Insights

Explaining ETFs

ETFs are primarily passive investments as they replicate indices with no active management value-add. The themed ETFs may be semi-active in that they may apply an independently-compiled index but with differing rules on how to define the theme.

While most ETFs available to Australian investors today track an index, some active managers also see an ETF as an attractive structure for growth and have made their strategies available as an actively managed ETF.

They are open-ended (i.e. they can create more units as demand requires) so in that regard they are similar to managed funds but ETFs have the advantage of greater transparency and liquidity through trading on the stock exchange.

ETFs also have an advantage over listed investment companies (LICs) in that they can be bought and sold for close to the value of the underlying asset (i.e. index) and do not suffer the discount/premium that being subject to demand places on LIC share prices. This usually results in the ETF price very closely matching the performance of the asset.

However, a buy/sell spread of prices does exist for ETFs. It can be quite narrow for large, liquid funds but wider when the underlying asset is less liquid (for example, some commodities), or if the market for its assets trades in a different time zone (i.e. international indices) meaning there is a risk premium paid to the ETF trader to cover unknown pricing outcomes.

If the ETF’s underlying assets produce income, investors will receive regular income distributions. Like managed funds, ETFs pass on this income untaxed and franking credits can also be passed through.

Management expense ratios (MERs) are quite low compared to managed funds, ranging from as little as 0.15% to 1.0% for some international share offerings.

Given the strong growth in ETFs, the range of products on offer has become very wide. New ETF providers entering the market are providing different choices to suit all types of investors, providing an opportunity to access new "themes" such as ESG, Climate Change, Cloud Computing, Robotics, etc. Importantly, prior to investing into any type of ETF it is imperative the investor understands the nature and risks of that ETF product.

Investment strategies using ETFs

The benefit of investing in ETFs is that it gives the investor access to markets that are not easily accessible in Australia and/or are not cost efficient such as international shares (particularly region or theme specific), currencies and commodities.

Diversification is gained across sectors in a cost-efficient manner (i.e. you like the outlook for Energy but don’t have the funds to buy more than one or two companies and don’t want the risk of picking an underperformer).

An investor can invest small amounts in a broadly diversified basket ETF as a low cost way to get exposure to the Australian sharemarket, or in addition to the Australian sharemarket to enhance diversification.

Use limit orders rather than market orders to better ensure a more favourable execution from a price perspective (speak to your broker or adviser about this).

An investor can also transition funds into the market without having to pick individual company exposure. This may be useful if you have large amounts to invest and want to do this over time and/or if you are uncertain which sectors may perform going forward but still want exposure to the sharemarket.

This has been a relevant strategy during the period when resources have outperformed but many investors were uncomfortable investing in them directly given their cyclical nature. An investment in the broader index would have meant not missing out on one sector’s significant contribution.

In summary, ETFs are a useful investment vehicle for:

• Transparency – you know what companies and/or exposure you have through a published index.
• Cost efficiency – low MERs compared to unlisted managed funds.
• Tax efficiency – passed through dividends and franking credits. Often low turnover usually only based on index changes so that forced capital gains are not a feature of ETFs.
• Liquidity – ETFs trade on a T+2 basis and are required to always have a buy/sell price on screen when the market is trading (achieved through a market maker).
• Diversification – allowing you more options to invest in baskets or specific themes/sectors.

However, you should also be aware of some of the risks:

• Structure – there are many different structures used by ETFs and some of these may expose investors to third party default risk. Investors need to examine the security of the issuer, whether the fund is physically-backed by assets, the custodial arrangement for the assets, the use of derivatives or security lending, and other issues.
• Passive investment – while many ETFs will provide broad or specific market returns they are still a passive investment. An astute investment adviser should add value to your portfolio returns through the active management of your investments.

Feel free to speak with your Morgans adviser to learn more about Exchange Traded Funds (ETFs) and whether they might be an appropriate investment choice for you.

^{Reference: Morningstar Australasia Pty Ltd, 2015}

The third quarter of 2021 saw Viva Energy Australia (ASX:VEA) navigating through challenges, albeit slightly softer than anticipated. However, the company stands resilient, poised for growth as New South Wales (NSW) and Victoria (VIC) embark on the path to reopening. Let's delve into the details.

Performance Overview

Despite facing a marginally softer quarter, Viva Energy Group maintained a robust position. Retail volumes and margins may have trailed slightly behind expectations, while commercial performance remained steady. The refining sector experienced a mix of outcomes, reflecting the complex landscape of the period.

Anticipated Recovery

The imminent reopening of NSW and VIC presents a promising outlook for Viva Energy. As lockdown measures ease and 55% of the population resumes typical travel patterns, the company anticipates a robust fourth quarter in 2021. With this resurgence in retail fuel volumes, VEA stands primed for a significant rebound.

In conclusion, Viva Energy Australia emerges from the challenges of the past quarter in a favorable position. As lockdown restrictions diminish and consumer behavior normalizes, the company's trajectory toward recovery appears promising. Maintaining our Add recommendation, we foresee a period of growth and resilience for VEA.

Morgans clients receive access to detailed market analysis and insights, provided by our award-winning research team. Begin your journey with Morgans today to view the exclusive coverage.

Perpetual (ASX: PPT) has released its 1Q22 business update, showcasing a solid performance and positive prospects.

Key Highlights

Perpetual Asset Management (PAM) Growth

AUM growth of 3% in Perpetual Asset Management (PAM) to A$101bn. Return to positive PAM inflows, totalling +A$0.1bn.

Corporate Trust and Perpetual Private Expansion

There has been 5%-9% FUA growth in Corporate Trust. Perpetual Private experiences 9% growth in FUA, reaching A$18.5bn.

Financial Outlook

Upgrade of PPT FY22F/FY23F earnings by 2%/4%. Our price target increased based on this outlook. Relatively undemanding valuation at ~16x FY22F PE.

1Q22 Update Details

In the 1Q22 update, PAM's total AUM reached A$101bn, with notable improvements in net inflows, particularly in Perpetual Asset Management Australia (PAMA). Corporate Trust and Perpetual Private also demonstrated substantial growth.

Despite mildly positive PAM fund flows, the overall trend is encouraging, and the recent acquisitions of Barrow Hanley and Trillium position PPT for a robust global investment management platform. With CEO Rob Adams leading the way, the company's valuation remains undemanding, presenting an attractive investment opportunity.

Investment Outlook

The recent acquisitions lay the foundation for PPT's global expansion, potentially driving significant share price upside. Trading at ~16x FY22F PE, the valuation is seen as undemanding, warranting an "ADD" recommendation.

Aristocrat Leisure (ASX:ALL) has set its sights on a strategic move that could reshape its position in the online real money gaming (RMG) space. The proposed acquisition of UK-listed Playtech for an enterprise value of A$5.0bn marks a significant step towards expansion and innovation in a rapidly evolving market.

Seizing Opportunities in the Online RMG Sector

In a dynamic landscape where time is of the essence, Aristocrat Leisure recognizes the need for swift action. The US online RMG industry is undergoing rapid change and liberalization, presenting a window of opportunity for growth. With the acquisition of Playtech, ALL gains immediate access to technology platforms and B2B relationships, accelerating its journey towards becoming a powerhouse in the US and global online RMG market.

Leveraging Market-Leading Content

Aristocrat Leisure's strength lies in its market-leading content, particularly in iGaming. By marrying its robust content portfolio with Playtech's capabilities, the company positions itself for success in the competitive online RMG arena. While the inclusion of retail sports betting may present challenges, the overarching strategy remains compelling.

Financial Implications and Outlook

Despite potential imperfections in the deal, the acquisition of Playtech offers tangible benefits. Notably, the prospect of mid to high single-digit EPSA accretion in Year 1 and a pro forma ND/EBITDA below 2.5x underscores the soundness of the move. With updated estimates reflecting the premium for the acquisition, analysts remain bullish, reiterating an ADD rating and emphasizing the long-term value proposition of Aristocrat Leisure.

In conclusion, Aristocrat Leisure's proposed acquisition of Playtech signifies a bold strategic move with significant potential rewards. As the company navigates the complexities of the online RMG landscape, investors are encouraged to view this development through a lens of long-term growth and value creation. With a clear vision and a commitment to innovation, ALL stands poised to back the right horse in the evolving world of online gaming.

Morgans clients receive access to detailed market analysis and insights, provided by our award-winning research team. Begin your journey with Morgans today to view the exclusive coverage.

With interest rates the lowest we have seen for years (for many, ever), the debate about whether we should be paying down non-deductible debt first or funding additional superannuation contributions is once again topical.

What is the best strategy?

In reality there is no right or wrong answer as it depends on the circumstances for each person or family.  Some of the issues that would need to be considered are

• personal income tax rates
• age and how close you are to retirement
• single or family status
• level of debt
• desire for financial security (or certainty of the outcome)

Generally, a younger couple taking on a home loan could be more inclined to pay off as much of the debt as possible if surplus funds are available.  Superannuation may not be on their radar given the length of time before they could access funds. If the younger couple are thinking about starting a family the current low-rate environment provides a great opportunity to get ahead in loan repayments should they have to move to one income.

An already established family may want to use the time to get ahead as much as possible with their loan repayments in case unexpected expenses occur in the future e.g. education costs, home renovations or a new family car.

A person, or couple, closer to retirement, however, may view super contributions as the better strategy to maximise returns on investment. Investing more into superannuation, with the ability to generate higher returns compared to repaying a lower rate of debt, could be a more effective strategy particularly if the person, or either of the couple, is on a high marginal tax rate.  Salary sacrificing or deductible self-employed contributions, depending on the person's work status, may be a more attractive strategy for utilising surplus cashflow.

Case Study

Maggie has reached her preservation age of 57 years (date of birth: 7 February 1962). Her financial situation is:

Repaying Home Loan First

Maggie could use her surplus cash and increase loan repayments each year by $30,000 up to retirement.  It is estimated her debt will be completely repaid by age 65, allowing Maggie to retire debt free.

Maximising Super Contributions First

Alternatively, Maggie could maximise her super contributions by contributing $30,000 each year until retirement into her super fund. Contributions could be a mix of concessional (deductible) and non-concessional contributions. At retirement at age 65, any debt outstanding could be repaid by withdrawing a tax free amount from super.

There may be other strategies available to pre-retirees which may also provide greater flexibility to enhance savings.  Strategies such as a transition to retirement pension could be an option if preservation age has been reached.  Salary sacrificing into super may be used in conjunction with this pension strategy. Again, at retirement any remaining debt could be paid using tax free withdrawals from super.

Outcome

Our analysis of the two scenarios identifies maximising superannuation as the better outcome for Maggie at retirement, which is what we would have expected.

Again, however, what is right for one person may not be right for another. It really depends on the circumstances and how much 'certainty' is desired by the individual or couple. That is, paying off a home loan and seeing the debt reduce can psychology be more rewarding for some more so than others.

Analysis

Chart A : Comparison of Net Assets at Retirement (in today's dollars)

Chart B : Comparison of Investment Returns over 7 years to Retirement

Watch Now

Financial planning is an important process in helping you achieve financial success. It is a process of defining financial goals and tailoring solutions to help you reach those goals. With the right advice and a patient investment approach achieving financial success can be relatively simple.

One way to financial success is to set out a plan - and stick to it. To show you how, we’ve outlined the six key steps to kickstart your plan.

Step #1 - Ask for professional advice

Perhaps the best financial advice you will ever receive is to seek expert advice. A professional financial adviser is accredited and trained in the areas of financial planning, investment, superannuation, retirement and insurance planning. Why leave it to chance? Your financial future is too important.

Step #2 - Define your financial goals

Before you make any financial decisions you need to make your goals realistic and very clear. Ask yourself what you want to achieve. Are you saving for your first house? Your children’s education? Are you trying to build up a retirement nest egg? Or are you trying to invest that nest egg to provide an income in your retirement?

Perhaps you’re working towards a number of these goals. The more specific you can make your financial goals and objectives, the more powerful they will become and the more likely you will be to achieve them.

It’s also important to remember that as your personal circumstances and needs change, your financial goals may also change. So it is very important to do a ‘reality check’ on your goals every few years.

Step #3 - Decide on a suitable timeframe to achieve your goals

Once you’ve decided what you want to achieve the next key to successful planning is to establish some very clear and realistic timeframes within which you expect to achieve your financial goals.

Exactly when do you want to buy a house? Or when do you want to retire? Perhaps more than any other factor, the time over which you intend to invest will determine which investments are right for you.

Step #4 - Agree on an appropriate financial strategy or strategies

Your financial adviser will review and analyse all of the information you have provided in Steps 2 & 3 in order to come up with appropriate strategies that will help you achieve your goals.

Working with you, your adviser will develop a plan that will get you started on the road to financial success.

Step #5 - Select appropriate assets for investment and implement your plan

Asset allocation is the process of building a portfolio with a mix of assets that will meet your personal and financial objectives. The decisions you make (with the help of your adviser) about how much to invest in each asset class will largely determine the long-term risk and return potential of your investments.

The aim of the asset allocation process is to establish how much of your money needs to be invested in each asset class to achieve a level of risk and return that is suited to your timeframe and financial priorities. The proportions you decide to invest in each asset class becomes your ‘benchmark portfolio’.

What are the main asset classes?

There are four main classes of assets in which you can invest:

• cash
• fixed interest/bonds
• property and shares.

The asset classes that are more volatile in the short term (e.g. shares and property) have usually outperformed the less volatile asset classes (e.g. fixed interest and cash) over the long term (7 or more years).

Unfortunately, there is probably no such thing as a low risk, high return investment. This is the risk/reward trade-off and it’s the core of the investment conundrum - higher volatility is the ‘price’ you have to pay if you want higher long-term returns.

The objective of the asset allocation process is to maximise long-term returns for a given level of short-term volatility.

Your investment horizon and risk profile

To determine the right investment or mix of investments for you, you need to establish whether or not (and to what extent) your aversion to risk outweighs your appetite for reward. The answer to that question is known as your ‘risk profile’. Your risk profile will depend to some extent on your personality and priorities.

However, a more important factor is the length of time you intend to invest, because the volatility of any investment is reduced when returns are averaged out over a greater number of years. Time effectively reduces volatility, so the right investment for you largely depends on your investment timeframe or ‘investment horizon’

Once you are happy with your financial plan and/or investment portfolio your adviser will help you implement the recommendations.

Step #6 - Review your plan regularly

You need to make sure your financial plan stays on track, and your investment strategy is in line with your risk profile and objectives.

As mentioned in Step 2 your personal circumstances may change or your goals may vary over time. For this reason it is important your financial situation is reviewed regularly to capture any such changes.

Relative movements in the market for the various asset classes will change the mix of assets in your portfolio over time. Your allocation to some assets will grow or shrink relative to the others.

When this happens, you may want to ‘rebalance’ your portfolio, either by selling the assets that are outperforming or buying more in assets that are underperforming. This may sound strange but what you are doing is maintaining your original asset allocation and sticking to your benchmark portfolio.

The best person to help you review your plan is your adviser.

ASIC (Australian Securities & Investment Commission) is urging people to make a positive start to their finances by taking small steps to improve their financial position. This could be as simple as starting a budget.

Their ‘MoneySmart’ website states, “A smart investor takes time to understand the basic principles of investing, then develops, and sticks to, a sound investment plan.“

Whatever the time of year use the opportunities available to you to think about your financial position and what you can do to improve it or build upon it. Use the six basic steps outlined above and kickstart your financial plan.