Often people wonder whether they should be doing more with their cash savings other than leaving them in a savings account. This blog discusses some options and highlights some considerations with each option.
Of course, the information contained in this blog is not personalised advice as it cannot consider your unique situation and goals. As such, you should always consider obtaining personal independent financial advice before making any financial decisions.
Maintain a buffer equal to 6 to 12 months of living expenses
I typically counsel my clients to hold between 6 and 12 months of living expenses in cash savings in case of emergencies. If your income or expenses can be volatile, you should probably hold 12 (or more) months.
Therefore, the options discussed below apply to any cash savings you may hold in excess of this buffer amount.
Contribute into super
You can contribute savings into super either through making concessional (up to an annual cap of $27,500 per person) and/or non-concessional (annual cap is $110,000) contributions.
The benefits of moving savings inside super are twofold. Firstly, it’s a low-tax environment where investment earnings are taxed at a flat rate of 15% and capital gains at only 10%. If you are a high-income earner, it will save tax. Secondly, it will be automatically invested for you in line with your selected investment option e.g., balanced, growth, etc., so it’s a very simple, hands-off way to invest your savings.
The downside to contributing money into super is that you cannot access it until you are older than 60[1] and retired (or 65 if you are still working). Whether this is a potential problem depends on (1) how close you are to being able to access super if you need it and (2) the likelihood of needing to access these monies e.g., if you have plenty of financial resources outside of super, then the likelihood is probably low.
If you are going to move your savings into super, please make sure that your super fund is performing well.
Invest in hybrid securities
A hybrid security is a type of investment that combines bond and share (equity) characteristics. It usually pays a monthly income, like a bond (via a dividend payment). These dividends typically have imputation (franking/tax) credits attached to them, like a share. They will be issued for a fixed term i.e.; they mature like a bond. Subject to certain trigger events, hybrid securities can convert into ordinary shares e.g., bank hybrids will convert into shares if liquidity ratios fall below a certain level.
Rarely are two hybrid instruments the same – they all have unique and complex terms. Therefore, I don’t invest in these instruments directly.
You can mitigate many of these risks and the associated complexity by investing in a managed fund that manages a portfolio of hybrid equities. This will provide you with diversification and the manager will price-in/analyse any conversion risks, thereby minimising your investment risks
We often use BetaShares Active Australian Hybrids Fund (HBRD) to invest client’s monies. It has paid a monthly yield (income) of 5.19% p.a. over the past 12 months (including imputation credits i.e., that is a pre-tax return). This yield is indirectly linked to the RBA’s cash rate. It is important to highlight that the capital value of this fund can vary, but often by only 1% to 2%. However, over longer periods of time, it is reasonable to expect the capital value to be quite stable.
However, there may be times when the value of this investment loses money in the short term. For example, between May 2022 and mid-June 2022, the fund lost 4.6% of its value when bond spreads widened considerably (thanks to the RBA’s mistakes!). Since mid-June, it has recovered over 80% of this decline to date and I expect it will recover the full decline over the next couple of months. This is an example of how this investment can be volatile over short periods.
You can invest in this fund using an online share trading account which means you can access the money any time by selling down your share holding (which settles T+3 days). Therefore, it’s almost ‘at call’.
Mortgage offset account
If you have a variable rate mortgage, be it a home or investment loan, most lenders have the option to establish a mortgage offset account. An offset account is a standard transactional bank account that is linked to a mortgage.
The loan and offset account balances are netted off when the bank calculates your daily interest charge in respect to the loan. Therefore, in essence, any money in the offset account is saving (earning) you an amount equal to the mortgage interest rate, which is much higher than any transaction account, and higher than most term deposit rates.
Invest progressively in the share market
You can invest your cash savings in the share market.
If you have a large amount of cash savings (in absolute terms or relative to your overall wealth), then I would advise against investing all of it in one lump sum. Instead, I would recommend investing it in monthly tranches, as explained in detail in this blog.
For example, if you have $200,000 of savings, I would probably suggest investing that amount in equal tranches over the next 24 to 36 months.
Borrow to invest in property
You could use your cash savings to assist funding an investment property’s holdings costs by depositing these monies in an offset account and letting the property eat away at these savings over time.
For example, I prepared some forecasts based on purchasing an investment-grade apartment for $850,000, renting it out for $500 per week, taking out a new loan for $918,000 to fund all costs (including stamp duty and buyers’ agent fees) and depositing your savings of $200,000 in the offset account. I assumed the investor contributes only $500 per month towards the properties holding costs and the remaining shortfall is funded from the offset savings.
The chart below forecasts the offset account balance. The offset balance falls to as low as $116,000 by year 19 and then starts to appreciate.
The existence of these cash flow savings provides a buffer for the investor and allows them to invest in property whilst at the same time, minimises the cash flow cost of doing so. Borrowing the full cost still gives them access to these savings in case of emergencies.
I must point out that I would caution investors against borrowing beyond their means. This strategy shouldn’t be used because it’s the only way to service a property investment’s holding costs. However, this example might suit people that want to invest in property but also direct cash flow towards other investments (e.g., make additional super contributions) at the same time. This arrangement provides more discretion regarding one’s cash flow.
What should you do with your cash savings?
The answer to this question really depends on your circumstances, existing assets and future goals. But hopefully this blog has given you some ideas to explore further.
[1] If you were born before 1964, your preservation age will be between age 55 and 59, see here
