Paul's Insights: Where do I invest?
If you’ve put together a diversified portfolio of investments, I would hope you’ve made a deliberate decision about how your assets are spread. The technical term for this is ‘asset allocation’.
The first issue to consider in deciding where to invest, is your age and your attitude to risk.
I don’t buy into the view that because I’m in my 60s I’ve got to be 100% invested in cash. Australians have an average life expectancy of 82, and a 60-something investor like me will hopefully have two or more decades of life ahead, which I is why I’m still a long term investor. Besides, with returns of around 2%, I struggle with term deposits.
I’m highly into Australian equities because the yield is good. A solid chunk of my portfolio is invested in super, which is taxed at 15%. And the franking credits on shares help to wash out any tax paid within my super.
That said, I don’t want to be in a position where I have to sell quality assets in a down year. So I hold enough cash for myself and my wife Vicki to survive for two years. The rest I pretty much invest in growth assets including overseas investments and infrastructure assets.
What I’m not interested in, is the pain of a permanent capital loss. The opportunity to earn a big gain just isn’t as rewarding for me these days as the concern of long term losses. One of the ways I manage this risk is by regularly rebalancing my portfolio.
Unless your attitude to risk has changed, you should aim to rebalance back to your preferred portfolio mix at least twice a year. Yes, it can mean paying switching fees and in some cases, capital gains tax, but rebalancing has the added appeal of enforced discipline. It counteracts our desire to be greedy, or fearful, by forcing us to sell when assets are expensive and buy when they are cheap.
How does it work? Well, let’s say you want to have one-third of your portfolio invested in Australian shares, and you’ll rebalance if this falls or rises by 2%. If your shareholdings rise in value to be 32% of your portfolio, you inevitably sell when shares are expensive. If the shareholdings fall to 28% of your portfolio and you top up your portfolio, by definition you’ll buy when shares are cheap. It’s a simple discipline but believe me it works.
Paul Clitheroe is Chairman of InvestSMART, Chairman of the Australian Government Financial Literacy Board and chief commentator for Money Magazine.
Frequently Asked Questions about this Article…
Asset allocation refers to the way you spread your investments across different asset classes, such as stocks, bonds, and cash. It's important because it helps manage risk and can influence your investment returns. A well-thought-out asset allocation strategy considers your age, risk tolerance, and financial goals.
Your age can significantly impact your investment strategy. For example, younger investors might take on more risk for potentially higher returns, while older investors might focus on preserving capital. However, even in your 60s, you might still consider long-term investments, as life expectancy is increasing.
Investors might choose Australian equities because they offer good yields and the potential for franking credits, which can reduce the tax paid on dividends. This can be particularly beneficial for those investing through superannuation, where tax rates are lower.
Holding cash in your investment portfolio provides liquidity and security, ensuring you have funds available without needing to sell assets during a market downturn. This can be crucial for covering living expenses and avoiding the sale of quality assets at a loss.
Rebalancing your portfolio helps manage investment risk by maintaining your desired asset allocation. It involves selling assets that have increased in value and buying those that have decreased, enforcing a disciplined approach to buying low and selling high.
Rebalancing a portfolio can incur costs such as switching fees and capital gains tax. However, these costs are often outweighed by the benefits of maintaining a disciplined investment strategy and managing risk effectively.
Long-term investment strategies are important because they allow you to ride out market fluctuations and benefit from compound growth over time. Even as you age, maintaining a long-term perspective can help ensure your investments continue to grow and support your financial goals.
Franking credits can play a significant role in an investment portfolio by reducing the tax burden on dividends received from Australian shares. This is particularly advantageous for investors with superannuation accounts, as it can enhance after-tax returns.
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