Last month, we put the call out for all your burning investment questions for Smartshares, the fund manager who issues the 10 exchange-traded funds available through Sharesies. This week, we enlisted the help of the team from Smartshares to get some of your questions answered!
“What are your top 3 tips for starting an investment portfolio?”—Michelle
Don’t change with the news or wind: develop an investment plan with a level of risk you’re comfortable with, and stick to it through the market ups and downs.
Dollar-cost averaging: regularly contribute to the plan! It’s routine, habitual savings and the benefit of compounding that grows wealth, not ‘hot tips’.
Don’t forget rule number 1
“Why would someone invest in a fund that has been performing averagely, e.g. the Australian Top 20?”—Matt
There are two main reasons. The first is that a fund may play an important diversification role in an investor’s overall portfolio. For example, bond returns have been much weaker than shares recently. But bonds typically do very well when share markets fall, reducing the volatility in an investor’s overall portfolio. Similarly, while the Australian share market, and hence the Top 20 Fund which represents over 50% of the Aussie market, has not performed as well as our market recently, we know that at times the Australian market can do very well.
This relates to the second main reason. Past performance is no indicator of future returns. That’s the disclaimer you’ll see everywhere in finance, and it is so true. The Australian Top 20 Fund is dominated by the big 4 banks and mining companies, and to some extent, represents the health of the Australian economy overall. If this picks up steam again, then we can expect the Fund to perform very well.
“What are the best resources to read to understand the cycle of the share markets?”—Sarah
It’s great that you’re interested in understanding more about markets—“A Random Walk Down Wall Street” by Burton Malkiel is an oldie but a goodie!
The cycle in markets and share prices can mean different things to different investors. Despite much effort by many researchers and investors, a predictable cycle has never been established. Perhaps more important is the idea that the performance of share markets is non-linear, and has its ups and downs. So it’s your risk tolerance and understanding of the possibility of fluctuation (also known as volatility) that will guide your investment decisions.
“What do you see happening over the next 6 months, and year in the international markets? There is a lot of talk about being on the verge of another big correction.”—Josh
The adage is that “it is not timing the market, but time in the market that counts”. There will always be people (perhaps with a self-interest) who try to predict the next disaster or to convince others that they can predict the future. But with so many variables and inputs to a world economy, no one can consistently time such events—the world is just too complex! It can depend on which market you’re referring to and having a macroeconomic theory about which factors and sentiments will dominate that market for the foreseeable future.
If there is a market crash at some stage, time and time again history shows that these are followed by recoveries. Research also shows that investors that try to time the market generally fall behind investors that stick with their investment plans through the ups and downs—see dollar cost averaging for more info.
A practical example is if you had invested $1,000 in the S&P500 (US 500 Fund) in 2007 on the day the markets were at their all-time high. At the low point of the Global Financial Crisis in Feb 2009, you would have had only $470 (a great month to invest, if only we all knew!). However, if you did nothing and just held your nerve and position, today you would have $1,857 or an average of 5.8% return per year—not great, but not bad for a single investment on the worst possible day in recent history. This is why your timeframe (or horizon) is such an important consideration. You don’t want a timeframe that’s too short and might result in you being forced to sell at a time when you would lose money.
“Why is the dividend yield so low on the US 500? Does this mean the greater the diversity in an ETF, the lower the dividend yield?”—Bradley
Companies have two main choices when it comes to what they do with profits—to give it back to investors or to reinvest it in the company’s future. Historically, US companies are more inclined to reinvest any of these retained earnings, while companies in countries like New Zealand generally opt to pay them out to investors. Neither is right or wrong and many companies do some of both. Tax and shareholder preferences can also have an impact on the company’s decision.
Secondly, Smartshares US 500 invests into a foreign investment fund (FIF). Because of this, we’re required to pay 28% tax on a deemed dividend of 5%. This means that even if we’ve only received a 1% dividend for the year, we pay tax as if we had received 5%. So, this uses up some of the cash received from underlying company dividends as well. Check out Inland Revenue’s website for more detail if interested.
“My preschooler kids get birthday and Christmas money from family and will eventually get pocket money. What’s the best way to invest/manage such a small amount over a long time?”—Pia
Horizon is the key word here—when will they receive or use the money? With a long-term horizon, the level of risk that can be taken can be high. If it’s saving for an expensive toy or a rainy day, stay conservative. If it’s university or first home deposit, shares would make more sense. Even a small amount can grow to a significant sum in time through the magic of compounding!
Ok, now for the legal bit
Investing involves risk. You aren’t guaranteed a return, and you might lose the money you started with. Before investing, you should read your fund’s product disclosure statement. It contains the investment objectives, risks, fees and other information. You should carefully consider this information in relation to your investment time frames and goals.