Whether its indifference or oversight make your money work harder
Investor behaviour can be puzzling. Psychologists, financial advisers, investment managers and other observers of human nature have long pondered the drivers of investment decisions; the money that pours into investments when markets peak, and outward flood at the first sign of a downturn.
It is somewhat confounding then, that Australian households had more than $915 billion sitting in cash deposits at the end of September 2018, at a time when term deposit (TD) rates are at historic lows. This trend has been building momentum since the Global Financial Crisis (GFC) a decade ago – like a see-saw, the level of cash on deposit has increased, and interest rates have fallen to the lowest levels on record.
An examination of data released by the Reserve Bank of Australia (RBA), Australian Prudential Regulation Authority (APRA) and the banks themselves reveal some interesting facts:
Short-term TDs rule
The bulk of money sits in TDs of one year or less, despite low rates. The average rate paid on $10,000 is 1.95% – with tax to pay, that’s a negligible total return. When you factor in inflation at 1.9%, the after tax real rate of return is negative.
Really short-term TDs rule
Data published in CBA’s 2018 annual report highlights the weight of money in short-term TDs, with more than half in the shortest term possible – and for that, receiving the lowest of lowly returns.
|Time period||Total $ billion||% of total invested|
Source: CBA Annual Report 2018
The big four rule
APRA data shows exactly where the money goes. While 92% of deposits are with the top 10 institutions, the lion’s share heads to Australia’s big four banks (79%), which interestingly tend to pay the lowest rates.
Although the government guarantee on TDs up to $250,000 is provided by a wide range of institutions, it seems the perceived safety of Australia’s largest is a drawcard.
|Financial institution||% of total household deposits|
|ING Bank (Australia)||3.5%|
|Bendigo & Adelaide Bank||3%|
|Bank of Queensland||2%|
|HSBC Bank Australia||1%|
Source: APRA, Monthly Banking Statistics, September 2018
What sort of investor are you?
TD investors generally fall into one of five types – do you recognise yourself?
Type one: The Roller
Characteristics of the roller:
- Objective: Wants to generate some income from their money while parking it temporarily; often a precursor to determining or implementing a longer-term strategy for the capital.
- Behaviour: Many Rollers take out a 3-month TD and roll it 5-6 times, just to end up with an 18-month investment. The bank calls them each quarter to ask them what they want to do, and they say, “just roll it”. While the intent might be to sort out an alternative ‘next time’, the problem is they don’t…the roller doesn’t receive the higher 18-month rate available at the outset, has to speak to the bank several times, and earns less on their savings.
- Outcome: The lowest possible return – again, and again, and again.
Type two: The Shopper
Characteristics of the shopper:
- Objective: Wants to find the best possible.
- Behaviour: The shopper can spend hours trawling Canstar and other comparison sites looking for the best rates. They call banks and play them off each other. Shoppers tend to end up with a TD from a smaller, less well-known bank; sometimes they manage to get a rate of 2.4% rather than 2.3% and feel very pleased with themselves.
- Outcome: A marginally improved (but still low) rate…although, will it buy back the time expended finding it?
Type three: The ‘Nervous Nellie’
Characteristics of the Nervous Nellie:
- Objective: Capital protection at any cost.
- Behaviour: Nervous Nellie may have lost money during the GFC or other periods of market turmoil. As a result, the focus is on protecting capital rather than maximising its potential. The government guarantee on TDs provides the reassurance Nervous Nellie requires.
- Outcome: Capital that’s protected, but isn’t working.
Type four: The Accumulator
Characteristics of the accumulator:
- Objective: Capital that’s protected, but isn’t working.
- Behaviour: The Accumulator needs to save, save, save and protect those savings from capital loss. With a significant end goal in mind, such as a house deposit, the focus is on building that TD to meet the savings goal.
- Outcome: A savings goal that’s reached through the Accumulator’s, not the capital’s, hard work.
Type five: The Fixer
Characteristics of the fixer:
- Objective: Set and forget – the money is safe, don’t make me think about it!
- Behaviour: The Fixer locks capital up at the best available rate and forgets about it; let’s hope they don’t need it in the interim, as the penalties paid on early release of a TD can wipe out the return.
- Outcome: Out of sight, out of mind – minimal total return given the capital can be locked up for 3-5 years. If inflation ramps up, the capital invested could be worth less when the TD matures.
TDs versus Corporate Bond XTBs
XTBs deliver the regular income payments associated with TDs, but with superior returns; and like TDs, the capital invested is returned upon maturity. Unlike TDs, an XTB can be sold on ASX, subject to liquidity, prior to maturity without penalty from the issuer.
TDs vs. XTBs
|$250k Government Guarantee||YES||NO|
|Return above 2.25% p.a.||NO||YES|
|Regular income payments||YES||YES|
|Face value of investment received at maturity||YES||YES|
|Anytime access to money without penalty||NO||YES|
|No minimum investment amount||NO||YES|
Source: Australian Corporate Bond Company and Canstar – based on $10,000 investment in a top 4 bank 3-6 month TD 12.11.18
While there may be no government guarantee, corporate bonds sit just above TDs on the risk-return spectrum and have similar risk propositions as well as a similar payout profile; both involve a known amount being repaid on a set date, with fixed interest payments on fixed dates.
Each of the TD investor types could benefit from investment in XTBs:
|The Roller||The Roller would receive, on average, a 40% uplift on the TD rate, benefit from liquidity and access, and importantly, wouldn’t have to keep speaking to the bank and deciding what to do next!|
|The Shopper||The time saved on shopping around could be reinvested into planning how to make the most of the additional income generated by XTBs.|
|The Nervous Nellie||Corporate bonds, and by extension XTBs, sit high in a company’s capital structure; in the unlikely event of default, bond holders are paid out before shareholders.|
|The Accumulator||When a bond matures, the capital invested is repaid; although with XTB’s liquidity feature, capital is accessible any time. It can also be added to anytime to reach that savings goal more quickly.|
|The Fixer||Why set and forget at a low rate, when you can buy a longer-dated XTB and benefit from higher rates and a superior total return.|
Whatever your investor type, if you have an investment in TDs, XTBs are worth a closer look. There are over 50 XTBs available over a wide range of ASX200 companies, each providing capital stability, as well as a predictable and regular income stream. XTBs can deliver superior returns to those offered by TDs, without the price volatility associated with shares and hybrids.
Don’t simply park your capital in a TD, make it work for you.