When we invest in the share market we like to see our shares increase in value – obviously – but when the market isn’t performing well instead of joining everyone in the doom and gloom, don't forget about dividend income.

In Australia, unlike many other countries, we are fortunate that most of our companies pay an excellent rate of dividend. These usually include credits for tax paid by the company, referred to as “imputation” or “franking” credits. As an example of the benefit, if you deposit your money in one of our major banks’ online savings accounts you will probably receive an interest rate of around 3% per annum. And these rates will follow the movement of interest rates.

If you buy shares in that bank you are likely to receive a dividend in the region of 5-7% per annum. It is even better if the dividend is fully franked, as this would be equivalent to a pre-tax rate of 7-9% per annum. And when a market downturn causes share market prices to fall, most companies continue to pay a steady dividend.

Not all Australian shares are fully franked or have as high a yield as the example above. However, if you look at the average dividend yield for the All Ordinaries Index it is in the region of 4% with an average franking rate of 80%. This can give you a pre-tax return of some 5%.

The moral to this story is when planning your share portfolio don’t focus entirely on the growth aspect – remember the dividends.

For more information, contact us at Leenane Tempelton on 02 4926 2300 or email success@leenanetempleton.com.au

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The end of financial year is a good time to think about your capital gains and losses for the year.

Timing and planning are everything when it comes to minimising your CGT bill and making the most out of your investment returns.

Capital gains tax (CGT) is incurred when a taxpayer disposes of an asset, for example, commercial and residential property, shares, units in unit trusts or collectables. If the asset sells for a price that is higher than the purchase price, the difference is considered to be a capital gain. Where an asset is sold at a loss (for a smaller amount than it was originally purchased), a capital loss is incurred. Capital losses can be used to offset capital gains in a financial year. It is also possible for taxpayers to carry capital losses forward to subsequent years if they do not have capital gains against which they can deduct them at the time.

Here are some strategies to reduce your CGT liability:

Dispose of poorly performing assets before the end of financial year

In years where you have incurred a significant capital gain, you may care to consider disposing of another asset that will yield a capital loss.

In the event that an underperforming asset will not have a positive turn around, disposing of it before the end of financial year will allow you to use the capital loss to offset your tax liability from any capital gains.

Defer disposal to a lower-income year

Instead of disposing of an asset that you expect to make a capital gain on this year, you may care to consider postponing the disposal if you expect to have a lower taxable income next year. For example, you may be planning to take some unpaid leave or have disposed of multiple assets in the current year.

Plan for CGT events in advance

If you are planning on making any new investments or disposing of assets, it always pays to plan your CGT strategy in advance. Careless timing can cost you a huge amount on your tax bill.

Carry forward your capital losses

You can carry forward capital losses from previous years to offset capital gains in the current year. The real offset value of capital losses diminishes, so if you have incurred a significant capital loss you may care to consider bringing forward the sale of an asset that you expect to make a capital gain on.

Our accountants are here and ready to help with any questions you may have regarding capital gains.

Call (02) 4926 2300 or email us.

If you would like to discuss capital gains at end of financial year please do not hesitate to give the team at Leenane Templeton a call.

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The foundations of risk and return – Risk is integral to investing. This can be a frightening thought, but risk shouldn’t necessarily be feared, as without it there is less opportunity for reward. Quite simply, the higher the return you want from your investments over a particular period, the more short-term volatility (or risk) you have to accept in the value of your investments. Granted, if you’re happy to receive the bank deposit rate, you can put all your money in the bank, safe in the knowledge that the account balance will rise a small amount every day. But if you want higher returns, you’ll have to take on more risk and consider other investments, such as shares, fixed income, commodities and property.

Accepting short-term volatility for higher returns

Why do some investments offer higher returns than bank deposits? Each investment has different characteristics and offers varying potential levels of return. For example, a share’s return over a particular period is uncertain as the company’s profits are unpredictable, therefore share owners require a greater return than they would accept from bank deposits. What share investors are implicitly saying is “I want a higher return, but understand that I have to accept volatility in returns over the short term”.

Looking at risk from a longer-term perspective

Risk is the possibility or probability of loss. But if you’re talking about one of those frequent falls in a share price on a particular day, is that really an important loss? Firstly, it’s only a loss if you sell the investment. Secondly, most of the time these ’losses‘ are temporary and prices soon bounce back; this is the usual volatility of the stock market. The reason this is important is that the financial industry has defined an asset’s risk as the extent to which its price fluctuates; in other words, risk is the likelihood of an asset not achieving its long-term expected return over a short period.

Perhaps the risk that you should really care about is the possibility of an asset not achieving its expected return over the long term, rather than over the short term. In the case of equity share, such a situation might arise if the company in question goes out of business. So important risk relates to permanent loss of capital, not day-to-day losses of which the vast majority are temporary.

Instead of thinking of volatility as a risk (and therefore something to be concerned about), think of it as the cost of the longer-term return. And, if you’re able to ignore the fluctuations in the value of your investments from day-to-day and month-to-month, it’s a cost you won’t notice.

Diversification is a fundamental principle of investing

Avoiding permanent loss of capital requires careful analysis of the investment in question. But, if a company does go out of business, you can reduce the impact by having diversified your portfolio across a number of companies and even asset classes. 

For example, a simple multi-asset portfolio could include shares, government bonds, corporate bonds and cash. Given each asset class has its own expected return, they can be combined in different ways to target a particular return. If we assume that bank deposit rates are 0 per cent, the expected return from bonds is 5 per cent, and that from shares is 10 per cent; to aim for a return of 5 per cent, you can either invest the entire portfolio in bonds, or split the portfolio 50/50 between shares and bank deposits (or one of many other possible combinations).

Everyone will have a different attitude to risk and, therefore, the returns they require. By adjusting your combination of investments you can control the level of risk and affect your potential returns. This is known as asset allocation and is essential for effective portfolio management.

Source: Aberdeen-Asset

Call (02) 4926 2300 or email us here at

Leenane Templeton.

Speak to our financial planners to find out more about your investment options and the foundations of risk and return today.

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On top of this, there are other major events that can cause serious problems around the world if they go unchecked.

Examination of the world share markets can help investors decide which events are temporary set-backs to the market upturn, and which are more serious threats to global economic health.

Overview of world share markets

Europe

Events in Cyprus and North Korea have caused a bit of a pause in the market resurgence that started in May 2012. Cyprus was significant, not because of its size but because of precedents set in the European Union's handling of the affair. 

The head of the European Central Bank, Mario Draghi, commented the European Central Bank (ECB) would "do what it takes" to preserve the euro.  It was Draghi's comments that triggered the current market strength, as it was taken to signal a clear commitment by the ECB to preserve the euro.  As a result, markets start to recover from their very depressed level. 

However, events in Cyprus have shaken some of this confidence, after the government initially proposed a measure that would have seen ordinary bank depositors hit with a ‘tax’ on their savings.  It therefore appears to have drawn a very clear line between ‘doing what it takes’ and ‘absolutely anything’ to save the euro. 

While the decision to give rich Cypriot bank depositors a massive haircut was unpalatable, it wasn't that long ago depositors in Icelandic Banks also got a nasty surprise.  A few years later and Iceland is actually looking pretty good.  So it’s possible to draw the conclusion that tough measures, while unpopular in the short-term with the electorate, could in the medium or long-term be in the best interest of the economy and the people.

There is no doubt European countries, with very few exceptions, are struggling to get their economies back on track.  As a region, Europe continues to struggle with high production costs, dodgy bank and state finances and extreme unemployment in southern regions.  Unemployment is so high in troubled southern countries there is a real risk of civil unrest, which hampers the implementation of necessary reform.   Chart A shows the difference in unemployment rates within Europe.

Unemployment Figures in Europe

Chart A – Source: Bloomberg – latest figures available as at May 2013

We’ve already seen the debacle of the Italian election, and this is just the latest example of a trend where politicians who promise anything to reduce the financial hardship of the population, regardless of how unsustainable or impractical the promise, are given power.

How long this kind of situation can continue is unknown, but any sensible evaluation of the situation suggests that at some point, some hard decisions will need to be made, no matter how unpopular. 

North Korea

The rhetoric from North Korea obviously isn't helpful for anyone – least of all North Korea.  Conflict in Asia has the potential to derail the world growth engine of the past few years.  However, even the North Koreans must realise that they have nothing to gain by actually going to war.  

We can assume China would take a dim view of activity that impairs its growth prospects.  While the brinkmanship has stepped up a level, the most likely outcome is this too will blow over.

USA

The US is looking much stronger, as the economy has been swamped with cheap money for some time.  A low exchange rate and low borrowing rates finally appear to be breathing life back into US industry, providing welcome relief on unemployment.  Chart B shows the growth in employment over the past 12 months.

Chart B – Source: United Department of Labor as at March 2013

Recent data coming out of the US, such as housing and employment figures, has been positive and, coupled with low interest rates, suggest the US is well on the road to recovery. 

Japan

Japan is a real outlier.  Recent efforts to reflate the economy have been very well received by equity markets (the Nikkei is up 33.3 per cent in the first four months of 2013), and the collapse of the yen will help recovery.  But let’s face facts: we've been here before.  While policy changes are encouraging there are still plenty of things that can go wrong. 

Impact for Australian investors

Despite these setbacks, equity markets have been performing really well.  The S&P/ASX 300 Accumulation Index of Australian shares is up 7.6 per cent in 2013 to 31 May, and US based S&P 500 is up by over 14.0 per cent, and has exceeded its historic high.

The Australian market as a whole will do okay over the long-term, thanks to the Australia’s access to natural resources. But there is a supply response coming in iron ore production that will lower commodity prices, and this may be a drag on Australian equity markets in the short-term.

While capital works in the resources sector may be near their peak, these projects will ultimately flow through into improved production that will benefit the economy generally, though there may be some painful adjustments. Expect the prices of resources companies to be volatile.

Outside of resources, Australian companies are struggling with a high Australian dollar, and higher interest rates than international peers.  It's hard to see them improving without a radical fall in the Australian dollar.

Factors driving markets

Equity markets are no longer undervalued.  In fact, the Australian market is starting to look pricey.  Nevertheless, we believe equity markets still have a way to go given the very low returns from cash and bonds.

Low interest rates and bond yields effectively determine the price of all assets.  Prospective returns from these assets are currently very low.  Over long periods of time the equity risk premium, loosely defined as the extra return investors expect from equities over bonds, has been stable. 

Therefore, low interest rates ultimately imply higher prices for growth assets, which ultimately flow through to lower prospective returns. It’s fairly easy to justify paying a higher price for equities, property and other investments in this environment. 

In the short-term, this is really positive for markets, as prices are more likely to rise as the price of growth assets adjusts to the lower interest rate environment.  However, in the longer term it means we will all have to get used to lower returns from all asset classes. In other words, we probably will all need to start saving more than we thought to fund retirement.

Investment opportunities worldwide

Investors really wanting to take advantage of opportunities in equity markets should consider international equities as well as Australian equities.  Compared to some international equity markets, the Australian market is relatively restricted in certain sectors.

For example, some of the emerging technologies around 3D printing look really interesting.  3D printing has the potential to automate many production processes, which in due course could restore the competitiveness of a more expensive, labour intensive industry.  Companies at the forefront of this technology could be revolutionary.

Other tech companies, such as those in computing and social networking, are now mature.  But the social change brought about by the revolution in shopping habits is still in its infancy.  

In this new world, companies that have a strong brand will excel.  Consumers that are dealing with faceless vendors over the internet are more likely to buy a trusted brand, given they have little reason to trust the vendor.

Managing opportunities and risks

There are always both opportunities and risks in equity markets. Opportunities take time to play out, and adverse events always seem to be reflected in markets immediately. If investors keep a close eye on their objectives, and make sure their portfolios remain appropriate for their circumstances, they may be more prepared to respond to changes in the market. Among other things, that might mean taking profits as equity values rise – if the portfolio risk is creeping up.

As always, diversify, diversify, diversify.  Almost all investors will benefit from an allocation to growth assets, particularly equities.  Conversely, it’s easy to confuse boundless optimism with delusion.  Even the happiest optimist should make sure an investment portfolio reflects not just attitude, but personal circumstances.

For more information about how you can invest in Australian and international equity markets, speak to the Financial Adviser's here at Leenane Templeton.

Source: Australian Unity, May 2013

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Assets available to an SMSF include property, as well as shares and managed funds – however the usual superannuation rules continue to apply where the fund is purchasing an asset from a related party.

Some SMSF borrowing strategies

There are a number of strategies that enable individuals to take advantage of the rules.

Increasing the asset base.

Contributions rules place a limit on the amount of contributions that may be contributed to a fund. In addition, an investment in the SMSF borrowing arrangement is generally accounted for as net of liabilities. Where members are in a position to contribute assets such as property or shares this has the effect of enhancing SMSF borrowing.

Increased contributions.

Members may be able to transfer assets that they own into a fund, taking advantage of the borrowing rules. Members are then able to act as Trustee of the borrowing trust as well as the lender. The repayments made by the SMSF may then be contributed back into the fund by the member under the normal contribution rules.

Costs of finance

Financial products are readily available by lenders to take advantage of the rules allowing funds to borrow for investing.These products take into account the rules that only allow a loan to be secured against the investment it is funding, not total fund assets.

As a result of the higher risk profile, loans may attract a higher interest rate and require a deposit significantly higher than usually occurs with other standard investment loans. Trustees need to factor these risks and costs into their borrowing strategy.

The loan and the lender

SMSFs are able to use anybody as a lender, that is, they are able to obtain the loan from a bank, or other lending institutions, a member themselves, their business, a family member, company or trust. However while the law does not prevent the lender from being a related party, SMSFs must satisfy the sole purpose test and comply with existing investment restrictions such as those applying to in-house assets and prohibitions on acquiring certain assets from a related party of the fund.

Contact Leenane Templeton's professional staff to discuss how we can help you.

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Exchange traded funds (ETFs) are one of the fastest growing investment instruments in the world because they offer investors a cost effective way to gain exposure to a range of domestic and international asset classes.

This article provides a summary of:

• What an ETF is
• The benefits if investing in ETFs
• How ETFs compare to other investments

Exchange traded funds (ETFs) give investors the combined benefits of managed funds and listed shares in one convenient, liquid and easy to trade investment vehicle.

• ETFs trade on the Australian Securities Exchange (ASX) exactly like shares, giving you the ability to diversify across an asset class in one easy transaction.
• The underlying assets of an ETF are comprised of a diversified portfolio of securities across an asset class which typically track an index.

Why invest in ETFs?

There are 6 good reasons to consider investing in ETFs:

• Instant diversification
ETFs provide you with the ability to diversity across an asset class through the holding of a single security. This broad investment exposure helps you to avoid concentration risk, which can occur if your investment portfolio is not sufficiently diversified across and within asset classes.

• Liquidity
Like shares, ETFs give you the flexibility to buy or sell at any time during market hours – meaning you can respond quickly to take advantage of changes in market conditions. While daily volume is seen as an indicator of liquidity for shares, ETFs benefit from Market Makers providing liquidity.

• Transparency
To ensure transparency, a full list of the underlying holdings of the ETF is provided to the market each day. This list allows you to see the exact nature of the underlying exposure, making it easy to use the ETF to complement other investments in your portfolio.

• Lower cost
ETFs are a cost effective way to gain exposure to a diversified portfolio of securities across an asset class. Since ETFs are typically able to achieve lower operating costs, the management fees can be lower when compared to other forms of managed funds.

• Tax efficiency
ETFs generally have a lower level of portfolio turnover than actively managed funds, usually changing only when there is a rebalance of the index. As a result, ETFs are more tax efficient investments over the long term because they are less likely to generate high levels of realised capital gains. Since primary market investors, such as Market Makers, purchase a large number of ETF units directly from the Issuer and offer the ETFs for sale on the secondary market, the trading of ETFs in the secondary market does not increase portfolio turnover within the ETF and this helps to keep them tax efficient.

• Returns from dividends and capital growth
As the underlying portfolio of assets changes in value, ETF units will change in value. Investors benefit from capital appreciation of the value of the ETF units and may also receive distributions that have been paid by the underlying holdings, such as dividends. Depending on the underlying securities in the ETF, investors will also receive any associated franking credits.

Comparing ETFs to other investments

To meet your investment goals, you may choose a combination of investments in your overall portfolio, including exchange traded funds (ETFs), shares and managed funds. When deciding to invest it is important to understand the features of the various investment types.

How to use ETFs in a portfolio

ETFs can be used in a portfolio to help implement a variety of strategies for different investor types.

Speak with your financial adviser about whether ETFs are right for you.

Source: Russell Investments, March 2012.
 

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The importance of “dividend imputation” – for that’s what the system is called – is that it changed the post tax considerations of investing in favour of Australian shares, especially over cash.

Up until 1987, company earnings paid out as dividends were largely taxed twice. The first time was when companies paid tax on their gross profits (for dividends come from net profits). The second time was when the investors who received the dividends paid tax on this income.

Dividend imputation abolished the double tax whammy on dividends by allowing shareholders to claim a tax credit for some, or all, of the tax an Australian company has paid on its earnings. These tax credits are known as franking credits. Companies that pay all their tax in Australia often offer “fully franked” dividends.

So that low income earners could gain the full benefit of the new tax system for dividends, the Howard government made franking credits refundable in 2000. This means that low income earners can receive franking credits back in cash as part of their tax refund.

The tax law surrounding franking credits carries restrictions and exemptions that may change the tax benefits received for different people. But its mainstream application is significant because other asset classes generally don’t offer such tax effective income streams as Australian shares.

An Australian company, for instance, that offers a fully franked dividend of 5% (its expected dividend payment divided by its share price) is offering a more tax effective income stream than a bank term deposit offering a 5% return. In reality on a pre tax basis, this Australian company is offering a 7% yield for investors on the highest marginal tax rate, versus 5% still for the term deposit.

Dividend Yield

As Australian shares have fallen in recent times, the dividend yield on Australian shares has risen to about 5% overall, and many large stocks offer dividend yield far in excess of the average (see endnotes 1). This dividend yield would carry franking credits in excess of 90%, if the franking credits offered by the typical managed Australian share fund on their distributions is any guide. This means that the effective yield of Australian shares overall is closer to 7%. At the same time, term deposit rates are falling.

The drive behind the introduction of dividend imputation was to encourage investing in shares. It’s still working just as policy makers thought it would a quarter of a century or so ago.

To discuss your share portfolio speak with our Newcastle financial advisors

Endnotes
1 Bloomberg. As at 7 September 2011. Based on the S&P/ASX 200 Index.
Source: FIL Investment Management (Australia)
Limited, September 2011

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