There has been much comment in the media lately concerning the large profits that the banks are reporting. In many ways it is a reflection of investors' own faults in a perceived flight to "safety" because of fear in the markets.
Several prospective investors I have interviewed over the past few months have been fee-resistant to financial advice. The argument has been: why should they pay a fee for advice when they can keep their money in the bank, not pay fees and not increase their risk with a possible loss of capital?
In reality there are quite large fees paid by keeping your money in the bank. Mostly it is an opportunity cost. A lost opportunity to earn a better return.
The average term deposit for six months on the website www.interest.co.nz is about 4.25% for a minimum investment of $5000. The rates do not increase greatly for longer time periods or greater amounts of funds. For example, a three-year term on $10,000 the average from the main banks is 5%.
Where the fees to depositors come in is the margins the banks make on lending and other transactions.
So you have invested at a rate of 4.25%. The bank then takes your money and lends it out at a level of at least 6.45% for a three-year term fixed-rate mortgage. Floating mortgage rates are slightly less at around 6%. So for every dollar invested the bank is making a margin of 1.75%.
That compares very favourably with a managers expense ration (MER) in a managed fund, usually around 1.5%. However, banks generate income from many other sources such as short-term personal loans, overdrafts and credit cards as well as currency dealing.
Unsecured personal loans are about 18% from the main banks. Loans with some form of asset as security are around 10%. Credit card interest rates are still 19%-22%.
Currency dealing makes money on both a fee charged and a margin on the buy and sell bids. The currency rates you see reported in the financial pages of the newspaper are generally the wholesale rates that the banks can buy from other sources.
Then margins are added according to bank policy.
So the point I am trying to make is that do not believe that there is no cost in having your money in the bank. A recent survey from ASB found that term deposits continue to be the most favoured investment as the past six quarterly surveys have shown. This is a direct result of the volatility in world markets.
However, an investor with a term deposit of $10,000 at 4.25% is actually getting a negative return. Over a year $425 after tax at 17.5% is $350.62. Annual inflation was 4.6% as at September 30, 2011. The return on your $10,000 is therefore a true return after tax of -$109.40.
There are many investments earning greater than 4.25% before tax. It is the risk factor that is preventing investors from taking action. Over the past six months since the European debt situation has been causing daily palpitations the New Zealand sharemarket has been quietly ticking along.
For example, Barramundi is returning 11%, Hallensteins 7.9%, Telecom 7.4% and Argosy properties 8.4%. These are but a few examples. There have been some modest gains in share price as well for many shares.
It is worth paying a fee for professional advice. In taking a long-term view, investor returns can be superior to bank deposits despite the fees paid for service.
• Peter Smith is an authorised financial adviser and a certified financial planner and is the principal of Kepler Group Otago Ltd, Dunedin. Email: pete@keplergroup.co.nz. A disclosure statement is available on request and free of charge.
