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What would you do with this 20K?

Discussion in 'Introductions' started by disco lemon, 20th May, 2008.

  1. disco lemon

    disco lemon Member

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    Hi everyone,

    I have been lurking on this forum for awhile & have finally decided to post.

    Your insights on this question will be much appreciated:

    I am in my mid-20s, self-employed, with an income of approx 50K p.a., have just paid off my HECs & have 20K to invest. What to do at this point in time? I am leaning towards shares via a managed fund with the help of a margin loan.

    Thanks in advance!
     
  2. Simon Hampel

    Simon Hampel Co-founder Staff Member

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    Hi disco and welcome to the forums - great to have you here!

    A question like yours is always difficult to answer if we don't know much about what you are trying to achieve. I acknowledge that you possibly don't really know yourself what you want yet though! If you do - then that's great, otherwise it might be time to start thinking about your goals - short, medium, long term goals ... write them down and stick them on the wall!

    One very important thing to understand with most equity investments is that the markets can be very volatile. If you are likely to need your money within the next year or so (eg for a house deposit or for a new car etc), then you are possibly better off just sticking it in a high interest savings account like RaboPlus or ING Direct etc.

    If you are prepared to invest for 3+ years (and preferably 5-7 years minimum), then I think the sharemarket is a good place to be ... although you may also want to look at buying a property to live in if you can afford it - the FHOG and CGT exemption on a PPOR are a pretty good reasons to consider property.
     
  3. disco lemon

    disco lemon Member

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    Thank you so much Sim, for your reply.

    You're right, I haven't thought out my investment goals as yet. But I do know that this is the beginning of something that would be for the very long term. An investment property would have to be conservatively geared, as my income can be volatile and I want to be able to easily manage my interest payments.

    Perhaps shares for the next 3 or so years, then selling them for a house deposit? What do you think?

    Thanks again for your insights.
     
  4. disco lemon

    disco lemon Member

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    One more thing:

    Where do I go to find out more about managed funds and margin loans?
     
  5. Simon Hampel

    Simon Hampel Co-founder Staff Member

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    If you are not looking at buying within the next year or two (short term), then I think investing in good quality shares is a great way to save for a deposit on your house. It's also a valid investment in its own right - so if you decide not to buy just yet, you can just hold on to those shares.

    With $20K you could invest in several managed funds or ETFs and get a bit of diversification. A margin loan at 50% LVR would give you $40K to invest in total. Watch out for interest rates though - margin loans are around the 10% mark now, that means you need to make some pretty decent returns on your investments to make the loan worthwhile.
     
  6. Simon Hampel

    Simon Hampel Co-founder Staff Member

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    You're already there :D

    We have a lot of material about managed funds and margin loans (have a look in the articles section, but also in the Managed Funds and the Margin Loans discussion topics - lots of threads for you to read).

    If you don't want to make the decisions on your own and want more than just the suggestions from a bunch of people you don't know online - then perhaps you need find a good independent financial advisor?

    Watch out for fees and make sure you understand how they get paid and who pays them (bank financial advisors or those associated with a financial institution may tend to recommend only their products).
     
  7. Rod_WA

    Rod_WA Well-Known Member

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    It's also worth considering that you can go in half and half: $10k into shares/MFs and $10k in the bank. This will help you get your feet wet, whilst protecting some of your cash in case you wish to use the funds elsewhere.

    You can also get into shares now and then think about extending into a margin loan later on (ie you don't have to get a ML immediately).

    There are vastly differing opinions about the sharemarket at the moment - how long will the bear market last? will the credit crunch subdue earnings and keep interest rates high well into 2009/2010? are we already out of the woods?

    So you might want to move in gradually, eg $10k now, $10k in 4 months, $10k (via a ML) in 8 months, $10k again in 12 months. Then you'll be around 50% geared and the market outlook should be much clearer.
     
  8. disco lemon

    disco lemon Member

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    Thanks Sim, I would much rather take advice from a bunch of people on the internet I don't know than the financial advisors I do know!

    You raised a very important point in mentioning high interest rates with regards to margin loans: with a paltry $20K, the extra returns may be substantially negated by large interest repayments,along with management fees for the fund.
     
  9. disco lemon

    disco lemon Member

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    Hi Rod,

    If only we had a crystal ball!

    I really appreciate your advice about diversifying: it makes the decision making process much simplier & more logical. I have the entire the 20K sitting in the bank at the moment & would like to venture into the realm of stocks.

    Margin loan or not, I'll be looking into a managed fund for sure. I value their expertise on stock picking over my own.
     
  10. Simon Hampel

    Simon Hampel Co-founder Staff Member

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    Actually it won't really matter how much you invest - the interest payments and management fees are proportional to the amount invested (or borrowed).

    So if you have $20K borrowed and $40K invested, the interest + fees you will pay is proportionately equal to if you had $200K borrowed and $400K invested!

    There is an economy of scale eventually - once you get to $250K+ invested you start to be able to negotiate discounts off the margin loan interest rates, and if you have $100K+ to invest you can start to look at wholesale funds which have lower fees, but up until you get to this point, it won't matter how much you invest, the costs are the same (relatively speaking).
     
  11. Simon Hampel

    Simon Hampel Co-founder Staff Member

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    Just to give you something else to ponder (at the risk of invoking analysis paralysis!) - have a look at index tracking ETFs as well (we have a forum topic on it with some good threads).

    These are managed funds which are traded like shares (you use a share broker to buy them and pay brokerage). The main difference is that unlike an actively managed fund where their "expert" pick the stocks, an index tracking ETF invests in ALL of the stocks, based on their relative weight in the index.

    For example the SPDR ASX200 ETF (ASX code STW) actually buys all 200 stocks in the ASX200 index - so you get a broad exposure.

    The benefit is that because they don't pay expensive "expert" stock pickers, the costs are very low, and so fees are low. Your return will largely match that of the overall index - you will get the "average".

    The downside is that you don't get any better than "average" - if you believe a fund manager has the skill to consistently beat the market and pick the better performing stocks, then you will be better off in their managed fund than in an index fund. But you will pay higher fees for the privelage, and there are no guarantees they will actually outperform.

    This can become almost a religious debate - but the important thing is that you don't have to decide on one or the other - you can always try a bit of both until you know what suits you better and then change things around later!

    There is merit in my mind to having some low cost market-tracking index exposure, plus some performance based specialist investments to hopefully improve your overall returns.
     
  12. disco lemon

    disco lemon Member

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    Hi Sim,

    Thank you for your reply & I understand what you mean by the interest & fees being proportional.

    What I'd meant to say was:

    $20K in a managed fund with a 12% p.a. return (ave return p.a. for the ASX200), with a margin loan of 10% interest, geared at 50% (i.e. total investment being $40K) reaps a return of $2,800 after the interest expense has been deducted. Which is only $1,200 more than if I simply placed the 20K into a term deposit offering 8%. Now for the increased risk involved with stocks & a margin loan, an extra $1,200p.a. (+ a small tax break) may simply not be enough of an incentive.

    What I think I'll do is take Rod_WA's advice: hold 10K worth of cash in, say, Rabo Bank, and buy into a managed fund with the other 10K, passing up on the margin loan for now. Because of the volatility of my business income, I think I will always hold 50% of my savings in an interest bearing account.
     
    Last edited by a moderator: 21st May, 2008
  13. CJ. Wentworth

    CJ. Wentworth Well-Known Member

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    As a percentage it's actually quite large when comparing the overall gain.

    40k @ 12% = 4800
    20k loan @ 10% = 2000
    Taxable Gain = 2800
    2800 - 30% = $1960 net (assuming 30c tax bracket)

    20k @ 8% = 1600
    1600 - 30% = 1120 net


    1120 / 1960 * 100 = 57% difference on return.


    Admittedly a term deposit would be more secure in terms of return and far less risky, but it's up to you to decide what kinda risk you'd like to take.



    oh, and like any "advice" take it all with a grain of salt. I'm probably missing HEAPS of stuff here :( and am by no means in the position to be advising anyone about their finances.
     
  14. Rod_WA

    Rod_WA Well-Known Member

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    Perhaps the first thing to consider is cashflow: can you afford to buy shares or a MF and cover the holding costs? For the next 5+ years? Or will you have to sell them in a time of need, regardless of market conditions? Dividends will help cashflow, but they come twice a year or perhaps quarterly with a MF. Remember also that dividends may come with franking credits, which effectively reduce the tax payable. The interest earned in the bank is fully taxable, but fully-franked dividends can come out almost tax free (effectively a 1.5% residual tax rate if you're on 31.5% MTR).

    Which fund??? An index ETF may be a good starting point, but there are hundreds of fund managers out there, all spruiking their wares.

    Do you need advice beyond an anonymous internet forum? There have been many wise heads that have suggested that the best investment is in your education, ie read books and articles on investing, before diving in. Don't spend $1000s on 'How to Make Money in the Sharemarket" seminars or DVDs, but rather spend $30 here and $40 there on classic investment books. Since the money is in a high interest savings account and the market is fragile, you have much time to learn.
     
  15. disco lemon

    disco lemon Member

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    Sim, Rod & CJ,

    Once again, I really appreciate you devoting your time to advise over $20K whereas you probably have more noteworthy investments to tend to of your own!

    Rod, I have read a couple of books on shares (e.g. Roger Kinsky), some on real estate (e.g. Jan Somers) & some on the general concept of wealth generation (e.g. Robert Kiyosaki) & read the Fin Review on weekends. Are there any specific titles/authors that you reccommend?

    Sim, thank you for bringing up ETFs, as I had never heard of them previously. One that investsts in the ASX200 index is definitely worth considering given that the ASX200 always goes up, even if it takes 10 years, as long as I don't foolishly buy into it at the worst possible time in history.

    CJ, thanks for the mathematics! I'd neglected to include tax expenses in my own. Post-tax, the difference (between the MF with ML, and the TD) in net returns lessens to $840. And for the added risk, $840 is definitely not worth it IMO. If I had, say, $200K to invest, it would be a slightly different story!

    Thanks again for all your wisdom :)
     
  16. AsxBroker

    AsxBroker Well-Known Member

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    Hi Disco Lemon,

    The ASX200 does not always go up.
    Pull up a chart from October 2007 to now.

    Good news is from the bottom in March it is up, hasn't quite caught up to were it was but it will eventually get there.

    Over history, there is no period, if you had invested in the sharemarket (index) and it dropped, 7 years later it has always caught back up from when you invested. Saying that, 7 years is a fair amount of time to regain lost ground.

    Cheers,

    Dan

    PS Past performance is no guarantee of future returns.
     
    Last edited by a moderator: 22nd May, 2008
  17. Tropo

    Tropo Well-Known Member

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    "Saying that, 7 years is a fair amount of time to regain lost ground".


    It will take more if you include opportunity cost, inflation etc...
    On the other side ... live expectancy increased dramatically, so one day a patient investor may recoup some money. :rolleyes:
     
  18. crc_error

    crc_error The Rule of 72

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    Thats why its best to invest on a regular basis, hence you benefit from drops. And if you say it takes 7 years to make up lost ground from a drop, well we are after a major drop so wouldn't it suggest its a good time to get in?

    Property also drops in value, so if your a investor, get used to it!
     
  19. disco lemon

    disco lemon Member

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    Thanks everyone for your wisdom.

    That's what I was wondering too crc_error: isn't now a relatively "good" time to purchase stocks? In 20-20 hindsight, a month or 2 ago would've been ideal. I suspect a seasoned investor would have pounced on the opportunity for a spending spree.
     
  20. crc_error

    crc_error The Rule of 72

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    You are never going to pick tops and bottoms, so best to invest each month what you can. And when we have corrections, invest more! I actually topped up my managed fund yesterday, as long term I believe the stock market is a excellent investment vehical.

    I have 1 IP, which I will redraw equity in 12 months to invest more into the share market as I only see a IP been good for its cheap borrowing and high gearing and deprication. Once you can't get the high gearing, then your better going into shares as you can get simular gearing with out the high costs associated with buying/selling.

    Look how great our market has recovered!! with a low of 5200, we are now at 5900 and saw 6000 the other day.