Commonwealth Seniors Health Care card holders and those claiming tax deductions for personal superannuation contributions under the 10% test may be significantly impacted by the new rules.

Effective from the 1^st July 2009, the CSHC income test will be broadened to include in adjusted taxable income the following amounts:

• Tax free superannuation pension payments
• Tax free superannuation lump sum payments
• Salary sacrifice superannuation payments (excluding SG requirements) and
• Personal superannuation contributions which are tax deductible

The impact of this change may be to bump individuals over the $50,000 income threshold and couples over the $80,000 threshold.  This is especially the case if major lump sum withdrawals are made.

The 10% test for personal deductible superannuation contributions will from July 1^st include salary sacrifice superannuation contributions.

This makes it that touch harder for some to fall within the less than 10% of income being earned from work and therefore be unable to claim a tax deduction for personal contributions into superannuation.  This may be particularly significant for those who receive a significant percentage of their income from other sources but not quite over 90% - including capital gains from the sale of property for instance.  As such these individuals may be limited as to how much they can contribute into superannuation in order to receive a tax deduction.

If either of these changes relate to your situation please do not hesitate to get in contact to discuss in more detail.

Regards,

Scott Keefer

A client who has recently reached Age Pension age thought that he had too many assets to receive any government benefits.  He was surprised to hear that there were other benefits that could be accessed by receiving a Commonwealth Seniors Health Card.  The following commentary is based on information from the Centrelink website. (Please note the data contained in this blog is up to date as at the 35th February 2009.  Some of the details, particulary income test limits and payment rates will change over time.  Youshould refer to the Centrelink website for the most up to date information.)
 
A Commonwealth Seniors Health Card helps with the cost of prescription medicines and other services (as listed below) if you are of Age Pension age but do not qualify for Age Pension.
 
To qualify, you must:

• be an Australian resident, living in Australia, and
• not subject to a newly arrived residents waiting period, and
• have reached age pension age but do not qualify for Age Pension (or do not receive certain other Social Security/Veteran Affairs pensions/benefits)
• provide Centrelink with your and your partner's tax file number or be granted an exemption from providing your and your partner's tax file number, and
• have an annual adjusted taxable income* of:
  • less than $50 000 (singles)
  • $80 000 (couples combined), or
  • $100 000 (couples combined who are separated due to ill health).
  • The limit is increased by $639.60 for each dependent child you care for.

* 'Adjusted taxable income' is your taxable income plus net rental property loss, target foreign income (foreign income not normally taxed in Australia including fringe benefits) and employer provided fringe benefits in Australia.
 
(Up to this financial year, adjusted taxable income has not included pension payments but there are moves to change this going forward possibly ready for the 2009-10 financial year.  We will keep an eye on this and keep clients and subscribers updated.)
 
If you fit into these criteria then the benefits you will receive include a discount on prescription medicines through the Pharmaceutical Benefits Scheme (PBS).
 
Other services may include:

• Bulk-billed GP appointments, at the discretion of the GP (the Australian Government provides financial incentives for GPs to bulk-bill concession card holders).
• a reduction in the cost of out-of-hospital medical expenses above a concessional threshold, through Medicare Safety Net.
• in some instances, additional health, household, transport, education and recreation concessions which may be offered by State or Territory and local governments and private providers. Note: these providers offer these concessions at their own discretion, and the availability of these concessions may vary from state to state. 

You may also be entitled to receive the following allowances:

• Seniors Concession Allowance - a non-taxable payment made every six months to help with regular bills such as energy, rates and motor vehicle registration fees that are not available at a concessional rate.   The rate of this payment is currently $128.50 per quarter ($514 p.a.)
• Telephone Allowance - if you have a telephone connected in Australia in your own or your partner's name.  The rate of this payment is currently $34.60 per quarter per household if you have the internet connected or $23 if not. ($138.40 or $92 p.a.) 

To register for the card you need to register a Commonwealth Seniors Health Card claim form which can be found on the Centrelink website.

Some investors are starting to pop their heads out of the trenches to look at alternatives regarding growth asset investments going forward.  This is almost being forced on investors as they see that the income from sitting in cash is not particularly appealing.  In the current climate our firm would suggest that any investment into growth assets should be done in a measured way to reduce the possible down side if growth asset markets were to fall further.

If the decision is made to invest in growth assets, particularly shares, our research suggests using an investment approach based on the 3 Factor Model.  So what is this model?

We have added a page to our website explaining this model in more detail.  In is an extract from our book - Your Guide to Being a Successful CEO of Your Life - please click on the following link to be taken to the extract - The Three Factor Model.

In this edition we:

• consider the 3 Factor Model,
• take a look 11 surprising stock market indicators,
• provide a summary of the movements in markets over the past fortnight including 3, 5 and 10 year return history,
• look at why we should be careful about being pessimistic about Australian share dividends,
• provide a link to Scott's latest Eureka Report article,
• highlight the latest Monday's Money Minute Podcast,
• discuss the Commonwealth Seniors Health Care, and
• provide an update to the Dimensional Trust performance graphs - the 3 factor model in practice.

Click on the following link to have a look at the full newsletter - Financial Fortnight That Was - 25th February 2009.

The market update section is set out below:

ASX P/E Ratio and Dividend Yields

Users of our website, through our User Voice feedback forum, have requested that we regularly update the graphs outlining the performance of the Dimensional trusts that we use in building portfolios for clients.  In response to this feedback we have updated these graphs to reflect performance up to the end of January 2009.

Commentary:

The graphs show mixed monthly returns over the month.  Emerging Markets provided a small rise, global small companies and the general global index were flat.  On the other hand, global small companies and all the Australian share sectors were down.   Part of the reason for the difference between global and Australian returns for the month were that there was a strong day on international markets on the 31^st of January which flowed in the Australian markets on the first trading days in February.

Over the long run, the graphs continue to clearly show the existence of the risk premiums (small, value and emerging markets) that the research tells us should exist:

Australian Share Trusts - 7 Year returns

International Share Trusts - 7 Year returns

NB - These premiums are higher than what we would expect going forward.

Please click on the following link to be taken to the graphs - Dimensional Fund Performance Graphs.

For anyone new to our website, it is important to point out that we build investment portfolios for clients based on the best available academic research.  Take a look at our Building Portfolios and Our Research Based Approach pages for more details.  In our view, this research compels us to use the three factor model developed by Fama and French.  In Australia, the most effective method of investing using this model is through trusts implemented by Dimensional Fund Advisors (www.dimensional.com.au).  We do not receive any form of commission or payment from Dimensional for using their trusts.  We use them because they provide the returns clients are entitled to from share markets.

However, academic theory is nothing if it can not be implemented and provide the returns that are promised by the research.  Therefore, we like to provide the historical returns of the funds that we use to build investment portfolios.

Please let us know if you have any feedback regarding these graphs by using the Request for More Information form to the right or via our User Voice feedback forum.

Regards,

Scott Keefer

This morning I have read an interesting article written by Don Stammer for the Australian's Wealth section - Pessimism about dividends has gone too far.  Unfortunately the web version does not include the graph but the commentary is still very useful.

The article looks at an issue that our firm has been in discussions with clients over the course of the last few months.  That being turning the attention away from the gloomy picturs of depressed asset prices in growth asset classes and focussing on a key benefit from investing in shares - their dividends.

A lot has been written about the threat to dividends coming from the global economic downturn.  This threat is real.  We have seen during the current company reporting season that some companies are experiencing tougher times through falling profit levels and/or tougher financing arrangements.  This causes them to reduce dividend payments either because they can no longer afford to keep paying them at the same level or they need to hold back more of their profits to use towards paying down debt and financing projects going forward.

The key question then is by how much might these dividends fall?

Why an answer to this question is important is in weighing up the income from alternative investments.  In Stammer's article he states the current yields from investment classes if you were to start investing now:

Cash - 3%
Long term government bonds - 4.3%
Residential real estate - 4%
Australian shares - 7%

This Australian share yield is based on trailing dividend payments compared to current asset prices.  This is not an accurate reflection of the likely future yields as future dividend pay outs seem likely to fall.  Stammer suggests in the article that he sees them falling by 25% putting future yields at approximately 5.25%.

Even at this level of yield, investing in Australian shares appears attractive compared to the alternatives.  For those investing through superannuation or pension modes this yield becomes even more attractive due to the franking credits received from the majority of Australian shares.  The average level of franking in the ASX200 is around 80%.  How does this impact the effective yield investors will receive?

In Super - a 5.25% yield, franked at 80% grosses up this yield to 7.05%.  Paying 15% tax on this leaves you with a return of 5.99% after tax.

In Pension mode - a 5.25% yield grosses up to 7.05%.  As you pay no tax on investment earnings in pension mode this equates to a 7.05% effective return.

Stammer also provides an interesting discussion and supporting chart that looks at the trailing dividend yield compared to current asset prices on the Australian share market.  This graphs shows peaks and troughs.  Currently we are in a peak period which suggests the current trailing dividend yield is higher than average levels.  More evidence that dividend yields will fall.  Interestingly, the average trailing dividend yield has been 4.1% since 1945.  This is still attractive when taking into account marginal tax rates.

A table comparing the different yields mentioned in this blog at the different marginal tax rates  follows:

The comments from Don Stammer suggest that if you are focussed on the benefit that Australian shares provide - dividends - and can tune out from the difficulties around their current prices and have a long term investment horizon (i.e. more than 7 years) then purchasing new holdings of Australian shares in your investment portfolio, and keeping on to current holdings, seems to make sense.

As always, the final determinant should always be whether this makes sense in terms of your own personal circumstances and risk profile.

Bye for now,
Scott Keefer

Paul Costello (no relation to Peter) is the head of the $60 billion Future Fund's management agency, responsible for directing the investment policy of the fund.  Yesterday he appeared before a Senate estimates committee.  At that hearing Mr Costello has said that the fund has been forced to buy risky assets to generate a minimum return of inflation plus 4.5 per cent.  In particular he said the fund is focussing on assets outside of debt markets because "in the longer term that's not where we're going to see the returns that we need to deliver on the government's objectives."

Mr Costello's comments remind us of the key underlying principle of investing - risk and returns are related.  If you need or are looking for higher returns you need to seek investments that are riskier.

The same dilemma is being faced by smaller investors of the street.  With the official cash rate plunging 4% over recent months to 3.25%, with possible further small reductions to come, the option of sitting in cash becomes a much more difficult proposition.  This should remind all of us of the poor ability of cash as an investment to fight inflation.

Back in December Scott Francis put together a report looking at this very question by tracking the income returns from Australian shares compared to cash since 1982.  This report provided a stark reminder of the benefit of Australian share income over time compared to cash.  To read a copy of the report please click on the following link - Benefit of Australian Share Income.

Unfortunately the decision to move into riskier asset classes is not an easy one, especially in terms of the current market.  The key question everyone is asking is can growth asset prices fall further?  The answer is definitely yes they can.  Will they?  That's anyone's guess.

If you do make the decision, like the Future Fund, to invest more into growth assets the key for us is to take a measured approach.  Don't be throwing everything at growth assets all at once as you could invest one day and see the market slip away further.  To protect against this downside our approach is to be regularly investing into growth assets over time.  Interestingly, this is the very same approach undertaken by the Future Fund on a much larger scale.

If you wanted more information about our approach to investing please take a look at our Building Portfolios page.

Bye for now,
Scott Keefer

Long Term Investment and Economic Trends

(Decade average yearly returns)

Source: Australian Financial Review 14/15 Feb 2009 and AMP

For more information please listen to the podcast - Long Term Investment and EconomicTrends.

Regards,

Scott Keefer

For those who hold a deep interest in the workings of finance, today I have listened to an interesting historical perspective.  In an online seminar presentation sponsored by the Certified Financial Analyst Institute, two leading finance experts from the Yale School of Management - William Goetzmann & K. Geert Rouwenhorst - look at the current crisis by providing some historical perspectives.  By historical we are talking about heading back to Babylon 1600BC and then the first financial market crisis in the 1720s.

These two gentlemen have co-authored a book published in 2005 which looked at the history of finance.  In today's seminar (presented at 4am Brisbane time - Don't worry I'm not that keen/obsessed, I listened to the recorded version) they look at the:

The last 20 minutes of the presentation contains a question and answer segment looking at the current crisis.

The presenters conclude that this modern crisis is nothing new as similar events have been found in antiquity and that innovation outweighs the risk of crisis.

It is an interesting presentation for history buffs.  You can find it by following the following link - Finance in Historical Perspective.

Regards,
Scott Keefer

In this edition we:

Click on the following link to have a look at the full newsletter - Financial Fortnight That Was - 10th February 2009.

The market update section is set out below:

ASX P/E Ratio and Dividend Yields

We have uploaded our latest Monday's Money Minute podcast on to the website.  This podcast looks at the dilemma facing investors who are fully or predominantly invested in cash now that the RBA has cut interest rates by a further 1% last week.

To listen to the podcast please click on the following link - Sitting Tight in Cash Dilemma.

The following is a transcript of the podcast along with some extra data for different marginal tax rates:

Last week's interest rate cute by the Reserve Bank of Australia has made investment choices that little bit more difficult for investors.  When the cash rate was sitting above 7%, investors holding cash were feeling pretty good about this especially considering the carnage on share markets around the world.

As these interest rates have been quickly driven downwards, the option to sit tight holding cash is not such an easy position to find yourself in.

One alternative might be to look more seriously at Australian shares.  As of Wednesday last week, the yield (dividend income) on the ASX200 was 6.8%.  If we assume that this yield is approximately 80% franked as per market averages, the effective income return for investors would be:

# - not including Medicare Levy

The big question is how much companies might cut their dividends as a response to falling earnings and or to shore up funding requirements by holding back more of their profits from shareholders.

The profit reporting season has started to provide some guidance on this matter.  A number of companies have reported significant cuts to future dividend payments while others have actually continued to increase dividends per share.

An average cut I have seen reported by analysts is around a 20% cut in dividends.  How does this change the comparison table?

 # - not including Medicare Levy

Still a significant premium!

In fact, it would take dividend cuts of 64% across the ASX200 to see effective dividend yields match cash returns.  This seems highly unlikely based on the current reporting by companies.  It also does not take into account that cash rates may fall further in future months.

Unfortunately the decision is still not cut and dried as there are clear risks involved with investing in shares going forward.  They have lost something like 40% in value since November 2007.  This is because they are a risky investment.  Before jumping in boots and all investors will need to weigh up how comfortable they are taking on extra risk in their portfolio.

One thing that investors can be certain of is that they would be buying shares 40% of their highs!

Regards,

Scott Keefer

In his latest article written for Alan Kohler's Eureka Report, Scott looks at an investor response to the latest interest rate cuts and the government's massive stimulus package.  He concludes by suggesting:

Beyond the 1% cut in interest we got this week from the Reserve Bank, the government's latest stimulus package represents the equivalent of $2000 for every man, woman and child in Australia. As and investors you must now:

For the entire article please click on the following link - Review your strategy ... and portfolio

Depending on how the negotiations go in the Senate regarding the latest stimulus package developed by the federal government, there is a chance that many will be receiving a $950 payment some time in April.  So what should you be doing with that money?

My response may not be what the government is hoping to hear but my first reaction is to say save the money.

With interest rates falling by the month the next logical question is where should you put the saved money? Here are some ideas the merits of which will depend on your personal situation:

• Put it towards that non tax deductible debt, the higher interest rate options first - Eg credit cards, personal loans etc
• Put it towards your mortgage - if you have an offset account even better, this will reduce interest payments but keep the cash accessible.  The interest cost reduction from putting it towards your loan will definitely out weigh any interest you would get from saving especially if you are stuck in a fixed interest loan.
• First Home Savers could put it towards a First Home Saver Account and by doing so get a 17% extra kickstart from the government - an extra $161.50.  The money goes into a 15% tax on income earnings within the account which could also be beneficial for some but one word of warning, the returns on the savings will not be flash going forward as most of the options offered are for the funds to sit in cash.
• Add the $950 to your investment portfolio - unless Australian share dividends are cut by 60% going forward the return you are likely to get from the dividend payments from shares should beat cash returns.
• If you won't need the money before retirement you could make a contribution into super.
• If you are likely to earn less than $30,352 during the current financial year then a personal contribution of $950 will entitle you to receive a government co-contribution of $1,425
• If you earn less than $60,352 then you could contribute some of it as a personal contribution and receive some government co-contribution and then use the rest to pay for your regular cost of living and then salary sacrifice extra into super.  An extra $950 in the hand would allow you to salary sacrifice $1,385 back into super and maintain the same amount of cash in hand to pay for your living costs.  By doing this you would save $230 of tax. (15% superannuation contributions tax compared to the 30% marginal tax rate plus 1.5% Medicare Levy for those earning more than $34,000)
• There are other superannuation contribution rules that may determine whether you are or are not able to make this extra contribution (for instance contribution limits) and these should be checked before jumping in.

There is actually one possible option to spend the money that is worth considering:

• If you are in small business, use the money towards purchasing $1,000 or more of business equipment which, if the stimulus package gets passed as it is, should entitle you to a 30% rebate from the government.  A saving of $285 on the $950.  But only if you NEED the equipment don't be sucked into the trap of purchasing unnecessary equipment!

It will be interesting to see what the end package looks like.  What ever happens I am sure there will be some great financial strategies that can be employed to make the most of what is on offer.

Regards,
Scott Keefer

In my morning reading time today I came across an item written by William McNabb, the Vanguard Group's CEO.  The explanations are from a US perspective but are definitely transferable into the Australian context.  The following is taken directly from his article:

• Respect risk. Investments with the potential for great returns also carry great risks. It's tempting to only look at one side of the equation. This was perhaps the most obvious lesson learned during 2008, when risky and complex investment strategies failed en masse. Unfortunately, this lesson gets forgotten in every investment boom and relearned in each ensuing bust. That makes this advice seem too late-but, in reality, it can help us respond to the recent setback and keep us alert when investors once again fail to appreciate the market's true risks. If you've suffered a significant decline in your investment portfolios, you may be tempted to look for ways to play "catch up." Don't. Simply put, you can't invest your way out of a low account balance. And it's dangerous to try.

• Save aggressively. For 2009, I'm more convinced than ever that investors of all types need to save aggressively, or even "oversave." The sad truth is that Americans have been relatively poor savers in recent years. It can be hard-and discouraging-to save and invest money during a market downturn. The thinking often goes, "Why put money in the stock market when it's been posting poor results?" But it may be wiser to ask, "Are you better off making contributions to your retirement account when the Dow Jones Industrial Average is near 8,000 points (where it's been recently) or near 14,000 (where it peaked in October 2007)?"

• Be balanced and diversified. Creating a portfolio with a mix of different asset classes (stock, bond, and money market funds) is critical to limiting volatility. Maintaining the appropriate mix (based on your risk tolerance and time horizon) is critical to ensuring that your portfolio continues to reflect your risk and return parameters through good markets and bad. But this discipline can be uncomfortable. Many of Vanguard's own balanced funds, for example, are required to maintain a certain ratio between their stock and bond holdings. That often means that when their stock portfolios perform well, the fund managers must buy bonds; when stocks do poorly, they must buy more stocks. It feels counterintuitive, and from an emotional standpoint, it can be a challenge for many investors. But it's a sensible approach that, over time, has produced solid results. I noted above that stocks have averaged an annual return of 9.6% over the past 82 years. A hypothetical portfolio consisting of half stocks and half corporate bonds would have averaged an annual 8.2% over that same span.

I think the comments are very pertinent and well worth sharing.  The full text of the article can be found at - Thee Investment Maxims from vanguard's CEO.