24th September 2008
Fixed Interest Investing
Lending money in return for interest is a form of investing nearly everyone is familiar with. You may remember it from your early days when you were asked by friends at school if you could lend them a dollar (or a shilling). Why would you lend them your money? What was in it for you? If they offered to give you something in return, then you probably would have been happy to offer them your services. If you thought they were not going to repay the loan, you probably would have told them that you didn't have any money. Investing in fixed interest is very similar to the above scenario and we all lend money every time we deposit money at the bank, building society or credit union.
The financial world has a host of other fixed interest products that you can invest your money in, all with the same common fundamental features. They all promise to pay you interest, and to pay back what you lent them within a set period of time.
You will generally earn a higher rate of interest if you lend your money for a longer period of time, or if the perceived risk is greater that the borrower may not be able to repay your loan. It is also important to consider whether or not the borrower will be able to repay the capital at the end of the term.
Two different types of lending
There are 2 main ways you can invest your money for interest:
- Direct lending (fixed interest products) - which include putting your money into interest earning deposit accounts with banks, building societies and credit unions and investing in finance company debentures, bank bills, Government and corporate bonds.
- Indirect lending (managed fund products) - through managed funds such as cash management trusts, bond trusts, mortgage trusts and other managed funds that may invest in a wide range of loans. Investing indirectly through managed funds helps spread risk across a larger number of borrowers.
Where does lending money fit into your investment plan?
There are some basic issues that you should consider before choosing an interest bearing investment product. As discussed in previous Investment News, all good financial plans will divide your money among a range of investment types, in order to spread risk.
Having some of your money invested in interest bearing investments may help reduce your risk. Fixed interest investments have been popular with investors for a long time as they allow investors to:
- park money for a short time. For example, if you have just sold your house and are waiting to purchase another, you may invest in a term deposit or a cash management trust for the short term until you need the funds;
- hold money that you cannot afford to lose, for example, money to cover emergencies, or unexpected expenses;
- save the money for a large expenditure you're planning in 2-3 years time. For example, a trip overseas, deposit on a car or house; or
- reduce risk in your investment portfolio. Companies in which you own shares may reduce or suspend dividends, or you may have trouble letting your investment property, so if you depend on your investments for all your income (retirees for example), it might be reassuring to know that you will still get income from interest bearing accounts. Superannuation funds and investment managers may use such forms of investment to reduce income risk, especially in falling share markets.
As lending money will generally only offer modest returns, experts tend not to recommend this form of investment as a way to build your wealth. After all, you get back only the money you originally lent, so you rely entirely on the interest to:
- preserve the spending power of your money against inflation;
- give you an income; and
- compensate you for the risk you take that the borrower may default, that is, not pay you your interest or give you your money back.
It is important to remember that if you are looking to use fixed interest investing as a long term growth option, you may want to consider compounding the interest. This involves reinvesting the interest payments that are paid. Over a long period of time it can make a significant difference.
What security do you have?
If you lend money, it's vital to know exactly who is borrowing it. Find out what security is being offered for the loan. If a borrower cannot pay back your money, a secured lender may get something back from the sale of whatever secured the loan.
Just about anything can be offered to secure a loan, for example:
- registered first mortgages over owner-occupied residential property;
- 'charges' (a kind of mortgage) over company assets such as plant, equipment and inventory; and
- bills of sale over items ranging from cars to paintings.
As the lender, you must judge how much the security is worth if the borrower should default. For example, banks may lend up to 95% (or more) over residential property, but far less over vacant land or goods for sale.
What La Trobe has to offer?
The La Trobe Australian Mortgage Fund offers several different investment options to generate income. These investments vary in the rate of return and length of term offered. The Cash & Mortgages Option invests in mortgages of short duration, cash and bank bills. This is what is commonly referred to as a holding account. You can have ready access to your money by giving 24 hours notice**. If you are looking for a higher return and longer investment term, La Trobe also offers the Pooled Mortgages Option. The Pooled Option invests in a wide range of mortgages in a range of industry sectors, with geographic diversification across Australia, retaining lower cash than the Cash & Mortgages Option. The investment term for the Pooled Option is twelve months**. The remaining investment options that the Fund offers are the Select & Special Situation Mortgages Options. These Options aim to provide investors with the opportunity to invest in individual mortgages. A 'shopping list' is provided to investors who can hand pick individual mortgages that may fit their investment criteria. If you require any further information on these investment options please feel free to contact the Investor Liaison team at the toll free Investor Services number 1800-707-707.
**Withdrawal rights are subject to liquidity and may be delayed or suspended.
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Head of Funds Management
t +61 3 8610 2811
Chris Andrews is the Head of Funds Management for the La Trobe Group and has responsibility for the La Trobe Australian Mortgage Fund.
Read full profile here.
La Trobe is one of Australia's leading independent specialist mortgage Financiers. Its business includes residential mortgages, commercial mortgages, and investment services operating one of Australia's largest Mortgage Funds under AFSL 222213. It employs over 115 staff and has raised over AUD$10Billion to assist over 100,000 customers since inception in 1952.
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