Sunday, January 18, 2009

A nice problem to have

I have quit my job and will get paid out my long service benefit in cash. As a result, the amount of cash on hand has doubled from the equivalent of about two years of living expenses to just over four years of living expenses. With interest rates with the banks approaching zero, this money needs to be invested somewhere where it will generate a better return.

I could, of course, pay off some of our mortgage debt. In fact, I have enough cash to pay off the home loan (our biggest debt) completely. However, with the most expensive loan currently costing me 2.25% pa (tax deductible - at a 15% tax rate) this is still a pretty low rate of return. Also, given that a new mortgage will likely cost upwards of 3.1% pa, if I borrow to buy another property, about half of the return on paying down an existing mortgage will be lost. A pre-tax return of 1.15% is pretty pathetic (although it would have made me a financial superstar in 2008).

Shares and property can be acquired with (net) yields above 4% (after allowing for dividend cuts and declines in current rental levels). This is attractive (although not spectacular). The issue is a timing one - the markets have the potential to fall even further so if I go with this option, I have to be prepared to ride out what could be a lengthy period of falling capital values.

I quite like the idea of buying more property during a recession and am arranging to view some flats next week. That said, I am not committed to buying right now - a number of people have told me that they expect the market to drop after Chinese New Year (not sure why?). In any case, I am in no hurry and, in this market, time is on my side.

PS: I haven't completely lost the plot - I start a new job next month, so my period of unemployment will be relatively short. This also means that I have no real need for a substantial cash reserve fund.


Anonymous said...

That is a nice problem to have. What about US TIPS? I would think that all the liquidity boosting will eventually catch up to the US gov't.

traineeinvestor said...


Thanks for dropping by.

The problem I have with direct holdings of US securities is that I get dragged into the US tax regime. Not only do I have to file a bunch of forms but I also lose 30% of the interest through withholding taxes. I'm not sure if the withholding taxes apply to the inflation adjustment component of the TIPS return?

The other options I am looking at are (i) NZ$ bonds - there are no withholding taxes and the nominal yields are pretty decent although I am taking an FX risk; and (ii) HK property which has come back around 25% (more or less) although I am struggling to find a motivated vendor with a property that I like.

I do expect that the inflation caused by all the stimulus programmes being implemented by the US government (and many others) will eventually outweigh the deflationary effects of the deleverageing and increased savings rates (lower spending) - the issue is how long that will take to eventuate. Japan is still waiting....