The great and the good are always telling us the nation should think of its finances as if it was a household. They say things like: 'We shouldn't spend more than we earn' or 'We should put money aside for a rainy day' or 'We need to keep a good credit rating'.
But should the nation invest like a household and vice-versa?
Currently the government invests like a fund manager, which means mostly in shares, a bit in bonds, a smaller bit in property and even less in cash. The theory is that the stock market delivers the best returns over the long run and if the government wants to have enough savings in 20 years or so when the baby boomers are sucking in big pensions then it should invest mostly in stocks.
For example the New Zealand Superannuation Fund (often called the Cullen Fund) aims to build up its assets to around 36 per cent of GDP by 2037, which would be around $65 billion with today's prices. The money doesn't start getting pulled out and spent on public pensions until 2020 at the earliest and more likely 2027, according to the fund's statement of intent.
So far the NZ Superannuation fund has put aside and earned a pot worth $11.55 billion, although it's down $2.947 billion from $14.5 billion just 8 months ago. The global financial crisis and the 30 per cent-plus fall on global stock markets has been brutal.
That's because the fund has 48 per cent invested in shares, with only 7.5 per cent in New Zealand, 10 per cent in property, 20 per cent in so-called private markets such as private equity and timber, 5 per cent in commodities and 17 per cent in bonds. The fund aims to produce a return greater than 2.5 per cent above the 'risk-free' rate of return, which is defined as the rolling yield on 90 day Treasury bills.
If the fund had invested in government bills for the last six years, it would now be sitting on an annualised return of 6.77 per cent. Instead it has returned 2.09 per cent since it was started in 2003 and is running 4.68 per cent below its target. We would have been better off in bonds.
The New Zealand Government Superannuation Fund, which provides pensions for civil servants, has just over $2.86 billion in assets at December 31, with 58 per cent in stocks globally, including 10 per cent in New Zealand. It has 23 per cent in bonds, 7 per cent in real estate and 13 per cent in commodities and other assets such as hedge funds. It lost $891 million in the year to the end of December.
There's more details here.
ACC, which has around $11 billion in assets, also diversifies across shares and bonds and has also been hit hard by the downturn on global markets.
Now we hear at interest.co.nz that Bill English has ordered a review of whether these fund managers have taken on too much risk and should be reined in to take less risk. This raises the tantalising prospect - albeit denied by English's office - that all these funds could be ordered to buy New Zealand government bonds.
This is where it gets interesting. Should these fund managers be investing in the likes of Citigroup, General Electric, Telecom, BHP and the likes? Would you invest in overseas or even local shares if you had the chance?
New Zealanders simply don't manage their own funds in the 'typically conventional' way and it has served them very well over the last couple of decades. These figures show that New Zealanders' household wealth has tripled in the last 15 years to $634 billion. This is completely due to a more than tripling of the value of their houses to $614 billion. Yet investments in domestic and international shares have doubled to $24 billion over that period.
New Zealanders can justifiably say that over the long term (and 15 years should be long enough to be long term) they were better off investing in housing. Many New Zealanders have also kept their money in banks earning interest, often at quite high rates over that time. Even with lower bank rates now and some small falls in house prices, they are much better.
So should the government be investing in rental property too? Imagine how many houses could be built with the NZ$20 billion or so of government money that is currently invested in local and foreign shares? Or should the government funds have invested completely in government bonds, as the NZ Government Superannuation fund did up until 2001?
It is a tempting option for a government that now faces having to borrow over NZ$65 billion over the next 10 years. One sure way to avoid a credit rating downgrade would be switch these fund assets into bonds. If New Zealanders were given the choice to do the same with their own finances they would sell shares in a second and put it all into investment property and bonds.
The stock market's woeful performance compared to bonds and property over the last 10 to 20 years, both locally and globally, suggest it might be the right thing to do. It would destroy the NZX and mean there was essentially no need for all the fund managers at the ACC, the Cullen fund and the Government Super fund. But is that such a bad thing?
It certainly feels like it after the losses of the last year, which many say is a 'Black Swan' event that will never be repeated. The trouble is they are repeated every 50-60 years and often the stock market takes 20-30 years to recover. This destroys the old saying that time in the market is more important than timing the market.
Timing makes a huge difference unless you have a 100 year time horizon, which most people don't.
Bernard Hickey
Bernard Hickey is the editor of www.interest.co.nz
Photo / Janna Dixon
Are we better off putting all our money in bonds?
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