Key Takeaways:
- Investing directly into listed shares gives you full control over tax consequences, timing, and portfolio rebalancing.
- Managed funds provide access to diversified portfolios and specialist management, making them ideal for investors who prefer convenience.
- Tax benefits such as franked dividends and capital gains management are important considerations when choosing your investment strategy.
- A combination of direct investing and managed funds may provide the best balance of control, diversification, and professional management.
Comparing Managed Funds vs Investing Directly
Is it better to invest directly into listed securities or into unlisted managed funds? There is no correct answer as it depends on your personal investment needs and objectives and, importantly, which strategy you are comfortable with. For personalised guidance, you can find a Morgan's adviser to talk you through your options today.
The Benefits of Investing in Shares
Why Are Shares So Popular?
- Shares have historically outperformed all other asset classes over the long term.
- Shares can provide long-term capital growth.
- Shares can provide a strong and growing income stream.
- Tax benefits might be available via franked dividends. More on tax-efficient investing can be found in Morgans wealth management resources.
What Can Change?
Change has been a major component across investment markets over the last 50-odd years. From the 'Black Monday' crash in 1987, to 18% interest rates in the late 80s and early 90s, through to the 1997 Asian crisis, the tech and internet stock boom and bust in 2000, and of course the GFC in 2008.
More recently, investors are experiencing the impact of Coronavirus. In this respect, COVID-19 has affected life in general, not just investment markets, making its disruption extraordinary. For ongoing market insights, see Morgans research articles.
Key Points to Remember
Shares are often considered risky due to potential short-term performance volatility. Over the long term, however, shares have provided consistent investment returns.
Dividend Yield & Imputation Credits
Many dividends paid to shareholders include 'imputation credits'. The imputation credit and resulting tax benefit available from the dividends means the actual return from a stock needs to be "grossed up" to reflect its true value.
A common mistake investors make is to compare bank rates with dividend yields. The cash rate is fully assessable whereas the dividend yield includes the imputation credits, so this tax concession should be taken into account. A 5% dividend yield would provide a similar return to a 7% bank rate.
Other Tax Issues
By investing directly into listed securities, the investor controls the tax consequences of that investment. Investments are bought and sold at the investor's discretion rather than a fund manager’s discretion. Capital gains and losses can be managed to suit the investor's tax position.
In contrast, fund managers usually turn over stocks within their investment portfolios (particularly Australian Equity funds) regularly. Distributions from managed funds include realised and unrealised capital gains or losses and are displayed as 'total return'. The investor has no control over the tax management of these distributions.
This lack of control often drives investors to favour direct share investing over managed funds.
Access
Direct shares provide flexibility and liquidity. The ASX allows Australian investors to easily purchase or sell shares, or rebalance portfolios in a timely and cost-effective manner.
The Benefits of Investing in Managed Funds
A managed investment combines an individual investor's money with thousands of other investors to form an investment fund. Specialist investment managers then invest the pooled money on investors' behalf.
Benefits of Managed Funds
- Trained investment specialists: Constantly research and monitor markets for the best opportunities.
- Convenient and efficient: Paperwork, administration, regular fund performance updates, annual tax statements, and guides.
- Diversification: Managed funds make creating a truly diversified portfolio easier. For more diversification strategies, check out our Wealth Management services.
Structure
Most managed funds are structured as unit trusts. When invested, the investor buys units in the fund. The unit price reflects the value of the fund's investments. If the value of the fund's investments rises, the unit price also rises; if it falls, the unit price falls.
Access
Managed funds provide access to assets normally not available to individual investors (e.g., international and emerging markets). Investing internationally via managed funds can provide greater diversification and investment opportunities than investing only in the Australian sharemarket.
Redemption is slower than selling listed shares. Fund managers must value all assets at prevailing market prices. Depending on unit prices at redemption, an investor may be forced to sell more units to achieve a specific dollar value, affecting the portfolio's remaining value.
Dollar Cost Averaging & Compound Growth
Investing in managed funds allows investors to reduce their cost base via dollar cost averaging. This means purchasing units at differing prices regularly (often via a regular savings plan), which averages out the overall investment cost.
Reinvesting fund distributions provides a 'compound interest multiplier' effect. Capital benefits from compounding as distributions earn interest.
Diversification
Diversification of an investment portfolio across all asset classes allows an investor to 'hedge their bets'. By spreading the exposure and investing in different assets an investor can create a portfolio that can minimise to some degree the losses that may occur in one asset sector with gains in another.
The overall effect is that volatility is moderated, and investment returns can smooth out over time.
Investing in managed funds allows the investor to diversify funds over a basket of assets that may otherwise not be accessible. This is a key strength of funds as investors can spread their investments across a range of asset classes rather than having exposure to just one class.
The ‘Fee’ Factor
Having a team of specialist investment managers comes at a cost, as does the benefit of having an effective administration and reporting system. Fund managers can charge entry, exit, ongoing management and even performance fees.
Index fund managers traditionally charge lower fees than active fund managers as they have lower portfolio management costs. Retail funds are more expensive than wholesale funds, typically charging between 1-1.50% pa more.
An investor can access the cheaper wholesale funds, however, they must either have a larger initial investment (generally, from $20,000 up to $500,000), or they can invest via a platform (wrap) structure, which then charges its own administration fee.
It is this level of cost and complexity of fees that turn many investors away from investing in managed funds. Additionally, the level of fees charged by a fund manager can have a significant impact on the overall return of the investment, particularly over the long term.
So that like-for-like performance comparisons can reasonably be made between different funds, fund managers are required to display performance data as after-tax returns or 'net of fees'.
In Conclusion
The winner is the investor who invests in a manner best suited to their goals. Whether direct investing or via a managed fund, or a combination of both, understanding what you are investing in and why is the most important factor. For a full overview of investing options, see A Guide to Investing or speak with a Morgans adviser to design a strategy tailored to your needs.
One of the key advantages of investing in direct shares is the flexibility and liquidity it provides.
The ASX provides an environment for Australian investors to easily purchase or sell shares, or rebalance portfolios, in a timely and cost-effective manner.
FAQs
1. What are the main differences between investing directly and via managed funds?
Direct investing gives control over timing, tax, and portfolio adjustments. Managed funds provide professional management and diversification.
2. Can I combine direct investing and managed funds?
Yes. A combined approach may provide the best balance of control, diversification, and access to specialist management.
3. How do fees differ between managed funds and direct investing?
Managed funds charge administration and management fees, while direct investing usually has brokerage costs. Index funds and wholesale funds are often cheaper.
4. Are there tax benefits to direct investing?
Yes, including franking credits and control over capital gains. See Morgans wealth management for more information.
