To hedge or not to hedge

Australians, being the intrepid travellers they are, understand currency risk. It is something that is learnt the hard way, usually at a young age when trying to scrape by on modest savings in a foreign land.

That real-world experience can also serve us well when thinking about our investment portfolio and the question about whether to hedge or not hedge the currency exposure that comes along with investing overseas.

Sadly, unlike our overseas travel jaunts, the decision is complex and nuanced and the long-term impacts could be a lot more severe than simply cutting short a trip by a week or two.

One of the drivers for undertaking the research is that as investment markets have become more global, investors are increasingly investing overseas.

Home country bias is the term used to describe how much more investors have invested in their domestic market compared to the global market benchmarks.

From 2001 to 2012 Australian equity investors lowered their home country bias by 14 percentage points. Over the same time US, UK and Canadian equity investors lowered their home country bias level 11, 23 and 10 percentage points respectively so this is clearly not just an Australian phenomenon.

From a forward-looking perspective, we expect hedged and unhedged portfolios to produce the same gross return in an arbitrage-free world.

In contrast, from a backward-looking perspective currencies have played an enormous role in determining a portfolio's profitability.

In a sense the currency hedging question sits alongside the broader portfolio asset allocation question.

A key consideration for investors when pondering the currency hedge question is what is the fundamental goal you are trying to achieve? Is it to try to maximize returns or to reduce overall portfolio risk?

For this research work the objective was to evaluate currency hedging through the lens of reducing risk.

The results suggest that investors focus on two specific questions when determining what an appropriate level of currency exposure is.

They are:

1. What is the portfolio's asset allocation?
   Fixed interest-oriented portfolios will benefit more from hedging than equity portfolios because bonds typically have lower volatility than shares. Because of that many investors may consider fully hedging their fixed interest allocation.
2. What is the correlation between currency and equity?
   There is a potential diversification benefit, the researchers say, in owning foreign currency but there is no "one size fits all" hedging prescription.

But the research suggests that unless the currency-to-equity correlation is expected to be negative, consider currency hedging even in the equity portion of your portfolio.

All  of Direct Advisers' portfolios incorporate currency hedging, which is adjusted from time to time as economic conditions change.

So, you’re thinking about retirement

Approaching retirement is a time in life that can either be filled with fear and trepidation, or a time of excitement about the years that lie ahead.

What will your retirement look like?

Will it be the fulfilment of dreams that have developed over a number of years, or will it be a time you dread? Unfortunately for many people, retirement brings loneliness, bewilderment and a sense of loss of their self-worth.

But it doesn’t have to be like that. Retirement should be seen as the start of an exciting journey, and not a time of fear and regret. However, an exciting and fulfilling retirement will only be achieved if you are prepared to do two things:

1. Dream – take time out to picture a perfect retirement that is right for you and embraces all the things you are passionate about. Things like: where will I be living, what will I be doing with family and friends, how will I be occupying my days and what sights will I be seeing and places will I be experiencing if travel is part of my dream?
2. Plan – achieving your dream retirement will take time and careful planning. You wouldn’t embark on an interstate road trip without having some idea of the route you will take and where you will stay along the way.

Retirement is a bit like a road trip. It needs to be mapped out and planned. This planning can be done in as much or as little detail as suits you. But irrespective of whether you intend to cast fate to the wind, or plan life with meticulous detail, some planning will be required.

For most people, money is a very important part of retirement. It will dictate the extent to which you will be able to achieve your dreams. However, even big dreams can generally be achieved on a budget, again this needs to be done with careful planning.

When should you start planning for your retirement?

As early as possible. The more time you put into planning the greater the likelihood that you will achieve your retirement dreams and aspirations.

So, if you are thinking about retirement and have unanswered questions, now is the time to seek appropriate advice from us and start to build the foundations of what can be your exciting and fulfilling retirement. You can phone us (02) 6583 7588 or email.

Beating the October blues

'OCTOBER: This is one of the peculiarly dangerous months to speculate in stocks. The others are July, January, September, April, November, May, March, June, December, August, and February.'

So said Mark Twain, and he was as accurate as he was witty at capturing the headwinds that afflict all sharemarket investors -when is it a good time to invest and what is the risk of losing out?

Let us get some facts on the table. When you look at sharemarket return data both here and for the US there is no great difference in the distribution of returns among the 12 months of the year.

October is no better or no worse than the 11 other months.

That said October, certainly does seem to get a bad press. In part that may be because the 1987 sharemarket crash left an indelible mark on a generation of investors - yours truly included.

Certainly the volatility in the sharemarket market last month is not going to do anything to change that perception.

Newspaper headlines scream for your attention when markets take a sudden fall because it is dramatic, it is newsworthy.

However, is volatility really an investor's enemy? Like many things with investing there are trade-offs and it depends on what type of investor you are.

For younger investors in the accumulation phase down periods for markets allows them to invest in assets at lower price levels.

We all like to shop when things are on sale or heavily discounted - buying bargains makes us feel good - yet to buy into sharemarkets when they are falling takes courage to overcome the fear factor.

But for people looking to build long-term wealth to fund their retirement lifestyle does it make more sense to buy when prices are high or low?

The answer may be obvious but the problem is that timing markets is virtually impossible.

The answer lies more in accepting the natural volatility within market cycles and having a long-term investment plan, the discipline to stick to it over the long run so that that periods of volatility can actually work for you.

For retirees the situation is different. A portfolio with minimum volatility will be much more appealing because the objective is more about wanting a reliable, steady income stream.

That comes back to recognising the level of market risk within a portfolio and why, for people nearing retirement age, adjusting the asset allocation and exposure to the more volatile investment markets is both sensible and helps them ignore the short-term market noise that comes when markets rediscover volatility.

Cheer today - debt tomorrow

The traditional Christmas carol starts

‘Twas the night before Christmas, when all through the house

Not a creature was stirring, not even a mouse,

The stockings were hung by the chimney with care,

In hopes that St Nicholas soon would be there.

Nowadays the carol could be rewritten

‘Twas the week before Christmas, the cash registers ring

Shop till you drop, don’t miss a thing,

Buying up big, it’s not very hard

If you don’t have the cash, just pull out the card.

From early November retailers have been telling us what we can’t live without and what our kids must have if they are to still love us on Christmas Day. It’s easy to get caught up in the momentum. Of course, the downside is you end up with the post-Christmas blues when the credit card statements arrive. This may mean that wealth plans get scrapped because you have to pay off the debt first.

How can you manage the Christmas challenge?

Obviously the best strategy is to plan ahead and spend only what you can afford. If you have the discipline to do this, congratulations, however there are not many people who can successfully control their Christmas spending.

So how about some lateral thinking like these ideas?

·        Sell things you don’t need in a garage sale or online to fund your Christmas fun. Start with the expensive toys your kids have grown out of to make space for the new. They could make perfect Christmas gifts for someone else’s children. And don’t forget all the things you’ve bought impulsively in the past year – did that new exercise machine really live up to expectations?

·        Exchange low-cost gifts to celebrate Christmas Day and then save money by buying gifts in the new-year sales.

·        Buy a few quality presents for children rather than buying many cheaper items. This also helps the environment with less rubbish going to landfill.

• Give an “experience” as a gift, particularly for older relatives who don’t need more “things”. How about arranging a family reunion, taking them on a nostalgic tour of their old haunts or to your local theatre?

If your best intentions fail and you end up with a large Christmas debt, a repayment plan is essential before the interest bill starts adding up. This may mean committing a portion of your income to reducing the debt, working overtime or getting an extra job.

And what about next year?

If you put a $2 coin in a tamper-proof container every single day you would have over $700 to fund next year’s celebrations. It’s certainly not rocket science and with a tiny amount of commitment, you could start next year with a clean debt slate. Won’t that make next Christmas more enjoyable?

Work and retirement – do they mix?

The terms “work” and “retirement” at first appear to be at the extreme opposing ends of the spectrum, but for a portion of the population, this is certainly not the case. Work does a couple of very important things outside providing a person with an income so that they can survive on a weekly basis.

Work allows you to continue to contribute to society, broaden your social circle and also provides a purpose. Combined, these three benefits will also contribute to a longer and more importantly healthier life.

The work that you do in retirement does not need to be a continuations of your previous working career. Remember, you are not looking to build a new career, you just want to contribute to society and pick up some extra cash. So what may appear to be menial jobs such as shelf packing, stop go sign operators, headstone restorer or barista, should never been seen as being beneath you or your abilities.

The reason you are working now is entirely different to the reasons you worked pre-retirement. For the part age pensioner the extra reason to find work is the generous “work bonus” income test which applies to your earned income. The work bonus not only allows you to earn $250 over a 14 day period without any effect on your age pension. It also allows you to build a bank of $6500 in credit which equates to $250 multiplied by 26 fortnights. So what this means is that for the age pensioner who enjoys playing Santa Claus every Christmas in the local shopping mall (depending on how much Santa is paid), they could work every year during this period pick up some extra cash and not have their pension effected as a result of building credits during the year.

But like all government legislation, it does not come without some pitfalls. For example if you earned $500 over a five day period instead of a 14 day period, the amount of income taken into account for the fortnight would not be $250 but $410.

The reason behind this is, the way the allowable threshold is calculated the easiest way to explain is to say the in a 14 day period for every day you work you are allowed to earn $17.85 before your earnings for the day would have an effect on your pension entitlement. Complicated and difficult to understand?  Without a doubt, “yes”, and for you the solution is easy – just ask the questions and be aware of the benefits of the work bonus as well as the pitfalls before you start your “menial job”.