NZ Herald 6 August 2022

AThere’s a life insurance imbalance in New Zealand.

The experts say too many people — often younger — don’t have life and disability insurance who really need it. When someone with dependants dies, the last thing their family needs is money worries as well as grief.

But it’s common to hear about people with more of this insurance than they need as they get older. You two sit firmly in that group.

The question to ask is: If I die today, will my partner and any dependants manage financially? Your KiwiSaver balances should be available fairly quickly, and the managed funds should take care of expenses in the meantime.

So your plan looks good. And in future, not only will your KiwiSaver balances probably grow but your mortgage balance will reduce. You can review your situation regularly, reducing your insurance cover as you go.

AI have no argument with your final point, that high returns after fees are what matter. The trouble is we have no way of knowing which fund will produce the highest returns in future.

The difference between last week’s data from Smart Investor and your Morningstar numbers is probably because the periods and fee inclusions are different. Let’s not worry about that. Both sources show:

• The ANZ Growth Fund has performed better than the ASB Growth Fund over the last ten years.
• The ASB Growth Fund charges lower fees.

Despite what you say, I have never said lower-fee funds always perform best in each category. Of course they don’t! In any period, a few high-fee actively managed funds will probably be the stars.

But will they keep shining? A fund’s past good performance almost certainly contains an element of luck. Even if the fund managers are particularly good at choosing investments, how do you know they haven’t been hired away by another provider? The stars suddenly fall from the sky.

Meanwhile, the low-fee index funds chug away, with average performances because they are following market indexes. And because their fees are lower, they do better than average after fees. Long-term, they’re a better bet. I stick with low-fee index funds, and have done, happily, since the 1970s.

By the way, did you read at the end of last week’s Q&A the quote from none other than your source: Morningstar. In a nutshell, they say don’t choose by returns, but by low fees.

AYou remembered it wrongly. The investment won’t be reduced by about one third, but by almost two thirds!

Thanks for telling me about this documentary. It originally aired in 2013, but that doesn’t matter. The main points will always apply.

The doco is about mutual funds, which are much the same as KiwiSaver and non-KiwiSaver managed funds. And they talk about 401k plans, which are basically the same as KiwiSaver.

The example you refer to is of lump sum savings over 50 years earning a 7 per cent return. Let’s say you start with $100,000. If there were no fees, at the end it would total almost $3 million. But if a 2 per cent fee reduces the return to 5 per cent, the total would be about $1.15 million. Gulp.

If might be fairer to look at a regular savings plan of, say, $400 a month over 50 years. At 7 per cent it would total nearly $2.192 million. At 5 per cent it would total nearly $1.072 million, which is still less than half.

Let’s apply this to the difference between ANZ’s 1.05 per cent fee and ASB’s 0.70 per cent fee in the above Q&A.

If the two funds have the same average return of, say, 6 per cent before fees, and total contributions are $400 a month, after 50 years in ANZ you would have $1.054 million. In ASB you would have $1.189 million — or $136,000 more to play with in retirement.

Different online calculators will give slightly different results, because of assumptions about compounding. And I haven’t allowed for rising contributions over time. Regardless, the basic message is: over long periods, higher fees make a big difference.

The PBS documentary looks at the data over different time periods, in bull (rising) and bear (falling) markets, and concludes that low-fee index funds work better than higher-fee actively managed funds. The previous correspondent might want to check it out.

AYou’re referring to a Q&A last week about whether New Zealanders should move from our Big Four banks — the Aussie-owned ANZ, ASB, BNZ and Westpac — to locally owned banks.

You’re correct, of course, that while a chunk of the big banks’ profits go offshore, the jobs are local. But if lots of Kiwis moved their banking to NZ-owned banks, probably as many jobs would open up there as would close down in the big banks.

While people might not want to change jobs, it can be a good opportunity to learn new skills or gain a promotion. And it’s easier to ask for a pay rise when you shift jobs.

AI’m not an expert in this, so I turned to someone who is. Geof Mortlock, formerly of the Reserve Bank, is an international financial consultant who does work for the International Monetary Fund, the World Bank and others.

“The establishment of deposit insurance in New Zealand is well overdue,” says Mortlock. “New Zealand is the only advanced economy, and one of only two OECD economies, without a deposit insurance scheme.

“Its absence has been one of the substantial deficiencies in our financial stability framework. The government’s initiative to introduce a deposit insurance scheme is therefore a welcome development.”

He doesn’t share your concerns. The scheme “will be funded by regular levies on banks and deposit-takers. If, in a bank/deposit-taker failure situation, the deposit insurance scheme has insufficient funds, there will be scope for supplementary funding from the government, but with the scope for this to be repaid through recoveries from the assets of the failed financial institution and, if necessary, ex post levies on banks/deposit-takers.

“Depositors with large amounts of deposits will still have strong incentives to take care where they invest their money.

“The deposit insurance scheme will not be paid for by the taxpayer, but by banks (and implicitly by bank customers). If further incentives are needed for higher-risk banks/deposit-takers to manage their risks prudently, this can be done through a combination of prudential regulation by the Reserve Bank and risk-based levies for the deposit insurance scheme.” In other words, riskier institutions would pay more.

Mortlock adds, “The existence of a robust and credible deposit insurance scheme helps to promote depositors’ confidence that their funds are protected in the (relatively rare) event of a bank or non-bank deposit-taker failure. It therefore reduces the risk of pre-emptive depositor runs on banks and other deposit-takers in periods of financial system fragility.

“In a bank/deposit-taker failure, deposit insurance plays an important role in the resolution process by providing depositors with prompt access to their deposits, either by payout or by funding the transfer of protected deposit accounts to another bank/deposit-taker.”

What’s more, he says, “The existence of a deposit protection scheme also helps to reduce the temptation of politicians to undertake a costly taxpayer-funded bail-out of a failing bank; it makes it easier to apply a so-called ‘bail-in’ of larger creditors (and therefore reduces the risk to the taxpayer).”

The proposed scheme “provides protection for depositors for up to $100,000 (on an aggregated deposit basis) per depositor per bank/deposit-taker.” You will be protected as long as all your deposits at one bank total $100,000 or less.

The scheme is expected to start by early 2024. It makes sense to me.