According to the Financial Stability and Payment Systems Report 2015 by Bank Negara Malaysia (BNM), Malaysia’s household debt-to-gross domestic product (GDP) ratio had increased by 2.3% to a whopping 89.1% last year. In fact, we have one of the highest debts in the region, alongside Thailand.
Household indebtedness has been on the rise in the past eight years. According to the latest data, it is at an frightening amount of RM1,010.8 billion!
Malaysians find themselves borrowing extensively to fund their lifestyle that gets more expensive each year as the rising cost of living diminishes their purchasing power over the years.
Based on the same report by BNM, the biggest contributors to the high household debt in the country is residential properties, followed by personal financing, motor vehicles and non-residential properties.
Unsustainable household debt and leveraged households can eventually choke consumer spending. As a result, consumer confidence will suffer. This can lead to stunted economic growth for the country.
What’s clear today is that Malaysian’s aren’t going to stop borrowing as the cost of living keeps going up. So while we can’t tell everyone to stop borrowing, what we can do is help you find ways to comfortably pay off your borrowings while also minimise your interest payments.
Tapping into your home equity
Bank Negara said that despite the elevated household indebtedness, the risks have eased due to the higher asset quality making up a huge chunk of the debt.
The value of properties in Malaysia has been increasing over the years, which means assets are growing in tandem with debts. The average house price in Malaysia has increased by 60% from 2010 to 2015.
Based on the graph above, most residential properties in the country saw a hike in value in 2015. For example, the value of an average home in Selangor has increased by 6.20% per annum.
While homeowners are struggling to meet their mortgage payments and also keep up with the rising cost of living, many have overlooked the potential sources of extra cash from this growing equity.
But what is home equity? Home equity is determined by the loan-to-value (LTV) ratio of the home and the ratio requirements of the lender, such as the financial institution.
|Annual increment of property value||6.20%|
|Property value in Year 7||RM685,621.00|
|Total mortgage debt in Year 7||RM414,082.00*|
* Assuming interest rate of 4.50% per annum and monthly instalment of RM2,052.
If the lender offers a line of credit for your home equity, this means RM134,414 will be available as overdraft for you at an agreed interest rate with the bank.
The smartest way to use your positive equity
Sounds like easy money? Making use of your home equity should be done prudently and only for a number of specific reasons.
A home loan overdraft facility allows you to borrow against the equity of your property at a pre-determined interest rate as well as repayment terms and conditions set by the bank.
Using your home equity should best be for things that can bring you returns or reduce your costs in the long run. One good example would be to consolidate your debts so you can save on interest, especially if they involve revolving and expensive credit facilities such as credit cards.
A home loan overdraft facility allows you to consolidate a few balances into a single credit facility, usually at a much lower interest rate. This doesn’t just simplify your life, it can potentially reduce your borrowing costs dramatically through a single lower interest rate and allowing you a longer tenure to pay off your loans. You also have the option to pay just the interest amount on the overdraft to give your finances more breathing room.
For example, if you have a few debts that you would like to consolidate into a cheaper loan, you can consider tapping into a home loan overdraft facility. Here’s how it works:
Interest Rate (p.a.)
* Amount shown refers to the first minimum payment, subsequent minimum payment will be 5% of total outstanding.
That’s a lot that you need to pay for each month! What if we told you that you could reduce your monthly repayment by 50% (or more)? Here’s an example of how debt consolidation could work in your favour using the Alliance Bank’s home loan overdraft facility at 6.88% per annum if we wanted to halve the monthly commitment:
|Total overdraft amount||RM100,000.00|
|Interest rate||6.88% p.a.|
|Repayment duration||4 years 5 months|
|Total interest incurred||RM30,386.67|
So, what are the benefits and savings you stand to enjoy by consolidating your debts with an overdraft?
|Total repayment duration||
5 years and 6 months!
|Total interest paid|
|Debt to income ratio*|
The best thing about consolidating your debts using a home loan overdraft facility is not just the interest savings, it’s the flexibility for you to adjust your repayment. On the months when money is tight, you can always reduce your repayment amount and stretch the repayment duration a little longer. You will not be able to do so if you consolidate your debt using a term loan, such as a personal loan, where you’ll end up incurring harsh fees for missing payments plus you’ll take hits to your credit rating.
Sometimes paying off debt seem to be an impossible mountain to climb. If you were to stick to the minimum payment each month, it would take six years and two months to settle one of the credit card bills in the example above. You can shorten your repayment period with an overdraft.
In the example above, the overdraft period is five years, but you can shorten that further by increasing your monthly repayment.
Letting the ball drop on your repayments can be a disaster. This is why debt consolidation is good for you as you will only need to deal with one lender, and make a single payment on one due date. This makes life so much simpler and easier.
Taking up a home loan overdraft like one offered by Alliance Bank comes with many perks beyond just the lower interest when you’re consolidating your debts:
Using your home equity to repay your debts will help you regain control of your finances. Doing so doesn’t just help you repay your debts at a cheaper cost and much faster repayment period, it also frees up your debt-to-service ratio (DSR). This improves your credit health, making it easier for you to apply for other credit facilities.
Sold on the idea of leveraging on your home equity to pay off your debt? A note of caution with using overdraft for debt consolidation: It takes discipline for it to work. If you are not prompt with your payment every month, you will run all your balances back up again and find yourself in worse shape than before.
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With every decision you make, there are usually two scenarios: the best and the worst. The same goes to investment. However, we all know that not investing is no longer an option for us due to the rising inflation, cost of living and also global economic uncertainties.
If you decided to plop your savings in a fixed deposit (FD) account, the best scenario would be your FD interest rate of 4% matching the inflation rate. However, your net worth growth would be flat in the best scenario.
But the worst scenario would see your FD interest rate of 4% being crushed by the inflation of 6% or 8%. In this case, your actual net worth growth is depreciating!
If you choose to invest, the best case scenario fares much better than the best case scenario of not investing. Shunning investment due to risks does not make sense as you can see, not investing your money is equally risky.
Yap Ming Hui, a bestselling author, TV personality, columnist and coach on money optimisation, from Whitman Independent Advisors, shares with Iris Lee, editor of iMoney.my on why investment is more important than ever in this day and age.
“If you invest, and you are lucky (and of course, you do your research well) and your portfolio grows very fast, your net worth will likely increase. And the worst case scenario? If you are unaware and do not understand the above types of risk, you will end up losing your capital,” adds Yap.
Sounds scary. But it is a common myth that all investments are inherently risky. Sure, there are many types of investments that are high risks, but there are also lots of rock-solid investment products that deliver consistent profits no matter what the economy is doing. Besides if you don’t invest you have no chance of being better off anyway.
“The dilemma most Malaysians face is: If I don’t invest, it’s a dead-end. But if I invest, I may die faster,” Yap says, adding that many Malaysians do not know what are the risks involved, and they also don’t have the time to properly understand the investment products and how they work.
To manage your investment risks, you have to find the sweet spot between the best case scenario of investment and also the best case scenario of not investing.
To reach that sweet spot between the best case scenario for investing and the best case scenario for not investing, “money optimisation” needs to be in place. To optimise your money, you need to look at your financial health as a whole and that calls for a holistic investment plan.
A holistic investment strategy
“What is the objective of your investment?” Yap asks.
Most people would answer, to see a return, or to protect their fund from being eroded by inflation. This view is limited to the sum of money you invested.
The key to ensuring your investment portfolio is holistic strategically is to have the right investment objective. Most people confuse financial goals with their investment objective. Goals are saving for retirement, saving for your child’s college fund or perhaps buying a property. However, investment objective encompasses all of them and look at your financial well-being as a whole.
One should focus on the growth of net worth instead of the growth of one’s investment. What’s the difference?
Net worth looks at the big picture – even your assets and money that are not within your portfolio. Most investors make the mistake of focusing only on the risk and the return for the RM100,000 they have invested. They missed out on many other factors that could be affecting their net worth growth.
Yap shares the four main factors that affect one’s net worth:
“However, to effectively strategise and manage your investment, as well as mitigate all possible risks, one should always look at the net worth, not just the investment capital,” Yap stresses.
“Most investors only manage the risks and returns for their investments only, but not on other aspects of their finances. There are other risks that are left unmanaged, such as insurance coverage gap.”
For example, you may be holding an employer’s insurance policy, which may not cover all illnesses or treatments. If you fall ill and require a minor surgery, you will have to fork out a few thousand bucks from your pocket to cover that.
“The other two factors that are often neglected are savings and cost. Many people do not know if they are saving enough or how much they are spending to invest. Neither are they aware of the costs involved in growing their net worth. If you manage the cost well, you can minimise the down side. High cost will inhibit your net worth growth,” Yap explains further.
Get your objective right
To manage your net worth holistically, you need to shift your mind-set. You should be investing to grow your overall net worth.
Based on the above infographic, there are many things that make up a person’s net worth – not just their investments. However, if one fails to manage the risks that may affect the other parts of a person’s net worth, then the growth of his or her investment portfolio may not be sufficient to cover the losses or costs incurred in other parts that make up your net worth.
You may be growing your investment portfolio really well, but if there is an insurance coverage gap not addressed, you may have to pay thousands of Ringgit when emergency arises. This is akin to putting money in one pocket, and taking out more money in another.
When asked what the consequences of investing with the wrong objective in mind are, Yap replies, “Having the wrong objective will result in the investor missing out on many factors that are affecting his or her net worth. These factors left unmanaged can result in uncertainties in your net worth growth.”
Though income and net worth are intricately linked, many experts argue that a sizeable net worth is more crucial for your long-term financial well-being (read: retirement and financial freedom) than generating a high income.
Investing to increase your net worth would present a different sets of risks than merely managing your investment portfolio. By setting your objective right early on, you would not be blindsided by unknown risks in your journey to financial freedom.
Remember, net worth is not a concept that is exclusively for billionaires, and the more you grow your net worth, the closer you are to achieving goals.
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This article is sponsored by Securities Commission Malaysia, under its InvestSmart initiative.
Before investing in a company, there are many things to consider such as the company’s profit track record, its business model, annual earnings, growth projections and its P/E ratio. However, for Special Purpose Acquisition Companies (SPACs), none of this information would be available during its initial public offering (IPO).
Without all the necessary information to make an investment decision, what can potential investors rely on? Read on to find out.
What are SPACs?
A SPAC is a corporation which has no operations or income generating business at the point of IPO and has yet to complete a qualifying acquisition (QA) with the proceeds of such offering. In simpler terms, a SPAC is basically a publicly-traded buyout company that raises money to pursue a merger or acquisition of an existing company. SPACs raise monies through an initial public offering (IPO) for an unspecified acquisition in a targeted industry. A substantial portion of the monies raised would be placed in a trust and if an acquisition is not made within a specified period, the monies held in trust would be returned to investors.
SPACs have no operations or income generating business at the point of its IPO, but will utilise proceeds from the IPO to undertake mergers or acquisitions. It is effectively a group of experienced industry specialists coming together to raise money through investors for a business venture, and the success of the SPAC is entirely dependent on the quality of its management team.
A SPAC operates like a reverse IPO. As it has no assets prior to its IPO, its listing is also sometimes referred to as a ‘blank cheque IPO’. Investors in a SPAC typically buy a unit and receive a warrant, which trades separately and can only be exercised when the company completes a takeover. Once the qualified acquisition has taken place, the shares will continue trading as a regular listing on the stock exchange.
The structure of SPACs is similar in most countries, with about 90% of the IPO funds held in a trust until a takeover target is found. Because the IPO proceeds are invested in Government bonds or money market funds until the SPAC makes an acquisition, in theory the returns should mirror those of a fixed-income fund, but that is not necessarily always the case.
Suitability of SPAC for investing
A SPAC must place at least 90% of the gross proceeds raised in its IPO in a trust account immediately upon receipt of all proceeds. The monies in the trust account may only be released by the custodian upon termination of the trust account. The trust account may only be terminated if the QA is completed within the permitted time frame, or upon liquidation of the SPAC.
From the SC’s perspective, the suitability for listing of a SPAC is assessed on a case by case basis, and may take into account any factor it considers relevant. The SC may refuse to approve an application notwithstanding the requirements contained in the Equity Guidelines if the SC has reason to believe that the approval of the application would be detrimental to the interest of investors or contrary to public interest. In assessing the suitability for listing of a SPAC, the SC will take into consideration, among others:
- Experience and track record of the management team;
- Nature and extent of the management team’s compensation;
- Extent of the management team’s ownership in the SPAC;
- Amount of time permitted for completion of the qualifying acquisition prior to the mandatory dissolution of the SPAC;
- Percentage of amount held in the trust account that must be represented by the fair market value of the qualifying acquisition; and
- Percentage of proceeds from the initial public offering that is placed in the trust account.
Under the SC’s Equity Market Guidelines, SPACs are given 36 months from the date of the IPO listing to make a QA by utilising up to 90% of its funds or a minimum of RM150 million.
Additionally, the resolution on the QA must be approved by a majority in number of the holders of voting securities representing at least 75% of the total value of securities held by all holders of voting securities present and voting either in person or by proxy at a general meeting duly called for that purpose.
Why should investors consider investing in a SPAC?
With the stringent regulations put in place by the SC in its approval process, the emphasis is on ensuring that the management team’s experience and track record commensurate with the SPAC’s business objective and strategy, whilst the management team’s compensation and reward structure commensurate with the potential returns to public shareholders. Ensuring the needs, interests and concerns of investors are met will also ensure that the potential of SPACs can be fully realised.
Aside from its investment value, SPACs have an important role in encouraging and stimulating the growth of their respective industries. This is because their key management consists of experts in the field. Thus, they are able to exploit the opportunities available and create values based on their strong foundations in trade and market knowledge.
SPACs also offer an opportunity to invest in a potentially high growth company with a risk exposure of about 5% to 10% (not guaranteed), while the returns can be as high as 3 to 4 times (not guaranteed) depending on the value created upon the SPAC’s QA.
Additionally, the funds raised from the IPO are “protected” as they are placed in a trust fund which will be returned to investors if and when the SPAC cannot meet the deadline set. All investments to be made by a SPAC will be scrutinised by independent third party experts, the regulator and even shareholders themselves.
SPACs represent a promising new investment platform for investors with a stronger risk appetite and looking to get into an investment at the earliest possible opportunity.
What should investors pay closer attention to when investing in a SPAC?
- Low-Cost Entry
Imagine being offered the opportunity to buy into Facebook when Mark Zuckerberg was still in his Harvard dormitory (or Bill Gates or the late Steve Jobs, for that matter). Unlike traditional IPOs which bring established capitalised assets, employee productivity and revenue streams to the market, SPACs offer investors a unique opportunity to buy into a company at the beginning of its business development and growth cycle. Due to the fact that they have nothing (hold no assets) at the time of listing, SPACs present a unique opportunity for retail investors to participate in the start-up of established and operational private companies that are usually only accessible by private equity or hedge funds.
- The Management Team
The founding stockholders or promoters, who usually hold up to a 20% stake in SPACs, are the brains behind the operation of a SPAC. They would bring with them a distinct blend of first-hand industry knowledge and experience, asset transaction and risk management expertise and experience, their own entrepreneurial spirit, and profit motivation and a desire to create value for their shareholders.
- Risks & Returns
SPACs may be asset-less at the time of listing, but they do have a business plan that is as detailed and robust as that of any IPO. No two SPAC business plans, models and strategies would be alike. However, due to market pressure to execute a QA quickly after listing, SPACs can fail at the point of making their QA because the due diligence process was rushed, or they bought a QA that was in a sector that was outside of the management’s expertise. As a shareholder, one would need to understand the SPAC strategy and realise that selecting the right asset that fits the SPAC strategy may take additional time to ensure that quality assets are delivered and shareholder value is not compromised.
So, can SPACs offer investors a higher payout upon completing a successful QA and forging a sustainable business model? The quick answer is “Yes, it may be possible”. However, understanding and judging the management team’s experience, track record and ability to execute its acquisition and growth strategy is the most important key to enjoying great returns from SPAC investing.
Since investors receive warrants which are immediately tradeable (but only exercisable after a QA is complete), some investors prefer to take a position on a SPAC’s warrants. Whilst warrants are cheaper than shares, the risk is that the warrants would expire worthless if no acquisitions are made.
Also, because the IPO proceeds placed in trust are invested in Government bonds or money market funds, returns would typically mirror that of a fixed-income fund until the SPAC concludes its QA. Only then will the shareholders get to enjoy dividend pay outs similar to other share investments. Investors must be willing to put their money away and be patient until the SPAC either completes its QA or liquidates itself (which could take up to three years).
There are rewards and risks associated in any capital markets trade. Ultimately, it is the responsibility of the SPAC Management Team and the regulators to present all the factors clearly so that investors can make their own informed decision.
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This article is sponsored by Securities Commission Malaysia, under its InvestSmart initiative.
If you think you need a pool of cash to gets started in the world of investment, you may want to read this. Ringgit cost averaging (RCA), a commonly adopted investment technique, may just help you realise your investment dreams without first having a million bucks.
What is RCA?
Ringgit cost averaging means investing a fixed amount at fixed intervals. For example, putting RM200 every month into your unit trust fund investment, as opposed to putting a huge sum of money into the investment fund at one go.
Essentially, what this translates to means you end up buying more units when the unit price is low, and when the price is high, you would be buying fewer units.
There are two strategies to RCA. Some investors may invest 20% of their monthly income religiously until they retire, while others believe in RCA a set sum of money. For example, instead of investing RM2,400 in a lump sum, you may break it down to RM200 monthly for 12 months.
Investors consider the first strategy a sensible approach to investing because they will be committing a fixed amount of their salary every month toward their financial goals, be it retiring in the Bahamas or buying their dream five-bedroom bungalow.
On the other hand, the rationale behind the second strategy is in hoping that market volatility would work in the investor’s favour, because they would automatically be purchasing more shares when the price is low, and fewer shares when the price is high. This method helps to spread out the risk factor over a period of time, and is especially useful if an investor is unsure of whether to do a bulk purchase at that point of time.
How does it work?
The table below depict how an investor averages out the unit price over a number of months by investing in a fixed, monthly amount amidst the Ringgit prices fluctuations.
Table 1: Ringgit cost averaging
Looking at Table 1, does the RCA method really yield higher returns compared to lump sum investing? The answer is yes, and no. The success of any investment really just depends on the market and timing. In the case of RCA, it primarily reduces your timing risk.
If you invested a lump sum of RM2,400 in January of the first year, the number of shares you could buy with that amount would have been 4,000 units. However, using the RCA method, you would instead have a total of 4,418 units by the end of the first year with the same amount invested.
What are the pros and cons of the RCA method?
How do you win at this game?
Returns are not guaranteed with the RCA method, or with any other investment strategy for that matter. If the fund price of the investment units decline and do not manage to regain their standings, you could stand to make losses. However, in general, the RCA method does reduce the risk of investing all your assets at the peak of the market cycle.
Here are a few things you should consider in order to make gains with the RCA method:
- The higher the investment amount, the longer the investment time span.If you are planning to invest a large amount, RM100,000 for instance, you may want to spread it out over a period of 36 months — or three years — making it a monthly investment of RM2,777.77.
- Diversification is key.The RCA method alone is insufficient to minimise your risk. You will need to diversify your investments into various categories and rebalance this basket at least once a year.
- Understand your investment. Even with a relatively lower risk method such as the RCA, investors should still take the time to fully understand their investments.
- Letting go when objectives have been met.Every portfolio has its objectives. If you are investing with an objective to purchase property, you should sell off your investments once your returns are adequate for your objectives. Not selling means assuming more risks than is necessary. You can always commence another portfolio which adopts a similar methodology for a different objective.
Who should adopt this method?
The RCA method works best for these types of investors:
- Investors who have a store of cash for investing or a constant cash flow and are interested in high risk investments (to reduce their risk);
- Investors who are not adept at forecasting short-term market movements;
- Investors who are unsure of the right moment to make the move into investing; and
- Investors who have a long-term investment horizon.
If you fall into any of the categories above, you should consider the RCA method of investing. Do not, however, limit yourself to just one investment strategy. Different investment products, or even funds and shares, may require different methodologies.
The RCA is far from being the perfect investment methodology. Some people are quick to dismiss it, while others use it without fail in all their investments. Making the most of the RCA method is in knowing when to use it. The best investment strategy, if used for the wrong purpose will still lead to losses. It would also be wise to remember that you need not employ just one lone strategy, successful investors utilise a mix of investment approaches and consider their risk appetites and level of understanding before making their investment decision.
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The great investor, Warren Buffet said, “Risk comes from not knowing what you’re doing.” And this seems to be the number one reason why the many Malaysians are unable to climb up the social ladder.
Our research reveals that the average Malaysian lose about 1.5 million during their lifetime. This staggering loss can be traced back to the bad money decisions and unnecessary mistakes made by the majority of Malaysians with their hard-earned money.
These are some of the common reasons why your income just never seems to be enough:
The truth is, the seeds of this financial disaster are planted years before their outcome. People have the tendency to make unnecessary mistakes (either taking too much risk or doing nothing to grow their wealth) which derail them from their rightful financial destiny. The mistakes often seem small and negligible, and may not even look like mistakes at the time. Hence, many do not even realise that they’re making mistakes and would erroneously continue down this path.
Here are three of the most common mistakes being made by the average Malaysians:
Mistake #1: Not optimising the returns on savings
Malaysians love fixed deposits. Most of us will use these as our de facto ‘investment’ tool but is it the right way to think? Putting RM1,000 every month (RM240,000 total investment) in a fixed deposit (FD) account for 20 years, at an average of 3% interest per annum, will net you a total return of RM329,122.75.
However, if you had invested the same amount at an average rate of return of 8% (which is realistically obtainable through various investment options like unit trusts, share trading or even with ASB) per annum, you would get RM592,947.22.
In retrospect, keeping the money in FD would have caused you to lose RM263,824.47.The outcome is even worse for those who leave their money to languish in a savings account, which only sees a 1% to 2% per annum.
Mistake #2: Paying too much on insurance premiums
It’s undeniable, life insurance protection is important, especially when you have financial dependents.
Consider these two life insurance products for a 35-year-old: term insurance for RM500,000 will cost RM1,625 per annum, whereas a whole life policy will cost RM14,225 per annum. Which should he get?
If you buy term insurance instead of a whole life policy, you will be saving RM12,600 per annum, which can be used for other investments. At an 8% return on your investment over 20 years, you will gain RM576,600!
However, by spending that amount on a whole life policy, assuming you receive the entire premium paid (RM14,225 x 20 years), you will only get RM284,500 at the end of the day. That’s a whopping RM292,100 loss!
Mistake #3: Failing to increase savings when income rises
Good money management involves increasing one’s income over time. However, it will only improve your personal finances when your savings increases in tandem with your income.
However, the depressing truth is, when an employee gets a raise, he would spend the additional money on a better lifestyle (generally known as lifestyle inflation). He or she may upgrade his/her car to a better one, get a designer handbag or the latest mobile phone or enjoy a luxurious holiday. All these lifestyle upgrades cost money up front and to maintain, and as a result, savings will be sacrificed. Instead of saving, the average person will spend the extra income.
In comparison, a person who knows how to optimise his wealth, would maintain his current lifestyle and even has increased savings instead. Assuming that he invests RM1,000 per month at an average rate of return of 8% per annum and increase his saving by 5% every year over 20 years , he or she would be RM863,457 richer.
It is important to note that none of the ‘mistakes’ mentioned above are in itself disastrous. However, their combined and compounding effect has an irreversible damaging consequence to a person’s net worth or wealth, and eventually robbing him/her of achieving financial freedom, giving the illusion that he/she’ll never make enough money.
Every single mistake, whether big or small, will have an impact on your finances when we look at it over a lifespan. So, do yourself a big favour and scrutinise every financial decision you’ve ever made and will make. Not everyone can afford to lose about RM1.5 million in their lifetime, especially not you.
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