timeframe. By staying in the market for a long-term, you will ride out of the recession.

Investment Requirement for Kids

As we’ve established, Kids have different tax treatment, long investment time frame, and higher risk appetite compares to adult. Furthermore, Kids investment fund usually started with a small amount without regular contribution. Therefore, the investment requirement will be different as well. Here is a list

  • Age requirement: Must accept under 18 investor
  • Investment Time Frame: Mid to long-term
  • Risk: Medium to High
  • Asset mix: Mostly growth asset
  • Tax treatment: Prefer multi-rate PIE fund or RWT
  • Management fee: As low as possible (of course!)
  • Annual admin fee: As low as possible for good reason
  • Initial investment amount: As low as possible
  • Lump sum investment amount: As low as possible
  • Regular contribution: Prefer not to have regular contribution commitment

The reason we prefer not to have regular contribution is that kids don’t have a regular income. They may only get money once or twice a year for their birthday or Christmas gift. So we prefer an investment without regular contribution commitment, low initial investment and low lump sum investment amount. Parents and relatives can put in some money, no matter a little or a lot, whenever they want.

Watch Out for Annual Fees

Regarding fees, the amount of annual admin fee can be more important than management cost because that fund usually started with a small amount. When you investment fund valued at $20,000, that $30 admin fee is just 0.15% of your holding. However, if your fund valued at $500, that $30 admin fee will be 6% of your holding. Way more than the usual management cost you will be charged. So we prefer an investment with low annual admin fee.

Also, be aware if you started with a small amount and forgot about it for a couple years, the annual fees may eat up your entity portfolio. Check out the graph below on a small portfolio with $30 annual fees, 7% return after tax and management fee and with no further contribution.

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For those portfolio balance with $200 or less, the annual fees will reduce your investment down to zero within 10 years. You won’t be able to keep your initial investment unless you start with $500 or more(based on $30/year annual fee and 7% return).

Therefore, if you plan to put some money in the let it sit for couple years without any contribution, you should start with $500 or more. If you plan to put some more money in at least once a year, you can start at around $250. Anything less than $200 should be kept in the bank. Also, pick an investment service with low or no annual fee will help.

What’s Next?

This is part one of my investing for kids blog. Next part will be my personal pick of the best investment options for kids and how to join them. Part three will be my take on other investment options in New Zealand.

Email thesmartandlazy@gmail.com or follow me on Twitter @thesmartandlazy if you have any questions.

One guide that all New Zealand investors should read

For years now one of the most sensible, reliable and accessible commentators on investing in NZ has been Mary Holm. She runs seminars, advises government agencies and working groups, writes a great column for the NZ Herald and is generally just New Zealand’s favourite financially savvy auntie.

New Zealanders are not always the best with financial literacy. We are often more scared than we should be of the sharemarket, we are famously not scared enough of piling ridiculous share of our wealth into investment property. We naively invested huge sums into dodgy finance companies and then the government had to bail us out to the tune of more than $1Bn!  We don’t tend to teach financial literacy at schools, except a few courses run mostly by banks, and many of us learned only the basics (or perhaps just bad habits) from our parents.

Thankfully the Reserve Bank is here to save the day.  As part of their focus on financial education they commissioned Mary Holm to write a simple booklet to make the complicated topics of saving, investing, and risk simple for everyday New Zealanders. It’s my favourite kind of book, it’s only 60 pages long, has small pages and has lots of pictures, tables and graphs to explain stuff.

Its available FREE to everybody on the interwebz right here on the RBNZ site:

https://www.rbnz.govt.nz/-/media/ReserveBank/Files/Publications/Factsheets%20and%20Guides/guide-upside-downside-a-guide-to-risk-for-savers-and-investors.pdf

Or, if you prefer the crisp feel of a page beneath your fingers. I have limited edition paper copy of the book that I can send out to one lucky winner. Just comment below with your saving and investing questions and I’ll randomly select one lucky winner to send the booklet to.

What’s not to love. A free book which was already free anyway.

“Fees never sleep.” – Warren Buffett’s bet

(The following article is an edited repost from the New Zealand Wealth and Risk blog.) 

I’m an Authorised Financial Adviser. For most of my clients, I advocate investing in low-cost, index-based investments.

I’m not alone. Warren Buffett is probably a bigger advocate than me.

In Berkshire Hathaway’s 2016 annual report, Buffett talks about index-based funds in detail.

I quote from Buffett extensively below, but you should really read the report yourself.

All emphasis is added.

Financial advice from Warren Buffett

Warren Buffett gives some clear financial advice:

“Over the years, I’ve often been asked for investment advice…. My regular recommendation has been a low-cost S&P 500 index fund.”

(I wouldn’t necessarily agree with this for NZ investors, but I agree with the key point: a diversified, low-cost index-based fund is generally a good way to go.)

Buffett’s bet

Buffett put his money where his mouth is and made a $500,000 bet that over an extended time period, a low-cost investment strategy would get better after-tax returns than a sample of hedge funds.

He provides background to his bet:

“In Berkshire’s 2005 annual report, I argued that active investment management by professionals – in aggregate – would over a period of years underperform the returns achieved by rank amateurs who simply sat still. I explained that the massive fees levied by a variety of “helpers” would leave their clients – again in aggregate – worse off than if the amateurs simply invested in an unmanaged low-cost index fund.”

He quotes some of the text from his bet:

“A number of smart people are involved in running hedge funds. But to a great extent their efforts are self-neutralizing, and their IQ will not overcome the costs they impose on investors. Investors, on average and over time, will do better with a low-cost index fund than with a group of funds of funds.”

The nature of the specific bet was as follows:

“I publicly offered to wager $500,000 that no investment pro could select a set of at least five hedge funds – wildly-popular and high-fee investing vehicles – that would over an extended period match the performance of an unmanaged S&P-500 index fund charging only token fees. I suggested a ten-year bet and named a low-cost Vanguard S&P fund as my contender. I then sat back and waited expectantly for a parade of fund managers – who could include their own fund as one of the five – to come forth and defend their occupation. After all, these managers urged others to bet billions on their abilities. Why should they fear putting a little of their own money on the line?

“What followed was the sound of silence. Though there are thousands of professional investment managers who have amassed staggering fortunes by touting their stock-selecting prowess, only one man – Ted Seides [of Protégé Partners] – stepped up to my challenge.”

“For Protégé Partners’ side of our ten-year bet, Ted picked five funds-of-funds whose results were to be averaged and compared against my Vanguard S&P index fund. The five he selected had invested their money in more than 100 hedge funds, which meant that the overall performance of the funds-of-funds would not be distorted by the good or poor results of a single manager.”

The results so far?

Buffett is a long way ahead:

“the five funds-of-funds delivered, through 2016, an average of only 2.2%, compounded annually. That means $1 million invested in those funds would have gained $220,000. The index fund would meanwhile have gained $854,000 [with a compounded annual increase to date of 7.1%].”

“Fees never sleep”

Buffett is quite explicit about fees:

“I’m certain that in almost all cases the managers at both levels were honest and intelligent people. But the results for their investors were dismal – really dismal. And, alas, the huge fixed fees charged by all of the funds and funds-of-funds involved – fees that were totally unwarranted by performance – were such that their managers were showered with compensation over the nine years that have passed. As Gordon Gekko might have put it: “Fees never sleep.”

I estimate that over the nine-year period roughly 60% – gulp! – of all gains achieved by the five funds-of-funds were diverted to the two levels of managers. That was their misbegotten reward for accomplishing something far short of what their many hundreds of limited partners could have effortlessly – and with virtually no cost – achieved on their own.”

He’s quite explicit on this point:

“When trillions of dollars are managed by Wall Streeters charging high fees, it will usually be the managers who reap outsized profits, not the clients. Both large and small investors should stick with low-cost index funds.”

Will this type of underperformance continue?

In Buffett’s view, yes.

“In my opinion, the disappointing results for hedge-fund investors that this bet exposed are almost certain to recur in the future.”

He adds:

“Human behavior won’t change. Wealthy individuals, pension funds, endowments and the like will continue to feel they deserve something “extra” in investment advice. Those advisors who cleverly play to this expectation will get very rich.”

Some people can beat the market, even after fees. Picking them is the hard part.

Buffett explains that “There are, of course, some skilled individuals who are highly likely to out-perform the S&P over long stretches. In my lifetime, though, I’ve identified – early on – only ten or so professionals that I expected would accomplish this feat.

“There are no doubt many hundreds of people – perhaps thousands – whom I have never met and whose abilities would equal those of the people I’ve identified. The job, after all, is not impossible. The problem simply is that the great majority of managers who attempt to over-perform will fail. The probability is also very high that the person soliciting your funds will not be the exception who does well.

Why don’t wealthy people and institutions invest more in low-fee investments?

“I believe, however, that none of the mega-rich individuals, institutions or pension funds has followed [my advice to invest in a low-cost S&P 500 index fund] when I’ve given it to them. Instead, these investors politely thank me for my thoughts and depart to listen to the siren song of a high-fee manager or, in the case of many institutions, to seek out another breed of hyper-helper called a consultant.

“That professional, however, faces a problem. Can you imagine an investment consultant telling clients, year after year, to keep adding to an index fund replicating the S&P 500? That would be career suicide. Large fees flow to these hyper-helpers, however, if they recommend small managerial shifts every year or so. That advice is often delivered in esoteric gibberish that explains why fashionable investment “styles” or current economic trends make the shift appropriate.

“The wealthy are accustomed to feeling that it is their lot in life to get the best food, schooling, entertainment, housing, plastic surgery, sports ticket, you name it. Their money, they feel, should buy them something superior compared to what the masses receive.

“In many aspects of life, indeed, wealth does command top-grade products or services. For that reason, the financial “elites” – wealthy individuals, pension funds, college endowments and the like – have great trouble meekly signing up for a financial product or service that is available as well to people investing only a few thousand dollars. This reluctance of the rich normally prevails even though the product at issue is – on an expectancy basis – clearly the best choice.”

Trust me. Read the report yourself. It’s worth it.

(Sonnie Bailey is the author of this article and is an Authorised Financial Adviser (AFA). A disclosure statement is available free on demand: click here.)

Sharesies (Beta) – How does it stack up to SuperLife and SmartShares on ETF Investing

(This is a repost from thesmartandlazy.com, originally published on 26 June 2017.)

Sharesies started rolling out their trial run (a.k.a beta) investments options a couple of weeks ago. I got their invitation recently and checked out their offering. Sharesies is currently offering six SmartShares ETFs for their investors including NZ Top 50, AUS Top 20, US 500, NZ Bond, NZ Property and AUS Resources. You can check out their current offers here.

Screen Shot 2017-06-27 at 9.04.08 PM

What is Sharesies

Sharesies is a New Zealand financial start-up company supported by Kiwibank Fintech Accelerator. They are an investment platform where users can make investments with small amounts of money. Their mission is to make investment fun, easy and affordable.

The main selling point of Sharesies is that by paying a $30 annual fee an investor can invest into multiple investments with the minimum at just $5. Also, there is a $20 credit for the early Beta investor.

Invest $5 into ETF

By comparison, SmartShares ETF’s initial investment is $500, set up cost is $30/ETF and monthly contribution minimum is $50. So Sharesies is a great way for beginner investors to invest a small amount into many low-cost, diversified ETFs. It bypasses the $500 initial investment and $30 set up fee with each ETFs.

On the other hand, SuperLife also offers the same ETF in their investment fund with a different management cost. You can check out the detailed comparison here.

While Superlife also doesn’t require initial investment and the minimum contribution can be just $1. How does Sharesies stack up to SuperLife and SmartShares on ETF investing?

Sharesies vs SuperLife & SmartShares

I’ve picked two popular ETF, NZ Top 50 and US 500, to run an analysis for 60 months (5 years). The analysis will compare the results on different contribution level(low and high contribution) for all three services. The low contribution will be at Sharesies minimum requirement, $30 initial investment (for the annual admin fee), $20/month contribution (about $5/week); The high contribution will be at SmartShares minimum requirement, $500 initial on each ETF, $50/month conditions.

NZ Top 50 ETF at low contribution

Here are the fee structures on the ETFs:

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This is the amount of low contribution and expected return:

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So Sharesies have a higher admin fee ($30) and ETF management cost (0.50%), so its expenses should be higher then Superlife NZ top 50 ETF. Since Sharesies are aiming for beginner investors, I put around $5/week as a low-level contribution. The $30 initial investment cost is to cover Sharesies annual fee. Smartshares will not be included in this analysis as the investment amount is too low.

Here is the investment return each year:

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Superlife did better as it has a lower management fee and admin fee resulting in a higher return for the customer. The 5-years different is $135.81, 8.4%.

NZ Top 50 ETF at high contribution

This is with a higher contribution and expected return:

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We increased the contribution to $50/month, put $500 as an initial investment and include SmartShares into the mix.

Here is the investment return each year:

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SmartShares came out on top despite the fact that they have a higher management cost. The main reason is that Smartshares don’t have an annual admin fee while Superlife charges $1/month. However, if you wish to cash out those Smartshares at this stage, it will cost you at least $30.

The difference between SmartShares and Sharesies is $163.34, 3.3%. Although both services have the same management cost, Sharesies charge $30/year admin fee which brings down the balance.

US 500 ETF at low contribution

Here is the fee structure on US 500 ETF:

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This is the amount of low contribution and expected return:

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This is more interesting as Sharesies have a lower management (0.31%) cost compared to Superlife (0.44%).

Here is the investment return each year:

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Due to the smaller holding, the lower management cost (0.35%) did not cover the higher annual fee ($30) with Sharesies. Superlife holding was $122.28 more than Sharesies in year 5, 8.1%.

US 500 ETF at high contribution

This is the amount of high contribution and expected return:

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Now we will do the same thing by increasing the investment to Smartshares minimum requirement.

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SmartShares USF came out on top with no annual fee and lower management cost. The different between SmartShares and Sharesies at year 5 is $154.75, 3.3%. The difference from Superlife is $41.5, 0.9%.

In both scenarios investors with a low contribution level are better with SuperLife. If you have $500 and $50/month to invest, SmartShares is the cheaper way. (Although I will suggest going with Superlife on NZ top 50. I’ve already covered that in another post)

How about portfolio building?

Since Sharesies investors can bypass SmartShares setup fee and initial investment requirement Sharesies is actually a great tool to build a simple portfolio. I will use US 500 ETF, NZ Top 50 ETF and NZ Bond ETF to build a portfolio.

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Here is a balanced portfolio you can easily build with Sharesies. 25% NZ Bond, 37.5% US 500 and 37.5% NZ Top 50. If we keep the low contribution at $20/month, you can put $5 in NZ Bond, $7.5 in US 500 and $7.5 in NZ Top 50.

If you wish to set up something similar in SmartShares, you will have to spend $30 x 3 =$90 on set up fees, at least $500 x 3 = $1500 initial investment and $50 x 3 = $150/month contribution. Not feasible at all.

SuperLife, on the other hand, as my best pick for portfolio builder in New Zealand can easily build the same portfolio. Let’s check out the cost difference:

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Here are the contributions and return:

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Here is the investment return each year:

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Superlife still edged out at year 5 with $123.15 more, 8.2%. I didn’t do a high contribution comparison here because SmartShares are really not for for portfolio building.

Conclusion

Based on the analysis, SuperLife is still the better choice on low contribution and most of the high contribution (except US 500 ETF) regarding cost. However, I still think Sharesies is doing something good here.

Sharesies is promoting to young Kiwis who never invested before by providing a straightforward and easy-to-use app. The sign-up process is simple and painless. The interface is robust and delightful. They’ve done an excellent job on explaining each investment options to beginner investment and make it accessible. Check out the screenshots below.

I don’t mind about the $30 admin fee if that what’s it take for a newbie to start investing for their future. I’ve been telling readers to spend $12/year on Superlife as they have a better user interface and functions over SmartShares. Sharesies interface and user experience are way better than both of them. They made investing as easy as shopping online, which should bring a lot of people into the world of investing.

Sharesies are still in beta, so there are some functions are missing, like reinvest and auto allocation. I am sure Sharesies will continue to improve on their functions and bring in more investment options. Hopefully more companies like Sharesies will pop up in New Zealand to bring more people into investing.

More investors, increase the market size, lower the cost!

Email thesmartandlazy@gmail.com or follow me on Twitter @thesmartandlazy if you have any questions.

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Speculation vs Investment And How It Relates To Your Retirement

Most of us have had this colleague at least once or twice. The one that comes into work with a spring in their step (I can sense that you’re tensing up already) and over your coffee break chit chat regales you with how they’ve bought some shares or a piece of land.

The conversation usually goes something like,
‘Hey colleague, I’ve made this great decision in my life of buying this asset. I’d like to inform you that it’s been one of my best decisions, the value of it has already risen by $x! I knew it would do this because of various factors I’d taken into consideration before buying’

The inference being that they have some inside knowledge that others don’t or they really just want you to know that they’re a bit better off from last week than you are, without all that gosh darned work everyone else is putting in.

I can tell you this story in this way because I was this person for a few months and I’ve heard it from others a couple of times too.

I was 21 and was working in what essentially amounted to an insurance sales boiler room. Our customers bought reasonable insurances like car or home insurance, and we’d then thank them for their business by harassing them with multiple phone calls to buy worthless insurances that never paid out, with very high premiums compared to most and being encouraged to guilt them by asking ‘Do you have a plan for your family if ‘x’ happened to you or them?’. Not a nice job.

I decided I’d start using Plus500 on the side, an online share buying platform that uses leverage. This was my way to get into learning about shares with an eye to day trading. This was around 2011/2012 at the start of the Greek Debt Crisis.

Because I was clever and I’d watched the news, or so I told my colleagues, I’d mainly gone short on Greek shares (sold the shares before buying them, essentially I’d make money if they went down in value). I’d put in 500 of the Queen’s finest pounds and grown it to over £1000 within a few weeks. I justified this with a few of my own political biases and historical takes on the situation. I’m sure they hated me, I would have.

I continued to hold onto these shorted Greek shares and they continued to fluctuate. The news was telling the world that Greece will default at any moment and everything within it’s borders will be worthless.

Now you’re probably thinking that I’m going to tell you that it all turned to custard and I lost it all. Well, no. I cashed out at £750 – £250 profit in all.

So why would I tell you this? Well, the truth in this isn’t whether a profit or loss was made but what was learned.

The key point was that the news, and therefore my reality as far as Greece was concerned, had very little correlation to what the share price was now doing. The shares were rising in value, the opposite of my prediction, wiping out some of the gains I had made in that time. I’m sure someone can fill me in on why that happened but even then, it’s 20/20 hindsight at best.

Why didn’t I cash out at £1000? If I crystallised my gains by selling, what could I invest in next? How could I possibly know if I was buying in a peak or a trough and how quickly that might change?
The answer to all these was that I didn’t know, and if I did, I wouldn’t be working in a poxy call centre.

The only thing I learned about day trading was that I had absolutely no control over the result. Perhaps other more knowledgeable people do but little Andy here, whose credentials didn’t extend much further than filling in a Plus500 sign up form and debit card details certainly didn’t. Realistically, in this manner, what was the difference between picking a share and picking a horse? I decided to quit at £750 before one of my colleagues asked me how things were going and I’d no doubt have to sheepishly tell them I’d made a loss. This way I made a profit and didn’t lose face.

I’m certainly not saying don’t buy shares and I’m not saying don’t buy land (I might say don’t buy horses!), what I will suggest is don’t buy them like this, where you essentially guess off a hunch and make up your reasons to justify your decision after the fact.

Whilst I thought I was investing, simply because I was putting money into an asset with the intent of making a profit, I was really speculating. These terms are used relatively interchangeably colloquially but there are definite differences.


Which brings me to the overarching point.

What’s the difference between a speculation and investment? In terms of how we can separate the two in a practical sense, it’s about where you intend to draw the projected income from.

Investment – Your profit is primarily drawn from the income the asset produces. This can be in the form of rent or dividends.

Example: You buy a share in Acme Company for $100. It pays a 10% dividend which is the best return on your dollar you feel you can achieve.

Speculation – Your profit is primarily drawn from the increase in the asset’s value.

Example: Based on your astute observations, Silver is at a bargain price and you feel it’s got to go up in value. You buy at $100/oz and plan to sell once it hits $120/oz

It’s not to say that any single type of purchase, whether it be shares or property, is either a speculation or an investment exclusively. The same category of purchase can be either.

Example:

A house is bought for $500k. The purchaser buys as they expect local house prices will rise due to new transport links with the city centre, the intention is to sell once it hits $750k in value. The rent collected is secondary. This is speculation.

Another house is bought by a different purchaser. It provides an 8% return in rent, whilst the holding costs only run at 5%. The purchaser buys as they want to to use the 3% difference to supplement their regular income. The potential rise in capital value is secondary. This is investment.

Both have bought a house. Both have bought with the intention of drawing a profit but the methods of drawing that profit are entirely different.

That’s also not to say that investments can’t rise in value and be sold off at large capital gain. They can and do, but it wasn’t the primary intention of the buyer.

With speculative instruments, when you sell, you realise the loss or gain. This is your profit and you must continue to speculate with new purchases to continue to draw an income in this manner.

The risk is higher with speculation as you’re drawing your profit from an unknown variable, namely which way the price will go and by how much. If people knew where the price was going, it would already be at that price. The rewards can be massive but equally the losses can be devastating.

Even the best of us can only guess the outcome correctly a small percentage of the time which is why investments make more sense for the early retiree as the bulk of their retirement plan. Sure, you’re less likely to have that one off win where you make bank for life with little to no effort, but you’re also less likely to lose or go bankrupt if your investments are wisely chosen.

With investments, the owner draws an income from the asset for as long as they own the asset. The owner knows approximately what the income will be from the asset from day one. Investments are therefore more ideal for a steady income and an early retirement.

The risk is mitigated with an investment because if the price does drop, the owner can continue to hold on and ride out a market downturn without any cost to holding the asset as the income will likely continue to cover holding costs.

Neither investments nor speculations are inherently good or bad, and the advice here is neither prescriptive nor proscriptive. Both are necessary functions of markets and hey, a little speculation here and there can be fun, but being able to distinguish and understand the risks is really important to your early retirement and financial security.

The advice is to not bet the farm on speculation and choose strong, steady investments for the bulk of your portfolio.

Compare ETF Fund Cost between Superlife and Smartshares

(This is a repost from thesmartandlazy.com. Published on June 8, 2017)

Recently SuperLife and SmartShares lower the management fee on four ETFs. So it’s time to update the ETF cost comparison. Also, I am changing my initial recommendation on starting your investment with SmartShares then switch to SuperLife.

Cost update

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Both Superlife and SmartShares lower their cost on Total World, Europe, Asia Pacific and Emerging Markets ETF. The reason was Vanguard reduce their underlying fee, so SuperLife and SmartShares passed on the cost saving to its customer.

Should you start with SmartShare?

In the past, I recommended to start your ETF investment with SmartShares then switch to Superlife when the fund hit a certain amount. The main reason was Superlife charge a $12/year admin fee, it will cost more in term of percentage for beginners with a small amount of investment. However, that calculation ignored the $30 one-off initial fee, the cost of setting up extra funds with SmartShares and the exit cost.

Let’s look the following example for an investor started NZ Top 50 ETF with $500 initial investment and $50/month contribution for 5 years. NZ Top 50 ETF 5 years annualised return is 16.49%. I’ve put it in a simple simulation to compare investment between SuperLife and SmartSharesand for 5 years.

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SmartShaers started with $30 less due to the setup fee. That $30 initial different made Smartshares cost more for that first 3 years, (38 months to be exact). By the end of the 5 years, the different between Superlife and Smartshares is only $24.09. That’s about 2 years of SuperLife admin fees and represent about 0.44% of your holding. That percentage will decrease if we increase the investment amount. So, there are some saving with Smartshare, but the saving is insignificant.

Also, there are some other benefits with SuperLife.

  • Better user interface compare to Link Market Service
  • Easy to switch fund with no cost
  • No setup cost for new fund
  • More fund options included sector fund and passively managed fund
  • No withdrawal cost

Personally, I think those benefit worth that $12/year with Superlife.

My Recommendation

If you wish to invest in S&P500 ETF, NZ Cash ETF and Emerging Market ETF, start with SmartShares because their management fee is still lower than SuperLife.

For any other ETF, just go and join SuperLife. You will be much better off.

If you are currently holding SmartShares ETF and want to switch to SuperLife. There is a way to switch without open a brokage account and pay $30 to sell your Smartshare. However, you will have to email me on that.

Email thesmartandlazy@gmail.com or follow me on Twitter @thesmartandlazy if you have any questions.

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The Best way to start your investment as beginner in New Zealand

(This is a repost from thesmartandlazy.com, published on May 31, 2017)

You may already know you need to start investing for your future, but you have no idea where to start. There are so many options out there like the sharemarket, investment property, P2P lending, the bond market, active and passive fund, etc. You have no idea which one is the best for you.

Well, I don’t know what is best for you because everyone’s situation is different. However, I think it’s better to start somewhere rather than sit here and do nothing. People say, “you need time in the market, not timing the market” or “The earlier you start the better”. I believe both of them are true. So, here is my suggestion on where to start your investment.

What you need to do before you start investing

Before you jump into the world of investing, you need to have a solid financial foundation. Here is what you should do.

  1. Pay off your consumer debt like credit card balances, personal loans, store credit, overdrafts and hire purchases. It doesn’t make sense to chase for 6-7% return on investment while paying 19-22% interest on your credit card debt.
  2. Join KiwiSaver. KiwiSaver is one of the best investments available in New Zealand because of the employer contribution and member tax credit. You will have an instant risk-free return on your investment.
  3. Set up an emergency fund for 3-6 months of living expenses. This fund will help you to deal with any unexpected situations, so you’re not forced to cash out your investment, especially during a market downturn
  4. Live on less than you make. Naturally, no one can become successful with their money without first learning how to live on less than they make. Where will you get the money to invest if you live paycheck to paycheck?

Better to start with a plan, however…

You should have a plan for your money before you start investing. Failing to plan is planning to fail, right? That why in my previous post I said the first thing you’ll need to work out is how long can you leave the money in the investment? Or how long before you will need to use that money?

On the other hand, I know how hard it is to come up with a plan when you don’t understand most of the investment terms. It’s hard to learn something from the outside when you don’t have personal experience. You may be afraid you will make a mistake and lose your hard-earned money.

I also understand how busy life is and how lazy we are (Well, at least how lazy I am). It took me six months to finally put down some cash into an investment. I kept making ‘plans’ and doing ‘research’ for my investments (actually I’ve been putting it off because I am lazy).

I started looking into investment strategies on the Internet in April, but I looked around without making any decisions for 4 months. I remember I found out about Smartshares and SuperLife and decided an index fund is the way to go in August, but it still took me two more months to pick which fund or ETF to invest in. Who knows if that is analysis paralysis or just laziness paralysis?

It may be just me, but I know lots of people are in the same boat, especially the beginners. You know you need it start investing, but you don’t have a complete plan yet. So you wait. To those people, hear me out!

If you don’t have a plan, just start without one.

Start small and start early

I am not talking about putting in your life saving without a plan. I suggest you dip your toe in the water.  Just put under $500 into an investment and get it started. TODAY!

That small amount of cash should not affect your financial situation (if that is a problem, you should make sure you have a solid financial foundation). You should be able to move it quickly to start a small investment. You may not even care if you lost it, so you don’t need a plan for that small initial investment. You can put it in almost any fund as the start of your investment.

The most important thing is to get you started on something. Once you dip your toe in the water, you’ll have a personal stake in the investment. Looking at the value go up or down will motivate you to know more about investment. It will help you put together a plan for your investment.

Best way to start – SuperLife

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SuperLife provides 40+ different passive investment fund to New Zealander. They also offer superannuation, KiwiSaver, and insurance solutions. They are great for beginner to start because:

  • No minimum investment requirement – You can invest by making regular or lump sum payments to the scheme at any time. There is no minimum contribution amount.
  • Passive Index Fund – All investment fund with SuperLife are passive index funds. They either invest in a fund designed to track an index or in a number of assets for the long term. It is a cost-effective and diversified investment opinion with a proven result.
  • Low cost – The annual admin fee is $12/year (or $30/year if you want paper documents) which covers all fund in SuperLife. The management cost on each fund is around 0.39% – 0.94%, fees for the most popular funds is around 0.49%.  SuperLife’s fees are relatively low in New Zealand standard(2nd lowest in the country), and some aggressive funds and sector funds have the lowest cost in New Zealand. There is no joining fee, exit fee, and no cost for you add/close/or switch funds.
  • Flexible – SuperLife provides 40 different investment products on managed fund, sector fund and ETF. An investor can invest in a single fund or multiple funds with their own asset allocation. You can switch fund allocation on SuperLife website.
  • Web Site and App – Investors can log onto SuperLife website to check the performance and value of their holding. They’ve also got an iOS and Android App for that.
  • Simple Tax – SuperLife’s investment fund is a portfolio investment entity (PIE). The amount of tax you pay is based on your prescribed investor rate (PIR). SuperLife will pay the tax from your holding, and you don’t need to manage your tax return.
  • Lots of functions – Investors can make lump sum investments or regular contributions with direct debit from their bank account. You can organise your portfolio and allocation your contribution into different funds based on your preferred percentage. SuperLife can auto rebalance your portfolio, which is a great tool for the investor who wants to build a portfolio with their own asset allocation. It can also reinvest your dividends.
  • Owned by New Zealand Stock Exchange –  NZX is New Zealand stock market operator. They 100% own SuperLife. In my opinion, this makes SuperLife a very safe company.

Start with Index Fund

For those who don’t have a plan and want to start small and test it out, here are a couple Funds/ETF in Superlife I think are ideal for beginners.
SuperLife Age Step: This is a managed portfolio invested in multiple Vanguard ETF in both income and growth assets. The ratio between income and growth assets depends on your age. When you are young, over 90% of that portfolio is invested in growth assets (shares and property). It will increase the ratio of income assets (Bond and fixed income assets) as you age. If you join at 28 years old, 80% will be in growth assets, and 20% will be in income assets. On the other hand, if you join at 58, 60.5% will be in growth assets, 30% in income assets and 9.5% in cash.  This is a great fund to start especially if you aim for retirement. You can basically set it up and forget about it for decades. The management fees are 0.45%-0.52%.
NZ Top 50 ETF: This growth asset ETF is the same as FNZ from SmartShares. They invest in financial products listed on the NZX Main Board and is designed to track the return on the S&P/NZX 50 Portfolio Index. You are basically investing in the 50 biggest companies on New Zealand Stock Market. The concept is simple and easy to understand, so this is a great starting point for beginners. One disadvantage is this ETF is not as diversified as others because it is only invested in 50 companies in one country while other funds invest in between 100 to 7000+ companies all over the world. On the other hand, investors can take the tax advantage on local investing. You only need to pay tax on dividends and no tax on capital gain. The management fee is 0.49%.
Overseas Shares (Currency Hedged) Fund: This growth asset fund invests in shares in major stock markets all over the world via the Vanguard ETF. The number of companies included is over 7000. This fund is currency hedged, which reduces the currency fluctuations and exchange rate risk on the fund. The management fee is 0.48%.

Conclusion

  • Make sure you have a good financial foundation before you start investing. Clear your consumer debt, Join KiwiSaver, have an Emergency Fund and live on less than you make.
  • Best to start with a plan
  • If you don’t have a plan, start small while you make your plan.
  • The hardest part is getting started. By starting small, you make the first step so much easier.
  • SuperLife is the best place to start your investment in my opinion because there is no initial requirement, and it is diversified, low-cost, flexible and straightforward.
  • If you have no idea what fund to invest in, consider SuperLife Age Step, NZ top 50 ETF and Overseas Shares (Currency Hedged) Fund
  • Start small and START NOW!

Email thesmartandlazy@gmail.com or follow me on Twitter @thesmartandlazy if you have any questions.

How much do I need to retire?

One of the biggest questions for anyone contemplating retiring early is how much money do I need to retire?  Even if you don’t want to retire early, it is useful to know at what point do you become financially independent?

To figure this out you need to know how much you spend – or how much you want to spend when you are retired.  When I first started this journey I always did my retirement sums on my income and figured I’d have to be working forever to generate that kind of income from my investments.  However, the reality is that you only need to generate enough income to cover your spending without eating into your stash.

Reddit has  a good summary answer to this question:

The short answer: 25 times your annual spending (with caveats)

The long(ish) answer: In 1998, three professors at Trinity University released what became known as the Trinity Study. The study examined the U.S. stock and bond markets over every 15-30 year return period between 1925 and 1995 (the data was recently refreshed in 2009). They concluded that by starting with 4% of your portfolio, and withdrawing that amount (increasing yearly with inflation) every year, you would have a 96% chance to not run out of money during a 30 year period.

  • Assumes only a 30 year retirement period. Longer retirements likely need a lower withdrawal rate.
  • Assumes a mixture of stocks and bonds
  • Assumes $1 in the bank account is “success”. So some 30 year periods had lower ending balances.

4% became known as the “Safe Withdrawal Rate” (SWR). The nature of the stock market (and historical returns) means that in most cases, the portfolio grew faster than the withdrawal rate. 4% of a portfolio is the amount you can withdraw, or reversing the math, 25x your withdrawal amount is equal to the amount you need to save.

Examples:

  • I need $40k in retirement. Therefore I should save (at least) $40k*25 = $1M
  • I have $1M in my retirement accounts. Therefore I can spend $40k yearly ($1M * 4%) for ~30 years.

A couple great articles on this topic

The Trinity Study was based on US data but it seems to hold true for the NZ market as well.  I’m personally quite risk averse so I’ve been doing my sums on a 3% SWR and am hoping to reach a point where even a 2% SWR becomes viable.

A handy tool to test various scenarios is FireCalc.  FireCalc tries to answer this question:  “With what you have today, and what it costs you to live, can you retire and maintain the same lifestyle?”

I recommend you work out how much money you need to live at your desired lifestyle level and start working towards it.

Kiwisaver

So i guess one of the first and easiest places to start investing is in kiwi Saver.

www.kiwisaver.govt.nz

What is Kiwi Saver?
Kiwi Saver is a voluntary, work-based savings initiative to help you with your long-term saving for retirement. It’s designed to be hassle-free so it’s easy to maintain a regular savings pattern.

If you choose to join, contributions are deducted from your pay at the rate of either 3%, 4% or 8% (you choose the rate) and invested for you in a Kiwi Saver scheme.

FREE MONEYYYYYYY!!!!!
– The key win here is that your Employer also contributes a percentage
(Normally 3%) Already you have 100% profit gain just by being involved!!!!! where else can you get that kind of return?!!

but wait there’s more…..

Member tax credit
To help you save, the Government will make an annual contribution towards your Kiwi Saver account as long as you are a contributing member aged 18 or over.

Government will pay 50 cents for every dollar of member contribution annually up to a maximum payment of $521.43. This means that you must contribute $1,042.86 annually to qualify for the maximum payment of $521.43.

$1,042.86(member contribution) + $1,042.86 (employer contribution) + $521.43(MTC)

=$1564.29 for your first $1,042.86!
this is an 150% return!!!!!!! on your first $1,042.86. ( before any fees or returns taken in account of course)

 

More to come….

 

 

 

Logan Kirk |