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Fundamentals


 

Starting an investment portfolio can be both rewarding and enjoyable. Whether you want to supplement your income to improve your lifestyle, or save for retirement, it's important to start planning now. Getting started is the hardest but most important step.
Birchcorp may help with one or all of the following:

  • budgeting
  • setting goals
  • asset classes explained
  • the Australian sharemarket or property market
  • risk vs return
  • income vs growth
  • understanding volatility.

 

In determining which investments are best for you, you should consider your 'investment time horizon'. Each asset class has a distinct time horizon, which helps to determine its suitability. For example, if your time horizon is one to two years, you should consider a cash investment, such as a term deposit. As an investor, you aim to get the highest return at the level of risk you feel comfortable with. You need to consider how tolerant you are of market fluctuations and the probability that your investment returns may not meet expectations. Some investments even lose money.

 

A question you must ask:

 

  • How soon do you want to reach your financial goals?
  • How great a fall in the value of your investment funds could you cope with and for how long?

The type of investment you need depends on whether you require capital growth for the future, income from your investment for now or a combination of both. Some people, such as retirees or those with short investment time-frames, may choose to receive an income from their investment. Income is generated from the interest and dividends earned from the investment. Bonds and cash are examples of income producing investments and they generally provide stable and regular returns. Growth assets, such as shares and property, generally suit people who want to invest for five or more years. These types of assets grow your capital with moderate levels of income over time. Investors wanting to generate wealth over the long term should consider placing a greater portion of their investment into growth assets. While growth assets can be volatile over shorter periods, they have historically produced greater returns than income assets.

 

What to Invest in (Asset Classes):

 

Commonly group asset classes include: Managed Funds, Cash, Fixed Interest, Property, Shares and Exotic Investments. Refer below for an outline of each asset class.

 

A. Managed Funds:

 

Managed funds pool together money from many investors and then invest the total amount in a mix of assets such as shares, listed property trusts, bonds and cash.
By investing in different mixes, a portfolio can be designed to meet your needs. Managed funds can be used to invest a lump sum or to invest smaller amounts by regular payments.
To help minimise risk, you can spread your investment across several asset classes. If you wish to maximise your growth over the longer term, you can choose more volatile investments such as shares.
Benefits of investing in managed funds include:

  • You only need a small investment to start.
  • They are professionally managed. A fund manager carries out day-to-day administration and investment research.
  • You can invest a single deposit or establish a regular savings plan.
  • They provide investment choice.
  • They give access to international shares and large-scale property developments that might otherwise be out of your reach.
  • They help ensure diversification across a range of asset classes.

To measure the performance of a managed fund, you measure the return. The return is the amount you have made from having your money invested in a fund. It includes both income paid and any growth on the assets.

 

What are unit prices?

 

When you invest in a managed fund, your money is pooled together with money from other investors. To keep track of what your share of the pool is worth, the fund divides the total value of assets in the pool into 'units' and quotes you a price for each unit. The fund keeps a record of the number of units you have bought. The price of units will change depending on market movements. Information on the unit price will to help you decide whether to sell your units or to buy more.

 

b. Cash:

 

Cash investments range from day-to-day bank accounts to short-term money market investments. Cash investments typically provide the lowest return over time and no scope for capital growth. However, they contribute to a well-balanced portfolio by helping to reduce your overall risk and generally they allow easy access to money. Cash is suited to investors with a short-time horizon. 

 

c. Fixed Interest:

 

A bond (fixed interest) is a commitment from a borrower to an investor to pay a coupon rate at certain times and repay the principal on maturity. The investor will be paid a coupon rate that will vary depending on the prevailing rates of the time, the length of the term and the borrower’s creditworthiness. Bonds may be sourcde from various sectors of the economy. The federal government is clearly a better credit risk than a second tier industrial company, so government-backed bonds will typically pay lower coupon rates than corporate bonds.

 

Bond investing is primarily defensive and when blended with growth investments like shares it has the effect of reducing the variability of the portfolio and provides a source of income and capital preservation. Considering past performance and looking back to 2008 and again in 2011, high quality defensive bonds did the job for investors by providing a safe harbour against the equity market storms.The Australian fixed income market - as measured by the UBS composite index that represents the Australian bond market in a similar way to the S&P/ASX 300 share index - returned 11.4 per cent in 2011 and 14.9 per cent in 2008. Those types of annual return figures are abnormal for bond funds, and people investing in them, based on last year’s returns, need to heed the warnings about past performance not being a reliable predictor of future outcomes.

 

Investing in fixed income is about lowering and managing risk – something well illustrated when you look back over 20 years of the UBS composite bond index from September 1991 to September 2011 you see that over that period there has only been one year of negative return.

 

The benefits of investing in bonds are the income paid, the diversification benefit compared with equities, and the capital stability that high quality bonds deliver. Bonds also offer liquidity – a key difference when comparing with term deposits where penalty exit fees often apply. But like any investment there are risks that investors need to be aware of:

  • When you lend someone money there is always the risk they will not be able to repay it, so default risk needs to be understood. This is also where bond funds or ETFs have the advantage of holding a diversified portfolio so the risk of an individual name defaulting is much lower than if you held an individual bond.                                                                                                                                                                                                                                                                                                
  • Interest rate rises and falls can also affect the value of bonds. The value of a bond is inversely proportional to the interest rate. So as rates fall, all other things being equal, the value of a fixed coupon bond increases and vice versa.
 

 d. Property Investing:

 

This is often the most widely accepted class of investment by Australians. Australians, and most of the wealthiest people in the world have profited today by having their fortunes tied in real estate. The idea of a tangible asset that provides an increasing rental return over time and capital growth is rather lucrative. Birchcorp Financial Planners have a particular interest in property and you will find that we separate ourselves from other Financial Planners in this regard. 

 

e. Shares:

 

The share market is also another well accepted investment class for Australians. The recent declines in equities has placed this investment class out of favour in recent times. An important point to note is that investments are taken out for the long term. Companies are cyclical in profits and losses as is the stockmarket.

 

f. Exotic Investments:

 

These investments are for the experienced investor only, they are related to specific interests that you have a substantial amount of expertise or experience. They include and are not limited to socially responsible investments, forestry and agri-business, horses, gold, paintings, wine, vintage cars, and other investments that have the opportunity to appreciate.


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