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16 Sep 2020

As the hunt for yield drives up risk what are your investment options?

By Peter Moussa, senior investment specialist for Citi Australia How to choose the right investment for you

Prolonged exposure to low interest rates is driving a change in investor attitudes as all available investment options come under greater scrutiny in the hunt for yield.

Traditionally, Australian investors have stuck to three main investment streams – term deposits, shares and property. Corporate bonds are on the increase as an investment class but could not yet be considered mainstream, although in other parts of the world like Europe they are.

The reason investors are seeking out new avenues to build portfolios is simple – a low interest rate environment that has consistently sunk lower for many years and is likely to remain low for many years ahead.

It means the return on term deposits can no longer earn retirees, and others dependent on investment returns, the income they require to maintain desired lifestyle requirements without dipping into their capital.

There are also other concerns weighing on investors minds. Equities currently carry a relatively high level of risk, and may be too high for the appetite of conservative investors. Property is generally considered a long-term investment, which does not appeal to many older investors.

Corporate bonds have gained popularity in recent years as they generally trump term deposits for a fixed income return and remain low on the risk scale. However, each new interest rate cut shaves off some of the return, leaving investors looking for new solutions.

It is an environment where people may go higher up the risk curve to gain yield and not realise how risk-heavy their portfolio has become.

The investible universe is diverse

Of course, there are other options for investors to consider, including managed funds, exchange-traded funds (ETF’s), infrastructure, private equity and hedge funds. Each has appeal to fulfill a role within a sophisticated investment portfolio, but not all offer the flexibility to profit across various market conditions, or have liquidity issues.

Another option that has gained increasing momentum are structured investments. Also referred to as structured products, it typically pairs a bond and a share or basket of shares to form an income bearing product with exposure to equity markets.

While the structured investments market is not on everyone’s  radar it is huge globally and sought out by private banks, institutions and professional investors.

In comparison, many investors are aware of ETF’s, which normally track a market index like the S&P/ASX200 and are tradable on a stock exchange. The global size of the ETF market is about $US5.3 trillion. The structured solutions market size is $US7 trillion.

Structured investments have gained interest for three reasons

  • Ultra low interest rates have pushed equity markets higher despite considerable risk from global macro events, leaving investors looking for opportunities that offer more stable returns than direct equity investment.
  • Ability to help manage the downside risk of equities.
  • Have benefited from technology over the past 10 years as banks utilise advanced modelling to improve the offering.

 

As the chart shows, structured investments are highly customisable to various risk appetites

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How do they work?

The most popular type of structured investment allows investors to earn a fixed interest payment (called a coupon) if a selected basket of stocks go up, stay flat or have a moderate decline.

After the 30 per cent rally in equities last year many investors feel it is exhausted, although markets have experienced increasing turmoil as a result of the impacts of COVID-19.

Structured investments are particularly useful for investors that don't want to take a strong view that equity markets will rise or fall dramatically, as they can structure investments to profit in a number of various market conditions, even if the underlying equities in the structured ‘basket” increase, remain flat or decline up to 40 per cent in many cases.

Anyone moving into a new type of investment needs to do some homework and talk to some trusted and knowledgeable providers to understand how the investment works, what are the risks and does it suit your risk appetite and how returns will change in different market conditions.

The returns on many “traditional” investment types are now so low or carry significant risk that investors need to examine what other options may be available to them, not just to create required returns but also to provide greater safety within a portfolio through diversity.

Wealth Solutions  >  

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