Investment Advice (FPC008) Assignment 3

· You are aged 32 and not married.

· You work as a financial analyst and have a net income of $73,503. You make sacrificial contributions to your superannuation to add to the 9.5% superannuation guarantee that is paid by the employer.

· You spend $24,000 per annum on rent and another similar amount on other living expenses.

· You have an investment portfolio worth $450,000, which you established through the superannuation.

· You also have a cash deposit balance of $350,000, earning 1.5% interest per annum.

· You would like your superannuation to provide a return of 4.5% over inflation over the next five rolling years.

· To purchase a property worth $500,000 over the next five years.

· To retire at 60.

· Want to maintain a cash balance of $25,000 per annum for emergencies.

· Prefer index funds to active funds.

· Would like to hold listed investment companies but not direct shares.

· You are against gearing.

· Would like to invest in socially responsible funds.

The best investment strategies are medium-term, passive management, strategic asset allocation, risk diversification, and value investment strategies.

Your superannuation portfolio will grow with at least a return rate of 4.5%. By aligning the portfolio to your risk profile and long-term strategic asset allocation, your investment goals will be realized. However, this should be accompanied by the replacing of underperforming funds. The construction of the non-superannuation portfolio with growth assets will ensure that the invested amount of $350,000 grows rapidly over the next five years to a balance of over $500,000 as needed to purchase a property.

Client: Tex Matdasu

Age: 32

Marital Status: Single

Employment: Employed as a financial analyst with a net income of $73,503 per annum after tax and contributing to his superannuation fund.

You have a 9.5% superannuation guarantee that is paid by the employer.

You spend $2000 every month as a contribution to your shared rental expense. This totals $24,000 per year.

You also spend $2000 every month to cater for other emergencies, which totals $24,000 per annum.

Cash balance: You have a personal cash balance of $350,000 from savings and inheritance from your grandmother’s estate. Superannuation: You have a superannuation portfolio that you established ten years ago is currently valued at $450,000.

You would like your investment to provide a return of 4.5% per annum above inflation over a rolling five-year period.

You have a goal of having a deposit of over $500,000 in the next five years to purchase a property. Despite your need to buy a property in five years, you would not like to purchase it within a superannuation structure.

It is your goal to maintain a cash balance of $25,000 to cater for emergencies.

You wish to retire at the age of 60.

You prefer index funds to active funds because you believe that fund managers are unlikely to outperform an index.

On the other hand, you believe that there is a chance that although rare, there are opportunities to outperform the market. You wish to learn more about this possibility and which investments are likely to provide such an opportunity.

You prefer holding listed investment companies (LICs) to direct shares.

You would like to invest in property because that is said always to appreciate.

You had a bad experience with leveraged high-yield sub-prime bond funds during the financial crisis and have since then not invested in fixed income products.

You are opposed to borrowing within your portfolio or invest in funds that leverage on the portfolio.

You would like to invest in alternative assets but have been discouraged by the information that they are highly volatile.

You are also interested in having socially responsible funds included in your portfolio.

You have a net income of $73,503 per annum.

You spend $24,000 per year in house rent.

You also spend $24,000 per annum on other expenses.

The portfolio of assets in the ABC superannuation fund that you formed ten years ago and valued at $450,000 is currently constituted as follows:

You have not changed the portfolio composition for the last five years; only rebalancing the asset allocations to the percentages as highlighted in the table.

Australian equities constitute a significant part of your portfolio, with a total of 50% of the entire portfolio. However, Vanguard Australian Shares High Yield Fund makes up for the 40% while Perpetual Wholesale Australian Share Fund makes up for 10% of the portfolio.

Australian listed properties are the second-largest components of your investment portfolio with 30%, in which 10% is Antares Listed Property Fund and 20% for iShares Australian Listed Property Index Fund.

Finally, international equities are the lowest with 20%, which is equally split between the iShares International Equity Index Fund and Vanguard International Shares Index Fund (Hedged).

You have an annual pre-tax income of $100,000. However, this is after contributing $20,000 contribution to your superannuation fund.

Your net income is $73,503 per annum after income tax and Medicare levy, which is 2% as per 2019 tax rates.

You do not own a house and spend $2000 on rent every month, which sums up to $24,000 per annum.

You also spend $2000 per month on other living expenses totalling $24,000 annually.

Therefore, your disposable income is $25,503 per annum, which is available for saving and consequently, investment.

You also have a cash balance of $350,000 deposited in a flexible high-interest account earning a 1.5% interest per annum.

You would like your investment to provide a return of 4.5% per annum above inflation over a rolling five-year period. You would like to structure your financing such that it provides a return of at least 4.5%. this is for both your superannuation and non-superannuation investments.

You wish to purchase a property worth $500,000 in the next five years. Since you are against acquiring it within a superannuation structure, you will need a cash deposit of the amount in that period.

Life is full of uncertainties, and one should always be prepared. You would like to maintain an annual cash balance of $25,000 to cater for emergency needs.

It is your wish to retire at the age of 60. Therefore, you would like your super to be adequate to cover you after retirement.

You prefer index funds to active funds because you believe that fund managers are unlikely to outperform an index. This is clearly reflected in the allocation in your portfolio.

On the other hand, you believe that there is a chance that although rare, there are opportunities to outperform the market. You wish to learn more about this possibility and which investments are likely to provide such an opportunity.

Instead of buying direct shares, you would like to invest in listed investment companies (LICs). This will provide you access to many stocks in the Australia Securities Exchange.

You would like to invest in property because that is said always to appreciate. Therefore, in the reconstruction of your superannuation portfolio, you would like property to be considered due to their expected growth in value.

You had a bad experience with leveraged high-yield sub-prime bond funds during the financial crisis and have since then not invested in fixed income products.

You are opposed to borrowing within your portfolio or invest in funds that leverage on the portfolio. Therefore, other means should be used to raise capital. Funds that leverage on your portfolio should also be avoided altogether.

You would like to invest in alternative assets but have been discouraged by the information that they are highly volatile.

You are also interested in having socially responsible funds included in your portfolio.

With a total cash inflow of $100,000 and a total outflow of $72,497, your net cash inflow is $25,503. This is the amount that is available annually for you to save and invest.

Your employment income remains unchanged.

The rates of income tax and Medicare levy are unchanged from 2019.

Interest from the cash deposit is released and not retained as a deposit.

The primary issue with your finances is the asset allocation in his ABC superannuation portfolio. You constructed the portfolio ten years ago using your superannuation’s available funds. However, you have not changed the composition and allocation of the portfolio in the past five years. You have only rebalanced the assets in the portfolio to your preferred percentage weightings as established. This is despite some of the investments performing poorly. It is also probable that your risk profile has changed over that period. Therefore, the portfolio as currently constituted is not aligned to your risk profile.

To achieve your goal of purchasing a property in the next five years, we need to reorganise your non-superannuation portfolio and align it to the target.

Using the risk profile that you completed, I believe that you can accommodate an above-average investment risk level. We have also agreed on your risk profile and long-term strategic asset allocation as outlined below.

Based on your risk profile, the most appropriate portfolio percentage weighting for Australian equities id 25%, with a maximum of 35% and 15% on the lower.

For international equity, your risk profile provides for 25% with an allowance to have an additional or less 10%.

Property should constitute 15% of the portfolio, and either an additional or less 5%.

Your risk profile indicates 18% as the recommended share of the portfolio that should be occupied by alternative investments. It also provides an allowance of 5% on either the lower or upper side.

The appropriate percentage weighting of Fixed Interest funds in the portfolio is 15%, with a high of 20% and 10% on the lower side.

Your risk profile also provides for 2% as the right amount that cash should constitute in the portfolio, and range of +/-5%.

Therefore, the superannuation should be changed to align with this risk profile and strategic asset allocation.

Besides altering the percentage weightings of Australian equities, international equities and property on the portfolio, we should add alternative investments, fixed interest investments, and cash.

My recommended asset allocation on your superannuation portfolio should align with your risk profile and strategic asset allocation that we came up with and agreed on after assessing the information you provided on the risk questionnaire.

As it stands, Australian equities have the most substantial percentage weighting in the portfolio with a total of 50%. This weighting is contrary to the recommended weightings in the strategic asset allocation, which provides for an average weighting of 25%, and a maximum of 35% and a minimum of 15%. To align the asset allocation in the portfolio with the recommended strategic asset allocation, the portion of the portfolio occupied by Australian equities should be reduced to the recommended proportion.

Currently, international equities make up for 20% of the portfolio. Although its percentage weighting of 20% is lower than the recommended average allocation as per your risk profile and strategic asset allocation, it is within the provided range as per the risk profile, which allows for a high of 35% and a low of 15%. Although your current portfolio was constructed before the creation of the existing risk profile, it is in line with the recommended asset allocation and should be left as it is. However, the two assets in the asset classes can be altered to maximise returns and minimise risk.

Australian properties make up for 30% of your superannuation portfolio. The recommended percentage weightings for properties according to the risk profile and long-term strategic asset allocation is an average of 15% with a minimum of 10% and a maximum of 20%. The current percentage weighting of 30% is higher than the recommended asset allocation. Therefore, to align the portfolio with your risk profile and strategic asset allocation, the percentage weightings for properties should be reduced to between 10% and 20% or the recommended average of 15%.

Your risk profile and long-term strategic asset allocation also recommend the inclusion in the portfolio alternative investments, fixed interest funds, and cash. These additional investments will help in risk reduction and diversification while increasing returns from the portfolio at the same time. According to the risk profile, the appropriate percentage weighting for alternative investments in the portfolio is an average of 18%, and a maximum of 23% and a minimum of 13%. Therefore, in aligning the portfolio with the recommended asset allocation and risk profile, we should add alternative investments with a portfolio percentage weighting within the recommended range. The risk profile also recommends that fixed interest funds should be included with a percentage weighting of 15%, and a minimum of 10% and a maximum of 20%. Therefore, we should include fixed interest investments to constitute 15% of the portfolio.

Cash is also a good investment and as the strategic asset allocation recommends, we should add a cash investment with a weighting of 2% of the portfolio.

The asset allocation as recommended by your risk profile will be helpful in both increasing investment returns and reducing risk. This way, we will align the portfolio to your risk profile.

In order to maximize returns while minimizing risk at the same time, proper portfolio management, asset allocation, risk management, and investment strategies must be developed and adopted. Based on your portfolio, risk portfolio, and objective of getting a return of 4.5% per annum from your portfolio I recommend a mix of strategies that will help be key to you attaining your investment goals.

Based on your goal of purchasing a property in five years’ time, the medium-term investment strategy is best suited to grow the non-superannuation while the long-term strategy will be successful with the superannuation portfolio.

For your portfolio management, I recommend that you adopt the passive asset management method. As it is, index funds account for 80% of your portfolio. Despite recently reading that there are chances in the market for fund managers to outperform the index, you still believe that fund managers cannot beat the market to attain abnormal returns. From the analysis of your portfolio, your two active funds are performing poorly. Both of them have a negative alpha, which shows they are not beating the market index as expected upon investment. I also recommend the passive management strategy because of its reduced costs because it does not need a fund manager.

I recommend the strategic asset allocation as the best suited asset allocation strategy for your portfolio. In this strategy, we are constructing your portfolio based on the guidelines of your risk portfolio. In this asset allocation method, all that will be needed is periodic rebalancing to take back the portfolio percentage weighting to what is ascribed in the risk profile. This strategy is important in helping to reduce risk in the portfolio without reducing portfolio returns.

Based on your goals and objectives, I would recommend that you adopt the value investing strategy when constructing your portfolio. With this strategy, the goal is to purchase assets at a price that is lower than their true value. This investment strategy will help to ensure guaranteed returns from investments.

In risk management, diversification is the best strategy. Risk diversification involves the addition of assets that are not correlated to property, and equities such as alternatives and cash in the portfolio. It can also be done by ensuring that the assets included within and across the asset classes are not form the same industry. With diversification, portfolio volatility is reduced without affecting the expected returns.

I recommend that you reduce the percentage weightings of your Australian Equities from 50% to the recommended 25% as per your risk profile and long-term strategic asset allocation. In line with this, I recommend that you reduce the percentage weightings of Vanguard Australian Shares High Yield Fund from 40% to 20%. Being a low-risk index fund with high past rewards, this fund should hold the significant portion of the asset class to ensure high returns and reducing portfolio risk.

I also recommend that you add a new product to the Australian equities asset class and replace it with the poorly performing Perpetual Wholesale Australian Share Fund. I recommend that you add Morningstar Australian Shares Fund of APIR code INT0022AU to your portfolio. Morningstar Australian Shares Fund is a large blend fund that was started in the year 2000, and its responsible entity is Morningstar Investment Management Australia Ltd: which is also the fund manager. The fund is an active fund whose objective is to maximize long-term returns by outperforming the S&P and ASX 200 index over a rolling 5-years period, which is one of your major investment goals. It has low management fee of 0.36%, which is low as compared to its peer funds. The fund mainly invests in listed Australian shares. As at 31 December 2019, the fund had allocated 100% to domestic equity. The minimum investment required by the fund is $10,000, which is possible based on the capital available in the portfolio. The fund is risk diverse as seen in its investment in different sectors of the economy. The fund invests in the energy, industrial, healthcare, financial, information technology, and real estate sectors. The fund also exhibits strong performance in the past having only failed once to outperform the index in the last five years, and has a positive beta of 0.14 (“Morningstar Australian Shares Fund” n.d). The fund also offers quarterly cash distributions to investors. Therefore, for enhanced portfolio performance, I recommend that you replace the Perpetual Wholesale Australian Share Fund with Morningstar Australian Shares Fund in the Australian equities asset class.

For the property, I recommend that you reduce the total weighting from 30% to 15% in line with the risk profile and long-term strategic asset allocation. In addition, I recommend that you sell Antares Listed Property Fund and replace it with Resolution Capital Global Property Securities Fund of APIR WHT0015AU. Resolution Capital Global Property Securities Fund is an international property fund that was started in the year 2008. Pinnacle Fund Services Ltd is the entity responsible for the fund and the fund is managed by Resolution Capital Limited. The objective of the fund is to outperform the FTSE/EPRA NAREIT Developed Index (AUD Hedged). The fund has a low management fee of 0.80% and has been consistently been outperforming the benchmark. The fund has been providing high returns to investors in the past five years, and its strong performance can be observed in its strong alpha of 1.55 (“Resolution Capital Global Property Secs” 2020). The fund mainly invests in international listed property. As at 31 December 2019, the fund had an allocation of 93.034% to listed property and 6.966% to cash investment (“Resolution Capital Global Property Secs” 2020). The minimum investment in the fund is $25,000, which is easily attainable in the superannuation portfolio. I recommend that you allocate 7.5% to the fund and the remaining 7.5% of the property asset class to be allocated to iShares Australian Listed Property Index Fund. Since this is an international property, it will help in geographical portfolio risk diversification unlike previously where all the funds were Australian.

For international equities, I recommend that we only rebalance the funds to the recommended weightings as per the risk profile. I think it would be prudent to have the two funds have equal percentage weightings of 12.5% to make a total of 25% of the portfolio. With this allocation the risk in the portfolio will be reduced while maximizing returns.

For the alternative investments, I recommend that you include Man Diversified Alternatives - Managed Fund of APIR MAN0004AU and Partners Group Global Value Fund (AUD) Wholesale Fund of APIR ETL0276AU in the portfolio. Man Diversified Alternatives - Managed Fund is an alternative fund that invests in a diversified portfolio. The fund has been performing strongly, and has an average annual return of 5.19%. to diversify the portfolio, the fund mainly invests in alternatives which make up 97.94% of the fund and cash with 2.06% (“Man Diversified Alternatives - Managed Fund” n.d). The Partners Group Global Value Fund (AUD) Wholesale Fund is also a strong performer with an average return of 11.7% (“Partners Group Global Value Fund (AUD)- Wholesale, 2019”). The fund diversifies its investments across geographies, and investment strategies to reduce its risk levels. These two funds are low-risk, high-return, and are not correlated to traditional assets, and therefore provide efficiency in the portfolio. The two funds should be allocated 9% each in line with your risk profile.

While aligning the portfolio to your risk profile, I recommend that you include Vanguard Australian Fixed Interest Fund (APIR VAN0001AU) as the and Vanguard International Fixed Interest Index Fund (Hedged) (APIR VAN0103AU) in your portfolio. These two funds provide a low-risk, low-cost, and high returns investment opportunity to investors (“Vanguard International Fixed Interest Index Fund (Hedged)” 2019). Besides providing a steady supply of income, the two funds will help reduce the local bias problem that was experienced in the portfolio earlier. I also recommend that you assign Vanguard International Fixed Interest Fund (Hedged) a 10% weighting and the rest 5% to Vanguard Australian Fixed Interest Fund as per the long-term strategic asset allocation.

Finally, you should include a 2% allocation to cash in your superannuation portfolio. Cash is an important investment in a portfolio. Although its returns are low, cash helps to reduce and diversify portfolio risk. Besides being a defence asset, cash provides liquidity which cannot be found in other assets. Returns from cash deposits are almost guaranteed.

For you to achieve your goal of purchasing a property in five years, a total return of 8.5% (income + growth) will be required from the non-superannuation investments. To attain a cash deposit of over $500,000, high return investments will be needed. I recommend that you invest in both Australian and international equities. I recommend that you incorporate in your non-superannuation the Morningstar International Shares (Hedged) Fund of APIR code INT0050AU, which offers an average total return of 21.18%. It is also important that the equity is hedged to cushion it from foreign exchange shocks. Morningstar Investment Management Australia Ltd is the issuing and responsible entity for the fund. The fund aims at beating the MSCI All Country World ex-Australia Index by investing in listed international shares using a diversified portfolio for reduced risk and enhanced returns. In line with your goal to buy a property in five years, the minimum timeframe for this fund is five years (“Morningstar International Shares (Hedged) Fund” 2019). I also recommend that you buy Ausbil Australian Active Equity which has a cumulative annual return of 27.18%. Ausbil Investment Management Ltd is the responsible entity and at the same time, the fund manager. The objective of the fund is to outperform the S&P/ASX 200 TR AUD benchmark by investing in a variety of Australian listed shares. I also recommend the fund because of its low management cost of 0.90% as compared to a high of 1.77% among its peers (“Ausbil Australian Active Equity-Managed Fund” n.d). Although risky, the two assets provide high returns. I also recommend that you invest in Australian Ethical Fixed Interest Fund and cash deposits in small percentages. Australian Ethical Fixed Interest Fund has an annual return rate of 6.7% (“Australian Ethical Fixed Interest” n.d). The fund is also socially responsible, which fulfils one of your investment goals of having exposure to such funds. For the two equities, assign each of them a 30% percentage weighting. For Australian Ethical Fixed Interest Fund and cash, allocate 30% and 10% respectively. This allocation is expected to provide at least a cash balance of $500,000 in the next five years.

I have no incentive to advise you to invest in one or the other product. Therefore, I do not have any relationship with asset responsible entities that can cause conflict of interest as I offer you advise on your financial situation.

You will be charged a fee of $3,850, which is inclusive of Goods and Services Tax. These are the charges for the limited SOA, and also covers investment implementation.

During this session, I will provide you with investment advice for both your superannuation and non-superannuation. My advice does not touch on your personal risk cover. Also as requested, we will not touch on your estate planning issues. Therefore, this advice is limited to only your superannuation and non-superannuation.

Before you sign this authority:

· Please ensure that I have provided you with my Financial Services Guide (FSG).

· Make sure that I Have availed to you all the product disclosure statements (PDS) for all the products that I have recommended.

· You should ensure that I have informed you about any conflict of interest that may come up during my advice and how I have addressed it.

· Finally, make sure that you have understood everything that we have discussed because I addressed your personal situation, and financial goals by answering your questions and using a simple and understandable language.

Do not sign the authority to proceed if I have not met any of the abovementioned conditions.

Before signing the authority to proceed, ensure that:

· You have read all the documents that I have provided.

· That you have gone through this document and your personal information contained herein is accurate.

· And you do not have any doubt or unanswered queries.

By signing this authority form, you agree to representatives of KLM Financials to apply for the products recommended in the Statement of Advice on your behalf.

The cost of implementation is included in the $3850 fee charged for the limited statement of advice.

I recommend that financial needs and products be reviewed at least once annually to keep up with changes in your goals and personal circumstances. Inform me if you are interested in having an ongoing review service, so I can provide you with details of services and costs.

Interest from cash deposit:

1.5/100×350,000

= $5,250

Non-superannuation:

To get to a balance of $500,000, $150,000 more is needed in the next 5 years.

Therefore, a total return of $30,000 p.a is needed.

This equals 30000/350000×100

= 8.6%

To attain the property goal, your non-super portfolio must provide return of at least 8.5%.

Superannuation allocation:

Non-Superannuation allocation: