NZ Herald 11 April 2020

AThey say that the four most dangerous words in the financial world are, “This time it’s different.”

People tend to think, when markets are rising or falling particularly fast, that the usual braking won’t happen. But if you look back, it always does. The tech boom that people said would “go on forever” collapsed. The global financial crisis that was “unlike anything before, and unstoppable” stopped.

True, this Covid-19 market downturn seems “extra different”, with governments giving priority to health over economics — and rightly so. And I’m not denying there will be big job losses.

But I define the long run as ten years or more. And no expert is saying that it will be anything like a decade before we’re back buying goods and services from most current companies — as well as some new ones.

Even the Great Depression of the early 1930s lasted only a few years, and economists know so much more now about how to avoid prolonged downturns.

I’m not saying this is not a big deal. Just that it’s not the end of the financial world as we know it.

But you’re a lot more confident than I am about one thing — your ability to forecast that shares will decline for months not weeks. I really don’t know.

Share prices don’t fall and rise with economies, they fall and rise with people’s expectations of what economies will do in the near future.

If the professionals who do most of the share trading — the people who run KiwiSaver funds and the like — think companies will perform badly in the months to come, they sell those shares now. That’s what happened in late February and early March.

But since March 23, enough people have apparently thought that investors over-reacted, and have started buying again, as our graph shows. As I write, the NZX50 index has regained more than 40 per cent of what it lost from late February to late March — something I think a lot of people don’t realise.

Of course by the time you read this, the NZ market might have turned downwards again. Who knows?

In any case, I disagree that most people should at this stage move their retirement money to cash.

You’re right that that would minimise further losses. And I’ve always said that people who can’t bear the thought of their savings balance dropping should stay in cash or the lowest-risk defensive funds.

But they pay a pretty big price for that security. Over periods of ten years or more, people in higher-risk funds almost always end up with more, usually much more.

The other factor in risk choice is when you plan to spend your savings.

Money that you expect to spend in the next few years should have been in low risk already. If it’s not, move it gradually. And spending money for three to ten years should be in a bond fund or balanced fund.

But if you have ten years or more to go, I still say stick with a higher-risk fund if you can tolerate volatility. If you’re not sure about that in the current climate, try putting at least some of the money in higher risk and watch how you cope with the ups and downs.

House prices are a different issue. All the experts seem to think they will fall a bit, although nobody I’ve read is predicting a drop of more than 10 per cent. So it’s probably not a bad idea for would-be new homeowners to wait a while.

But with house purchases there are usually other factors to consider — buying before a baby is born, wanting to establish a garden, no longer wanting a landlord to control your life, and so on.

As I said three weeks ago, people with strong job security and financial backups who are keen to buy might be able to bargain hard in the current environment — once we are free to again walk through houses for sale.

Don’t get stuck on buying at the bottom of a house price dip that nobody can pick anyway. Get on with your life.

By the way, you write of years of stagnant “real” — or inflation-adjusted — incomes. Not so. According to the Reserve Bank’s inflation calculator, over the last ten years inflation was 17 per cent while wages grew 30 per cent. Over the last two years, inflation was 3.8 per cent while wages grew 6.9 per cent.

AProbably yes. As I said above, economists are predicting a fall in property prices, so get in now.

Just as importantly, you have other reasons for selling now. This is a good example of the family factors I was talking about when it comes to property buying and selling.

Don’t rush to sell, though. You’re likely to get a lower price if you feel under pressure. If your offspring need urgent financial support, you may have savings you can lend them in the meantime, knowing the subdivision proceeds will come eventually.

AGood point. In my reply last week I should have taken more note of the mother’s apparent nervousness about the drop in her KiwiSaver balance.

I think and hope, though, that she and many others in KiwiSaver who have never seen much of a downturn before will try to get braver, and park at least some of their savings in higher risk.

AI’m not totally convinced.

In the column two weeks ago I said "absolutely not" to someone who has $500,000 in bank term deposits that he can’t afford to lose. He was worried that banks might be about to collapse. Hardly a gold investor! But is it a bright idea for others?

While your numbers look roughly right at first glance, I’ve got several issues:

You acknowledge that you’ve been lucky with the period you chose, in that gold rallied recently and the Kiwi dollar has fallen.

But there’s more to it than that. The particular pattern of prices suits you well. You’re drip feeding money in and buying gold cheaply early in the period, and then valuing it at a high price at the end. If, instead, you had invested the whole lot in early 2013, you would be losing now, as our graph shows. And what if you had put the lot in at the 2011 peak?

And you underplay the big drop in the exchange rate between the New Zealand and US dollars over the period — from about 80 to 60 cents. That greatly affected your results. In any future period, the opposite could occur.

Also:

• You ignore dividends, which is like ignoring rent when you look at a property investment. And it makes a particularly big difference when we’re looking at NZ shares, which tend to pay higher dividends than in other countries.
• You ignore tax, which favours NZ shares over gold. A tax expert tells me that after taking dividends and tax into account, we should add $35,000 to the shares and subtract $30,000 from the gold.
• You ignore fees. These can be low for shares if you use an ETF (exchange traded fund) or index fund. For gold, either you have to pay for storage or you invest in a gold ETF and the manager has to pay for storage — a fee that is typically 1 per cent.

By the time we adjust for all that, NZ shares beat gold over the period. And that’s over a particularly strong period for gold!

Another problem with gold is that you don’t receive any ongoing income — like interest, dividends or rent. You have to come up with other money to pay your tax.

Gold is particularly favoured by some people in unsettling times. They make comments like yours, that it will always have value — whatever happens to a government or an economy.

That’s true, but if you put the bulk of your savings in gold and later need to turn it into spending money, it will be worth only what somebody else wants to pay for it at that time. It’s quite a gamble.

What if you put just your suggested 10 or 20 per cent of your investments in gold? That does give you some diversification, but it’s not going to make that much difference if the rest of your savings either plummet or soar.

If holding some gold helps you sleep at night, go for it. But it’s not for the nervous March 28 correspondent, and I think I’ll give it a miss!

AFirst we’ll set the scene. Last December the government said the deposit insurance scheme was not expected to be in effect until 2023 at the earliest.

But in last weekend’s Herald, Reserve Bank Governor Adrian Orr told Liam Dann that work is being accelerated on deposit protection, so it might happen sooner.

In the meantime, we’re operating under Open Bank Resolution, or OBR. This means that if a bank fails, a portion of all accounts would be frozen, and you may not get all that money back later. But the bank would stay open, and a “de minimus” amount in each transaction account would not be frozen, so everyone could continue their day-to-day banking.

Okay, let’s look at your questions. Finance Minister Grant Robertson said in December that “deposits will be insured up to a limit of $50,000 per depositor, per institution.” So all your deposits would be treated “en masse” as you put it.

Robertson added, “This limit would fully cover the vast majority of depositors, thought to be 90 per cent or more.” But not you, with your total deposits easily exceeding $50,000.

However, he said, “depositors could obtain coverage for more than $50,000 by splitting their savings across accounts held at different deposit-taking institutions.” So yes, it would be wise to spread your money around.

The same advice applies under the current OBR scheme. If a bank fails, “the same proportion of funds is frozen for someone with five $10,000 TDs and someone with one $50,000 TD,” says a Reserve Bank spokesperson. But it would be different if you were in lots of different banks, which won’t all fail at once.

On your third question, the spokesperson says, “The Reserve Bank has implemented a number of measures to support the New Zealand economy and ensure the financial system is functioning well during these testing and uncertain times.

“The Large Scale Asset Purchases (LSAP) programme will buy up to $30 billion of New Zealand Government bonds in the secondary market over a 12-month period. Also known as Quantitative Easing or QE, the programme will lower borrowing costs for households and businesses and inject money into the economy and build confidence.”

On your inflation and deflation worries, he says that QE “is designed to help meet our monetary policy objectives of low and stable inflation and supporting full employment. The Reserve Bank will closely monitor the programme, and modify it as needed.”

“There appears little risk of hyperinflation given the sharp fall in economic activity due to coronavirus, while the initiatives announced by the Reserve Bank and Government will mitigate deflation impacts and help support the economy, prices and jobs.”

I hope that’s comforting.

AYou’re right that if you move your savings beyond the big four banks you’ll be, for the most part, in institutions with lower credit ratings.

For information on this, go to the Bank Financial Strength Dashboard on the Reserve Bank website.

Among other things, it lists the New Zealand banks’ credit ratings from three agencies. Their findings vary:

• S&P gives our big four banks — ANZ, ASB, BNZ and Westpac — the highest New Zealand ratings, followed by Kiwibank and Rabobank. Other banks, including the Co-operative Bank, Heartland, SBS and TSB, are not rated.
• Fitch gives Kiwibank a higher rating than the big four. Below them comes TSB, and below that Co-operative, Heartland and SBS on the same rating.
• Moody’s gives equal ratings to Kiwibank and the big four. It doesn’t rate the others.

Over all, Kiwibank seems to be up there with the big players. Beyond that, it’s up to you whether you want to take a bit more risk with some of the smaller banks.

Keep in mind, though, that Orr said in last weekend’s paper, “People just have to know that we are sitting here with the best banking system in the world.” Orr’s credibility is at stake here. He wouldn’t say that if he was worried about New Zealand banks’ viability.

If you disagree, though, you can indeed move money to an Australian bank. That will bring with it complications with tax, foreign exchange rates and perhaps inheritance issues. I wouldn’t bother, but I’m not saying you shouldn’t.

AYou and several others who have written assume the $50,000 bank deposit insurance is in place. It’s not yet. See above.

Anyway, on to your question. In ordinary times, holding money in bank term deposits while also having a mortgage doesn’t make a lot of sense — apart from having emergency money.

If you pay off a mortgage, that’s the equivalent of earning the mortgage interest rate, after fees and taxes, on that money. In your case the mortgage interest would be tax deductible, because it’s an investment property. But still you would probably do better paying it down than investing in bank term deposits, which are of course taxed.

What’s more, you’re nervous about the current environment. That strengthens the argument. So yes, pay off that mortgage.