12 February 2015

For the term of your natural life

Remember the good old days? When you could put your money with a bank and receive a real return? That simple experience is drifting further and further away from Australian investors today. Interest rates continue to fall and the press celebrates the effects on borrowers, forgetting about Australian savers and investors who rely on interest income to live. What’s more, banks are now putting more and more barriers around those deposits. The term deposit game is genuinely changing.

In this edition of Investor Insight we take a closer look at the changes that are occurring in the world of term deposits and what the future might hold for Australian investors looking for reliable income.

Term deposits in the global financial crisis...

As we’ve previously written, much of what is currently occurring with term deposits can be better understood if we first reflect on the events of the global financial crisis (GFC). On 15 September 2008, Lehman Brothers, one of the oldest and largest investment banks in the United States, collapsed and filed for bankruptcy as a direct result of its investment in highly complex, derivative assets. This was the symbolic epicentre of the GFC and was followed by years of dislocation in markets and economies across the world.

The Australian financial system had substantial potential exposure to the effects of the GFC. Our major banks were funding less than half of their balance sheets from domestic deposits and were heavily reliant on international financial markets. The GFC sent shockwaves through these markets, as the world’s banks wondered nervously which of their counterparties would become the ‘next Lehman Brothers’.

The response from the Australian government came on 12 October 2008, when it announced that it would guarantee deposits made with Australian banks. In effect, it was telling the world that – even if an Australian bank became the next Lehman Brothers – the Australian government would ensure that depositors would be repaid in full. This guarantee covered both wholesale deposits (until 31 March 2010, when the wholesale scheme closed to new liabilities) and retail deposits (currently still in force, but only to a total guarantee of $250,000 per retail account).

Simultaneously, the Australian banks reacted to reduce their exposure to the international money markets that had proved to be so vulnerable to panic. Their primary tool was the offering of higher interest rates on deposits. This ushered in a golden period of deposit interest rates for Australian investors. Each day it seemed that a new bank was offering a new interest rate special. Even as the official cash rate decreased in response to the economic effects of the GFC, bank deposit rates continued to climb. At one point, it was possible to secure a five year fixed term deposit rate at major Australian banks for 8% p.a. Times were good indeed.

... and the inevitable decline...

Of course, this was all too good to last. The banks were successful in rebalancing their funding mix and retail deposits had become a very expensive source of funds. In response, they began to reduce the rates that they were paying their depositors. This process was inexorable and largely independent of movements in the official cash rate. Indeed as the following graph shows, the story of the last four years has been the story of the reduction in retail deposits rates.

The situation for term deposit investors is now dire. Rates are barely positive in real terms – meaning that investors are struggling to keep up with inflation, let alone to generate surplus income on which to live. What is more, consensus projections for interest rates are that – far from recovering – interest rates are likely to remain stable or even decrease further in the months and possibly years ahead.

New regulations making it harder for term deposit investors

The Australian government and banks were not the only institutions reacting dramatically to the GFC. In Basel, Switzerland, the world’s oldest international financial organisation, the Bank for International Settlements (BIS) coordinates discussions between the world’s central banks (including our own Reserve Bank of Australia) in an endless quest for financial stability. The BIS hosts the highly influential ‘Basel Committee’, which is the primary global standard-setter for prudential regulation of banks.

The Basel Committee’s responses to the GFC came in the form of a comprehensive set of reform recommendations known as ‘Basel III’ (superseding the Basel II regime). These recommendations affect how banks manage their capital and liquidity. And these recommendations are affecting Australian term deposit investors right now.

Many investors have already informed us that they have received unusual notices from their bank. As term deposits come up to maturity, many banks have been writing to their depositors to notify them of ‘new terms and conditions’. In short, the new terms and conditions generally require that investors give 30 days’ notice to banks if they wish to take out money from a term deposit before maturity. Sitting behind this change are the Basel III liquidity requirements that seek to ensure that banks have stable and liquid funding structures to deal with any future financial crises.

Whilst these regulations may be sensible from a financial system point of view (and our view is that they are), they are just another obstacle for poor, battered term deposit investors.

What are the alternatives?

Given all of this, it is hard to see a sensible case for substantial exposure to term deposits for most investors. Whilst they are a good source of capital protection, their low rate of return means that portfolios will, at best, just keep up with inflation.

Therefore, investors are forced to look further for income producing investments. Bonds are a traditional option, but there are fears that they are experiencing a price bubble that could burst at short notice, leaving investors with substantial capital losses. Hybrid notes have been popular in some circles, but their complexity makes them unsuited for most investors.

Then there are equities. This has been a very popular strategy for some years, as investors chase dividends and franking credits. But with many analysts assessing the Australian stock market as over-valued, capital value remains at risk.

La Trobe Financial’s investment options offer another alternative. Our ‘peer to peer’ investment options allow investors to choose individual loans from our Investment Shopping list that suit their own needs and objectives.

Click the image below to view La Trobe Financial’s Investment Shopping List

Meanwhile, our flagship Pooled Mortgages Option (PMO) is built around portfolio conservatism to provide outstanding capital stability for our investors. The portfolio comprises 1,381 individual first mortgages (at 31 December 2014) with low average (60.99%) and maximum (75%) loan to value ratios. It is diversified both by geography and sector to ensure that any localised economic softness does not affect the performance of the portfolio as a whole.

It’s a powerful offering that has won Money magazine’s ‘Best Mortgage Fund in Australia’ for the last six consecutive years and that has received the highest ever rating for a mortgage fund from SQM Research (4.25 stars – Superior).

There are plenty of alternatives. All come with their own advantages and disadvantages. All have a place in investors’ portfolios. So – whatever you do – don’t just blindly continue down the same old path, investing and reinvesting in term deposits because ‘that’s what you’ve always done.’



Whatever market you’re in... we hope it’s profitable.

Best regards,
Randal Williams, Chief Investment Officer &
Chris Andrews, Head of Funds Management
La Trobe Financial Asset Management Limited



La Trobe Financial is one of Australia's leading independent credit specialist Fund Managers. Its business includes residential mortgages, commercial mortgages, and investment services operating one of Australia's largest Mortgage Funds under AFSL 222213. It employs over 123 staff and has managed over AUD$10Billion covering over 100,000 investment grade assets since inception in 1952.

Copyright 2014 La Trobe Financial. All rights reserved. No portion of this may be reproduced, copied, or in any way reused without written permission from La Trobe Financial. Disclaimer

The following awards and ratings were given to the Pooled Mortgage Option within the La Trobe Financial Mortgage Fund and may be viewed on our website

Ratings And Awards

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La Trobe Financial Asset Management Limited ABN: 27 007 332 363 and AFSL No: 222213 is the issuer and manager of the La Trobe Australian Mortgage Fund. It is important for you to read the Product Disclosure Statement for the Fund before you make any investment decision. The PDS is available on our website www.latrobefinancial.com or by calling 1800 818 818. You should consider carefully whether or not investing in the Fund is appropriate for you.
- The rates of return from the Fund are not guaranteed and are determined by future revenue of the Fund and may be lower than expected. Investors risk losing some or all of their principal investment. The investment is not a bank deposit.
- Past performance is no guarantee of future performance.
- Withdrawal rights are subject to liquidity and may be delayed or suspended.
- The award and ratings were given to the Pooled Mortgages Option within the La Trobe Australian Mortgage Fund.
- Any rating is only one factor to be taken into account in deciding to invest.

La Trobe Financial Services Pty Limited - Australian Credit Licence Number: 392385
La Trobe Financial Asset Management Limited - Australian Credit Licence Number: 222213

1. Zenith's "recommended" rating indicates that it has high confidence in the manager meeting its objectives. The Zenith Investment Partners ("Zenith") ABN 60 332 047 314 rating referred to in this document is limited to "General Advice" (as defined by section 766B of Corporations Act 2001) and based solely on the assessment of the investment merits of the financial product on this basis. It is not a specific recommendation to purchase, sell or hold the relevant product(s), and Zenith advises that individual investors should seek their own independent financial advice before investing in this product. To view the relevant research information, please visit www.latrobefinancial.com The rating is subject to change without notice and Zenith has no obligation to update this document following publication. Zenith usually receives a fee for rating the fund manager and product against accepted criteria considered comprehensive and objective.
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