Are you trying to chase last years returns?
One of the hardest urges to resist when it comes to investing is to not get caught up with the herd or the “group think of a market place”. This happens in all investment asset classes, and to some degree, why we see bubbles occur in a range of asset classes. The main cause of the problem is that people start to extrapolate the returns out into the future as if this is the new norm.
One sector we have been closely watching has been the fixed interest market. Last year the fixed interest market in Australia on the 1 year return was 10.93%. This return was broken down into 4.54% in gross income and 6.39% in capital growth. Unlike a term deposit, a bond can increase in value if the market conditions are just right. For any cash or fixed interest investment this is an incredibly enticing return! Equally the bond can drop in value if interest rates were to ever rise in the future.
It can often be hard for an investor who is sitting in a term deposit earning between 2-3% p.a. and be tempted to take the jump into a fixed interest market which last year produced a return of 10.93% which is 3 times the return.
It is important to also understand however the risk profile changes from this jump from a term deposit to a bond in that a bond can be a risker instrument than a term deposit.
The important points to consider before one might take the jump, is this notion of extrapolation. Will markets conditions in the coming year be conducive to produce a similar return as last year? Or has the market environment changed?
This is the questions we often think about particularly when we are looking at an investment. There are some investments where you can hold for a number of years and their investment integrity retains allowing you to hold these investments for a long period of time – and in some cases maybe forever. Others however might be just for a few years.
It will be interesting to see if the fixed interest market will produce such a stellar return again in the next 12 months, or if the term deposit investors will be thankful they did not make the jump to another asset class chasing last years return. A lot will come down to if there are further interest rate drops in the Australian market place by the RBA.
Like any great investment idea it is important that you seek professional guidance, and we would recommend speaking with our friendly team at AJ Financial Planning.