The Yin Yang, a symbol of two opposite yet complimentary energies is a concept that plays a significant role in the lives of millions of Australians who are reliant on cash for income in retirement.
A Yin Yang is a great way to visualise the relationship that exists between depositors and lenders. Depositors who save their cash with banks with the aim of receiving the highest possible interest paid as income. On the other side are the lenders, who try to obtain this deposited cash as cheaply as possible to lend out to borrowers and earn interest on the loans as their income.
Without one the other would not exist and in fact, the breakdown of this relationship is what contributed significantly to the GFC of 2008.
The tussle that takes place between depositor and lender is a delicate one which is manipulated by the Reserve Bank, bank shareholders and depositors.
BANKS TRY TO OPTIMISE PROFITS
On the Yin side of things, the banks have to try to optimise profits for shareholders. However, they also need to continue to entice depositors with reasonable rates on deposits to encourage savings and provide the banks with the cash to lend.
Not to trivialise things but banks also have a few other challenges, in this low-interest environment, we find ourselves in, including shrinking margins, stricter lending practices, lower appetite for loans due to high consumer debt worries and a sluggish economy.
For banks, it’s very much a balancing act between so many different financial, regulatory, economic and public opinion lines. The reality is that something always has to give and in most cases, it’s you the depositor who takes the brunt of it.
DEPOSITORS WANT TO OPTIMISE THEIR INCOME
The Yang side of things is really not that different, where you have your hard earned cash which you wish to invest as securely as possible, to produce an income to meet your standard of living.
As depositors you don’t get to set the interest rates paid on your deposit, instead, you can only control where you invest it, and what instrument you use. Likewise, however, there are challenges around investing which can impact this.
- Low-interest rates mean you are currently earning less per dollar invested than ever before, which places pressure on your personal finances.
- Inflation, although comparatively low, is still eating into the real value of your interest income reducing how much you can purchase each year.
- Higher interest cash products like Term Deposits require you to lock away your capital before a period of time generally at least 3 months. This may create an issue for you if you may need access to the capital as well.
- Changing banks to achieve marginal interest rates benefits, like 0.1% to 0.2% more, may be considered more of a pain in convenience and organisation, than the benefit of the additional interest. On $10,000 the benefit of 0.2% would be $20.00 p.a.
- To increase your income, you may need to look into different investment assets which requires taking on more risk. Arguably some additional knowledge or assistance may also be required.
WHAT’S AN INVESTOR TO DO?
In a low-interest environment, although it’s tough, the winners are still the borrowers and the losers are the depositors. This means that at the moment if you are reliant on interest rates from cash for your income then things may be a bit tough.
Unfortunately, the Australian economy is not providing any indications that we will see any rapid rate rises in the near future. With our country’s slow wage growth, timid economic growth, increasing indebtedness and a cautionary stance towards lending, it’s likely that cash interest rates are likely to remain low for some time.
So this poses the question, “What is an investor to do to optimise their cash-based interest income?”
First of all, it’s important to realise that the biggest power an investor has is diversification. The ability to choose where to put their money and to spread it around different assets classes and types. With a plan and some risk management, it can help to achieve your investment goals.
Some of the steps below may assist you to evaluate your circumstances and the investment opportunities to increase your passive income include:
- Review your cash needs and spread between cash products – Cash products come in a variety of different forms from transaction accounts, to savings accounts to term deposits. A firm understanding of your regular cash needs may help you free some cash from the lower interest-bearing accounts and shift them to the higher accounts. e.g. $10,000 in a transaction account paying 1.5% p.a. ($150) versus a savings account which could earn you 2.8% p.a. ($280).
- Optimise other assets for income – if you have other investment assets that are, or could be producing income for you, see how they are currently performing. Other investment assets like shares or managed funds could be optimised to increase the income they provide you which can supplement the interest rate shortfall.
- Check your tolerance to investment risk - You may find by spending some time evaluating your tolerance to risk and comparing this to your current asset allocation, that you may be overly exposed to these cash assets which are limiting your income potential.
- Review things regularly - Unfortunately, we never know when and how fast rates will turn when things start to move. Therefore it's always worthwhile reviewing your circumstances and all of the above at least every 6 months so that you can ensure that you remain in good shape and you can act when opportunities occur.
There is little doubt that it is a challenging time for depositors and the banks to strike an amicable balance in this environment of low-interest rates and slow economic growth.
We know for sure that once all the finger pointing is done, that both sides, the Yin, and the Yang, just have to get on with trying to optimise their own self-interest to get the best possible solution for themselves. Knowing full well that what happens on one side will affect the other.
If you would like some assistance to evaluate your situation to help optimise your fixed income, then RSM can help.
A RSM Investment Specialist can assist you to clarify your financial goals, review your current circumstances and work with you to optimise your investment income structures.