Mary's Money column appears in the
Business section in the Weekend Herald.
NZ Herald February 11 2006
Q&As: Couple should spend less?
Wealth isn't always money.
How last week's correspondent made his millions.
Making extra payments on fixed mortgages without penalties.
Question: In your January 21 response to the couple in their late 50s who were struggling to meet their commitments, you suggested they re-negotiate their current mortgage.
It truly amazes me that you didn't mention cutting back on expenses. Any couple who cannot live comfortably on $80,000 to $90,000 a year is obviously living the high life!
Perhaps the couple may find it below them to cut back, that they have worked hard and earned the right to live the life they are, and that is perfectly acceptable, and is their decision to make.
But isn't it worth suggesting - especially given that our Reserve Bank is constantly telling us that the nation's debt is at dangerously high levels?
It is amazing how much money you can free up if you bring your lunch to work instead of buying, cut back on the number of coffees you buy per week, eat out once a week instead of twice, catch the bus to work instead of driving and paying for parking, etc etc.
Answer: It's risky to leap to conclusions about other people's spending. Who knows what dependants, expensive health problems or other non-frivolous expenses they might have?
But if you're right, and they are high lifers, then you make a good point. A little prudence can go a long way.
Question: I always enjoy reading your column in the Herald, even though we're pensioners of modest means and certainly not wealthy enough to experiment with the stock market.
Sometimes I've been a bit envious of your inquirers when they can't decide what to do with their big heap of surplus money, but today I feel very very rich indeed!
I've just been reading, in the January 21 column, about the person who has two homes worth over a million dollars, a flourishing business, a modest mortgage and money in the bank, yet he/she is having difficulty making ends meet.
Answer: I'm assuming you are feeling rich because you don't need lots of money to be happy. That beats envy any day. Good on you.
Question: Your first correspondent of last weekend (the guy/girl who claimed s/he had built a $3 million diversified portfolio since 1999) was being as disingenuous as some property investors are.
Clearly, s/he either started with a massive sum, or has added massive sums since (perhaps from an enormous salary, or from an inheritance), or has taken ridiculous risks, or has been phenomenally lucky.
Whatever the case, your correspondent's anecdotes consequently have little relevance to the average Kiwi saving for his or her retirement.
The general public is not well served by this sort of hyperbole (or equivalent hyperbole from property investors). Such anecdotes may make the teller feel good (assuming they are true), but they do nothing to educate the general public. Indeed, they are damaging, because they create unrealistic expectations.
As you well know, no reasonably safe investment scheme (whether property or share based) is going to perform at breakneck speed over the long haul in a low inflation environment, and I think the sooner people accepted that, the sooner they would start saving, and the more mature and prudent their approach to investment would be.
Answer: You are one of several who questioned our correspondent's numbers, so I got back to him.
His response: "I have a high income, and large borrowings, which have enabled me to achieve a large portfolio in a short time frame."
From his income, he has invested $721,000 over the seven years. He has also borrowed to invest $1.65 million, in the form of mortgages and margin loans (loans using shares as security).
All of that has generated capital gains on shares and property of another $1.129 million. That brings the total to $3.5 million.
When I suggested that perhaps he shouldn't count the borrowed money - and instead use the net value, which is assets minus debts - he said that property investors often tell you the value of their holdings without subtracting the mortgages.
True. But I would rather see everyone use a net figure when valuing any portfolio.
That aside, he has still accumulated close to $2 million. How? The markets have generally been good in the period, and whenever that happens and you invest not only your own money but also borrowed money, you do even better.
Of course the reverse happens if markets fall. Those who have borrowed to invest do worse in a decline, and can even end up bankrupt.
I'm assuming, given that our man works in the finance industry, that he will cope in a downturn. But I certainly wouldn't suggest that others with less knowledge copy his borrowing. His is a high-risk high-return situation.
Nevertheless, there are lessons for ordinary people in his experience.
As he says, "The point I was trying to make was regardless of the amount one has to invest, you should invest to get the best risk-adjusted return. The difference between earning say 6 per cent in term deposits and 9 per cent in a share/property portfolio is large over a long period of time."
Quite right. If you invest $100 a month for 15 years at 6 per cent, you'll have about $28,700. At 9 per cent, you'll have $36,700.
And over 30 years, the difference is even bigger. At 6 per cent your savings would grow to $97,500. At 9 per cent the total would be $170,200 - heading towards twice as much.
The trick is to stay in the investment for 15 or 30 years, even when the markets fall.
(Note, by the way, that saving for twice as long gives you way more than twice as much money.)
Our man goes on to say that his "philosophy" is to create a budget and invest a set amount each month by direct debit. He invests in various types of assets, and regularly rebalances so that he doesn't end up with more than he wants of one asset and less of another, because of market movements.
He adds, "Don't expect unrealistic returns. My aim is an 8 per cent return, after tax." Sounds like something today's correspondent would agree with.
Likewise: "The more you diversify the more you decrease the chance of a large loss. However, if you include enough growth assets in your portfolio you should not reduce the expected return too much;"
Sounds good to me - and certainly something people of average income would do well to take on board, as long as they have at least ten years in hand before they want to spend the money.
Question: Mary, in response to your column about paying off a fixed interest mortgage faster, I was able to increase my payments by $50 per fortnight.
The bank only charged a $100 admin fees to do this. The result was almost 5 years off the term of the loan. Therefore the penalties need not be large.
Answer: True - especially when interest rates have been rising, so the banks are keen to get your money back to lend out to someone else at a higher rate.
But it sounds as if you benefited from a common policy that applies whatever has happened to interest rates.
Many banks, including ANZ, BNZ (on most mortgages), Kiwibank and National generally allow you to make extra repayments on fixed loans of up to 5 per cent a year without penalty - although ANZ has a $10,000-a-year limit.
In some cases, you can pay the extra as a lump sum. In others, you must add the extra money to each regular payment. And different banks apply the percentage to different amounts - for example your original balance or your current balance.
ASB and BankDirect have a different limit. You can repay up to $500 more a fortnight or $1000 a month without penalty, as long as you stick with that increase for the rest of the fixed rate term.
Westpac allows you to increase your regular payments by up to 20 per cent.
Some banks charge an administration fee for changing your mortgage payments; others don't.
If you can manage somewhat larger mortgage payments, check your lender's policy. As you point out, quite a small increase in repayments can considerably reduce the term of the mortgage, and slash total interest payments. It's a great way to increase your wealth.
* Mary Holm's advice is of a general nature, and she is not responsible for any loss that any reader may suffer from following her advice. Send questions to firstname.lastname@example.org or Money Column, Business Herald, PO Box 32, Auckland. Letters should not exceed 200 words. We won't publish your name. Please provide a (preferably daytime) phone number. Sorry, but Mary cannot answer all questions, correspond directly with readers, or give financial advice.