Newsletter – September 2009

01/09/2009 Level One

The times they are a changing…

Economic Stimulus Package

The Australian economy seems to have weathered the storm with regard the Global Financial Crisis (GFC). Early months of the crisis saw a constant stream of bad news from business politicians and economists alike.

These days things seem a bit more upbeat with a mixture of good and bad news but it would appear the world will not come to an end as some had previously predicted.

Australia seems to have weathered the storm better than most and for good reason.

A) Firstly we entered this GFC in much better shape with our federal government having generated an annual budget surplus of approximately $20 billion per year during the past several years. Many countries in contrast ran a massive deficit and were in a worse position from the onset of the GFC.

B) Fiscal stimulus packages announced around the world by governments all vary in size but Australia’s is large.

The following table illustrates the percentage of Gross Domestic Product (GDP) that each respective government has announced as its Economic Stimulus Package over the 2009 and 2010 fiscal years.


Source: Bill Evans, Managing Director Economics & Research Westpac (March 09)

As you can see Australia is right up there with the U.S announcing spending initiatives totaling 2.25% in 2009 and 1.75% in 2010 totaling 4% of GDP in total.


C) China has a significant impact on Australia’s economic prosperity. China’s economic stimulus package is a massive 14.5% of GDP over the 2009 and 2010 fiscal years.

China’s massive stimulus package is designed to replace export demand from around the world with increased domestic demand. Accordingly raw material demand and hence demand for Australia’s raw materials has increased and this has begun to penetrate the Australian economy generating renewed optimism.

The potential for a double dip recession or ‘W’ shaped recession appears to be easing but asset price bubbles in China caused by their huge stimulus package and an easing of credit policies could cause more than a little consternation world wide and in Australia particularly, if world wide demand does not improve.

Whether the size of Australia’s economic stimulus package is appropriate will only be known in years to come when we see how long it takes to repay the debt and how high our interest rates rise.


“Australia’s Biggest Scam Comes Crashing Down”

This is how the Sydney Morning Herald described the collapse of failed agribusiness operations Timbercorp and Great Southern Plantations.

Great Southern has 40,000 investors, is the biggest managed investment scheme in Australia with 180,000 hectares of plantations, a half share in a woodchip mill as well as projects in almonds, beef cattle, flowers, olives, poultry and grapes.

Shares in Great Southern were halted from trading at 12c having fallen from a high of $5.

Similarly Timbercorp has 18,500 investors, 120,000 hectares of forest and horticultural assets.

So you can see a lot of people have lost a lot of money.

Investments in these agribusiness products essentially allowed you to acquire a “lot” of timber for say $100,000.

You get to claim as a tax deduction the full cost of the investment being $100,000.

Each year you would then pay management fees for your timber to be managed, and interest if you borrowed money to make the investment.

The managers in turn would pay the owners of the land rent.

Anyway the wash up really comes down to the facts about many if not all agribusiness investments:

A) Between 20-50% of your investment amount doesn’t get invested. Typically 20% plus is paid to advisers and promoters.

So imagine spending $100,000 to buy BHP Shares and paying over $20,000 in brokerage and ending up with only $80,000 worth of shares. Or imagine buying an investment property for $300,000 and having to pay stamp duty or agent fees of $100,000.

Doesn’t sound too flash as an investment does it?

B) If all the rural land was so good at yielding terrific timber, grape almond or olive crops why are the owners of the land renting it to you the investor? Why don’t they grow these crops themselves?

Possibly they prefer the steady reliable nature of rental income as opposed to the obvious risks with agricultural products such as timber, grapes, almonds or olives. Such crops are subject to weather conditions for example.

Did you notice we are in a drought? A long one!

C) Some of these crops take 5-15 years to “mature” and hence some of the so-called investment projects lasted up to 23 years!

Well you can buy or sell shares any day of the week, you can buy or sell property over a couple of months but to buy something as an investment which is to “mature” so far out seems risky to me.

D) “Adviser” commissions were up to 10%.

If advisers need to be bribed to recommend something with a large juicy 10% commission one should always take a closer look. A lot closer look!

Anyone who invests in anything where the adviser is getting 10% is not receiving advice.

They are being sold a product. There is a big difference.

An adviser makes investment recommendations which are in the best interest of the client. Salesmen sell products to generate income for themselves.

As a firm we have never recommended any client invest in an agribusiness project. Never have, never will!


Stick To Your Knitting!

Investor nerves have been sorely tested over the past 2 years. If you saw the crash coming, and few people did, and you switched to cash beforehand you would be on a winner.

But if the crash has occurred already real caution is what is required.

Despite investors generally acknowledging that investment and superannuation is a long term business, many feared the worst and switched out of their investments into cash at the worst of times.

For example if your superannuation was invested in a ‘growth’ option with significant exposure to the share market and in March 2009 you switched to cash you would have done some significant damage to your retirement savings.

Why you ask? Well the ASX200 Index which measures the Australian Share Market hit a low of 3150 in March 2009.

This was after it peaked in November 2007 at 6800.

The market has rallied very strongly since March 2009 and currently sits at 4735 at the time of going to press.

So if you had superannuation of $300,000 in March and you got nervous and switched to cash you would have cost yourself $150,000 or 50% in value. That’s the effect of the market rally from 3150 to 4735.

Remember if you stay in cash and the market continues to rally the damage will increase significantly more.

For those who have weathered the storm and your portfolio and/or superannuation is recovering, stick to your knitting – that is, stick to your long term plan.

Sure reassess your investment selections, reassess your superannuation provider but just remember that switching to cash at the wrong time is not the most conservative thing to do, often it is a very risky thing to do.

If your not sure what to do with your investments or superannuation, feel free to come in and ask one of our advisers.


Listed Property Trust – Is It Time Yet?

Talk of Recession, Depression and Armageddon were abound over the past 2 years.

This occurred as both the share market and the property market were both in decline simultaneously.

That’s what causes a Recession.

From the table below you can see the returns of the listed property trust sector.

June 2009 Property Fund Returns1 Year3 Year5 Year
Westfield Group-24.7%-7.5%-0.9%
Stockland Trust Group-30.4%-15.5%-1.5%
CFS Retailed Property Trust-4.6%2.1%10.0%
Dexus Property -37.3%-12.4%N/A
GPT Group -70.7%-44.4%-24.7%
Mirvac Group -57.3%-30.7%-17.1%
Goodman Group -86.0%-56.7%-28.4%
Abacus Property Group -61.2%-30.7%-12.0%
Badcock & Brown Japan -40.7%-29.9%N/A
Valad Property Group -8.9%-59.5%-35.1%
Centro Retail Group -67.4%-57.9%N/A
Macquarie DDR Trust -67.5%-47.6%-28.5%
Commonwealth Property Office Fund -26.6%-9.5%0.08%
Macquarie Office Trust -69.5%-41.0%-22.1%
ING Office Trust -49.9%-22.2%-8.00%
ING Industrial Trust -83.0%-48.2%-27.6%

From the table you can see that generally speaking this sector has done worse than the equities market, and the pain has been coming for over 5 years. So are things about to turn?

We think so and while we think there is no rush we intend to increase our property trust exposure over the coming 12 months.


Self Managed Superannuation Funds

We have advised on Self Managed Superannuation Funds (SMSF’s) or D.I.Y. funds since 1994. People tend to be attracted to this type of superannuation structure when they want a little more control over their retirement nest egg. People set these structures up to actively manage their own investments but the majority enlist the help of an adviser.

For our clients we run a model portfolio with the help of UBS which is based on quality blue chip shares. We take a long term view and we do not trade the portfolio unnecessarily. A typical portfolio may look like this:

57.5%Australian Shares
Banking Sector – 28%
Commonwealth Bank $16,000
Westpac Bank $16,000
 Resources – 24.5%
BHP Billiton $18,000
Rio Tinto $10,000
Energy – 10.5%
Origin Energy $12,000
Financials – 8.5%
AXA Australia $10,000
 Telecommunications – 8.5%
Retail & Consumer – 13%
Infrastructure & Utilities – 7%
AGL Energy$8,000
15%International Shares
Platinum International$30,000
12.5%Fixed Interest
 Commonwealth Bank Term Deposit$25,000
 100%Total $200,000

Portfolio’s range in size from $200,000 to several million dollars. Major advantages of a SMSF include:

Control – of underlying investments

Transparency – you can see exactly where your money is invested

Costs – can be clearly identified as there are no hidden commissions

Flexibility of Investment Choice – you can invest 100% of your money in a term deposit or 100% in a property or you can have a balanced or diversified portfolio as illustrated above.

Portability – you can change adviser should you wish to without having to transfer your funds onto a new master fund platform or wrap account

Exit – there are no exit fees should you wish to sell and withdraw your funds (brokerage may apply)

Managed Funds – can be avoided as can their associated costs

Personal – your portfolio can be tailored to your own individual circumstances. It is not one size fits all.

Taxation – can be managed and minimised based on your own circumstances. For example a decision to sell an investment which has appreciated significantly could be delayed until a pension is commenced and hence avoid the incidence of capital gains tax within the Fund.

Estate Planning – if there are two members of the fund and one passes away a death benefit pension can be paid to the surviving spouse tax effectively.

Gearing – It is now possible to borrow within a superannuation fund and so if you had a fund balance of say $150,000 you could borrow $300,000 and purchase a rental property whether residential or commercial.

Partnerships – A SMSF could enter into a partnership with the members of the fund. For example Mr & Mrs Smith’s SMSF could own 40% of a property while Mr & Mrs Smith own the other 60%. Mr & Mrs Smith’s interest could be geared should they have alternative security available separate to the jointly held investment property. It is not uncommon for two families with an SMSF to enter into a partnership and invest in a property jointly.

Growth – There are currently 403,000 SMSF’s in Australia and some 2,000-2,500 being set up per month. It is the fastest growing sector of the superannuation market.


Platinum Name – Platinum Result!

Platinum Asset Management commenced operations in February 1994. The team at Platinum previously had operated the International Managed Fund for Bankers Trust (BT) for a decade with outstanding success.

But in 1994 they thought they would start their own organisation.

Platinum do not invest in Australia. They take funds from investors and invest them overseas.

The returns of their flagship fund the Platinum International Fund are below:

1 Year3 Year5 YearSince Inception
Platinum International Fund18.2%1.7% p.a.5.6% p.a.14.3% p.a.
MCSI World Index-16.1%-9.6% p.a.-1.7% p.a.3.8% p.a.

The table illustrates that Platinum returned an extraordinary 18.2% for the year to June 30, 2009.

This compares with the weighted average of the world’s share market or MCSI World Index of a negative 16.1%.

That is an extraordinary return of 34.3% above the relevant index. So what you may say? Well have a look at Platinum’s peers and judge for yourself.

Fund Manager1 Year3 Year5 Year
Goldman Sachs-15.7%-9.0%-2.3%

The moral to this story is simple. Fund managers are not all the same. Interestingly, we have been recommending Platinum since 1994 as we followed the team across from BT. More interestingly, is that Platinum has not and does not pay trail commission to financial advisers.

And if your thinking these guys just got lucky have a look at some of their other Funds’ performance:

Fund1 Year3 Year5 Year
Asia Fund10.3%9.4%19.9%
European Fund-5.8%-5.4%2.0%
Japan Fund30.8%-3.0%4.7%
International Brands Fund11.0%-1.2%8.2%
International Health Care Fund3.0%-4.2%-0.8%
International Technology Fund23.4%1.9%3.3%


Adviser Commissions – Hot Topic

A lot has been said in the press about adviser commissions of late.

Given the global financial crisis (GFC) as well as the demise of many companies and investment products questions need to be asked understandably.

Here at Level One we generally do not receive commissions. Over 80% of all of our income comes from fees we charge our clients directly.

That is, a product provider does not send us a cheque in the post. This is very important. It is important because when a member of the public seeks some financial advice they need to understand how the person they approach for help is being remunerated and how that remuneration structure may differ within the industry.

Remuneration Structure A

Typically in the industry, funds are invested and managed via a masterfund (or wrap account).

A masterfund is like a big funnel which allows many investors to invest in a large variety of managed funds.

The masterfund software platform manages the name and address of each client the amount invested in each underlying managed fund and the income attributable thereto.

The masterfund also pays a commission from each managed fund to the adviser. Each managed fund allows different commission levels.

So when you go and see a financial planner who recommends a masterfund (or wrap account) he will receive an ongoing commission from each underlying fund manager.

If the financial planner is employed by or related to the masterfund provider or underlying managed funds the remuneration received can often be increased by recommending ‘in-house’ products.

For example a Colonial financial planner will recommend his client use the Colonial masterfund and no doubt will select the underlying Colonial managed funds.

This will maximise the financial adviser’s remuneration and keep the boss (Colonial) happy.

In addition the remuneration is usually taken out of the investment returns and while it should be legally disclosed it is often difficult for the investor to identify clearly.

Remuneration Structure B

The financial planner is not tied, employed or related to a masterfund or managed fund provider.

The financial planner invests client monies in whatever products or investments they deem appropriate for the client and charge the client accordingly.

So if the planner recommends product A or product B the level of income is the same to the adviser and the adviser is not swayed by employment or financial relationships.

The remuneration to the adviser is transparent because you pay the adviser direct.

So you can see from this simple analysis that if you seek advice from a financial planner you have a lot better chance of receiving “independent” advice from an adviser utilising the “B” remuneration structure.

Of course there is no guarantee that because the advice is independent that it is better, but it is a start.

If you are not sure about your financial adviser’s remuneration structure, we suggest you ask.

You will be glad to know that a government enquiry is currently looking into how advisers are remunerated and we suspect that there will be some definite changes. At Level One we try to avoid the receipt of commissions wherever possible and charge our clients direct. Unfortunately it is not always possible.

Either way, full disclosure is of paramount importance to us.


Margin Lending and Storm Financial Crisis

Storm Financial started operations in Townsville as a two adviser operation.

They collapsed having offices all over the country and some 13,000 clients with $4.6 Billion of funds under management.

Storm were into margin lending.

A typical client would be encouraged to borrow against their house. If the house was worth $600,000 they would suggest a loan of $400,000.

Then a “margin lending loan of $600,000” was recommended. The $600,000 would be secured by the $1,000,000 investment portfolio they now had.

Then as the market rallied and the portfolio grew so did the margin lending.

When the portfolio grew to $1.3 million in value while the share market soared an additional margin lending loan of $180,000 (60%) was recommended.

This process continued year in year out.

Remember that the 4 years to June 2007 the share market grew by over 20% each and every year.

Clients obviously thought this was great – they were making money.

But two important factors were never fully considered.

Factor 1: Clients were inexperienced in this type of investing and they were not told that these types of returns were absolutely extraordinary and not typical if you look over the past 50 years.

Accordingly they were not warned of the dangers of market corrections or crashes or the size that those corrections or crashes can be.

If they had been told they would have been alerted to the massive risks they were taking with their entire financial position and future. Imagine the devastation when the market crashes 53% and you still owe all the debt?

Factor 2: The fees Storm were charging were also by all accounts very nice indeed.

Reports of 5-8% upfront and 1-2% per annum ongoing.

So on our above example the advisor got lets say only 5% upfront.

That is $50,000. What a nice little earner that is!

Ongoing fees of say $15,000 per annum if we assume 1.5% per annum.

Then on each and every top up of say $180,000 there is another $9,000 upfront and an additional $2,700 per annum in ongoing fees.

Over a relatively short space of time the adviser gets about $100,000 in fees from just one client.

Its good work if you can get it. You just need no morals or ethics and have no concern for the massive risk associated there with.

It is organisations like Storm that give the industry a bad name and why the government is so red hot on trying to clean up certain sectors of the industry.

Borrowing money to invest whether in property or shares is best commenced when the markets are down. Not when the markets are booming.

After all now is the time in the cycle – when things are down – that you can invest for the long term with minimal risk.

That’s what we like – investments with minimal risk.


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