Hewison Quarterly - Issue 41 by [id] digital agency

HEWISON Financial news, our views AND other issues Issue 41 ~ September 2012

uarterly • Things are looking up! • From the CEO’s Desk • They told me it was stormy outside, but I just got burnt! • Pricing Fairness

• Capital Gains Tax and Small Business • 2012 Wheel Classic • Chris Morcom Wealth Professional Adviser 2012 - Top 50

Understanding the terms we use Gross Domestic Product - GDP The monetary value of all the finished goods and services produced within a country’s borders in a specific time period, usually calculated on an annual basis. It includes all of private and public consumption, government outlays, investments and exports minus imports that occur within a defined territory. Risk Profile Investors are put into broad categories based on their willingness to take risk to achieve higher returns. This information is then used to select the appropriate investments for their profile. PE Ratio Or Price to Earnings Ratio. The number of times a company’s earnings per share is covered by the share price. It is commonly used to measure how attractive a share is to investors. The lower the ratio relative to the average of the sharemarket, the lower the (market’s) profit growth expectations. Calculated by: Market price of shares / Earnings per Share = P/E Ratio. Capital Gains Tax The difference between the purchase price and the selling price of an investment. Commodities 1. A raw material or primary agricultural product that can be bought and sold, such as copper or coffee. 2. A useful or valuable thing, such as water or time. Product Based Commissions Up front and annual commission payments made to financial advisers by fund managers for products held by their clients.

Things are looking up! Story by Simon Curtain DIRECTOR/PRIVATE CLIENT ADVISER

hile the first half of 2012 saw the continuing European Debt Crisis weigh on markets, the past three months have been quite positive in comparison. During this period the Australian sharemarket has rallied almost 8 per cent and it appears that investors are becoming somewhat immune to the grandstanding of politicians in Europe and America and are instead beginning to focus on investment fundamentals. During the last quarter, a number of Australia’s largest companies reported their financial results. Interestingly, 69 per cent of companies reported an increase in profit and 62 per cent of companies raised their dividend during the year, with a further 20 per cent maintaining their existing dividend. We have always maintained a strong focus on investment income and it is comforting to see income continues to underpin our client portfolios in this challenging investment environment. Last quarter saw commodity prices fall substantially on the back of a slowing Chinese economy, igniting debate over the future of the mining boom. Hewison Adviser Nathan Lear recently wrote an interesting blog piece on this topic titled: “Is the Mining Boom Over?” In his blog, Nathan points out that Australian resources companies have been enjoying strong growth since the early 2000’s but puts forward the question as to whether or not the party is now over. While China’s Gross Domestic Product (GDP) numbers have showed signs of slowing over

Image by Nicolas Raymond

the past 6 - 12 months - leading to a fall in commodity prices - people seem to forget that China is still growing at extraordinary levels. China’s GDP for the year ending June 2012 was reported at 7.5%; compared to Australia’s GDP figure of 3.7%, or 2.3% for the US, over the same period puts the slowdown in perspective. Nathan points out that while there is no doubt China is slowing, Australian Miners are reacting to this by cutting back on new projects with high entry costs and concentrating on existing projects that remain profitable. He expects to see consolidation in the mining industry, with the biggest miners like BHP and RIO Tinto, benefiting from this consolidation. To read Nathan’s entire blog piece, visit our Hewison LIVE page www.hewison.com.au/live

Where to from here? Financial markets are likely to remain volatile in the short term as governments and central banks deal with the issues at hand. However it is clear that they are committed to taking the necessary steps to ensure financial stability for the long term, with the US recently announcing a third round of quantitative easing (printing money) and Europe committing to a large bond buying program. We continue to monitor the global and local economy and take steps to ensure client portfolios are strongly positioned for the eventual recovery.

From the CEO’s Desk

They told me it was stormy outside, but I just got burnt! Story by Andrew Hewison, Director/Private Client Adviser

John Hewison

As the markets experience a gradual and healthy recovery and indications of further interest rate cuts abound, the financial press is becoming more positive toward share investment. So it is timely to ponder the trends of the past few years and the almost universal abandonment of the core principles of intelligent investing, in favour of rebalancing to asset allocation models. We continually hear how advisers have adjusted their client asset allocation models to increase fixed interest exposure for reasons of security. I submit that this is perhaps more risky than increasing exposure to growth markets in boom times as in both cases it abandons the principle, but the current trend actually reduces the client’s chance of value recovery and places them in an overweight position of declining income. When times get tough, as they have over recent years, clients rely upon their advisers even more than ever to provide cool heads and tough love in respect to advice that might seem counterintuitive. But the fact is that, under the rules of portfolio re-balancing, adjusting the asset balance means buying in poor markets and selling in great markets. Or put another way - buying low and selling high. In the current market conditions, many high quality Australian company dividend rates are historically very high and considerably higher than interest rate securities. So why would you stay over-weight fixed interest? There are non-negotiable rules relating to individual client portfolio management that should never be abandoned, regardless of the market “noise” or the emotional temptation to do otherwise. We are coming out of one of those difficult periods and those who have had the courage of their convictions and the disciplines of management principles will be rewarded. As the saying goes “when the going gets tough the tough get going” and I am so pleased that our clients have had the courage and the foresight to stick to their strategic plan.

producers will become uncompetitive and fall away leaving RIO & BHP to pick up the slack. So why on earth did everyone sell them?

n other words, persistent financial commentary pointing to a faltering Australian economy and the lingering storm clouds from the European crisis continue to hamper the confidence of many investors. So why then has the Australian sharemarket gained 11% since 1 January 2012? I must say it has been a pleasure contacting some of my clients recently to tell that their portfolios had increased by between 10-15% year to date. “REALLY?” has been the common response… One of my partners here at HPW, Glenn Fairbairn, posted a great blog post via our website during September. He discussed the recent overselling of resource stocks, namely RIO & BHP, I was very interested to hear recently that Rio Tinto maintains a cost to produce iron ore at $50 per tonne. They are the cheapest producer in the world, closely followed by BHP. As Glenn stated, with a softening iron ore price, higher cost

Buying behavior based on emotion is what controls investment markets. The ability of an investor to ignore the noise around them and invest based on fundamentals will determine their long term success. Either that or they should just listen to their Adviser! The sharemarket is an efficient beast. It has the ability to price in influential factors, such as a “faltering economy” around 12-18 months before it actually happens. This may in fact be a reason why, although it seems we have a stagnant economy, the sharemarket has already looked past this and is factoring in the sunny skies ahead. The following table depicts the year to date performance of the major industry sectors within Australia:

Australian Market - Dual speed ahead Source: Iress. Chart measures performance for 2012 calendar year up to 14 September, 2012 on an accumulation basis.

One particular measurement of company valuation and performance is the price to earnings (P/E) ratio. It is the amount of times a company must pay its annual dividend before its share price has been repaid to the investor.

shareholders as dividends. Companies looking to grow by re-investing their earnings do not pay large dividends and therefore have higher P/E ratios. Typically speaking though, the lower the P/E ratio, the healthier the company is.

P/E ratios can differ based on the amount of earnings a company chooses to pay to its

The table below shoes the P/E ratios of some of Australia’s most well-known companies –

Company

P/E Ratio

Gross Dividend Yield %

11.7 9.4 11.2 10.9 10.1 11.6 11.4 10.9 10.9

5.7 4 8.6 8.9 10.1 9.6 10.4 6.8 8.01%

BHP Rio Tinto ANZ Bank Commonwealth Bank National Australia Bank Westpac Bank Telstra QBE Insurance Average

The table shows: • That based on these P/E ratios, if your investment value went nowhere for 10.9 years, your dividends would have repaid your investment cost; • An average income return outperforms a 1-year term deposit by around 3.5% per annum;

• Fundamentals should form the basis of your investment decisions instead of baseless opinion. In closing, there may be some puddles outside but the rain has stopped. Don’t stay indoors just because the same people are telling you it’s still raining outside. Summer is on the way, in fact, it’s been sunny for a while now…

Pricing Fairness T

he government is banning product based commissions from 1 July 2013 - a move we have strongly advocated for over 20 years and applaud. We’ve now heard much discussion regarding the merits of asset-based fees versus other methods of calculation. This argument shows just how out of touch the regulator, and those who would seek to regulate, are when it comes to an understanding of the advice and service profession and the needs of the consumer. The key objections to product-based commissions were that they represented conflicts of interest between adviser and clients, they were often not understood by the client and were being paid for ongoing services that were not being delivered. All of these issues are being addressed by the commission ban – and rightly so. The method by which a service fee is calculated and agreed by client and adviser is irrelevant. It is a matter of clear understanding by the

client, appropriateness of the fee to the service provided and the complete transparency of charge that are the salient issues. By way of example we at HPW have always charged a quoted hourly fee for the preparation of initial advice and a percentage of assets under our management for the provision of continuous ongoing services and any subsequent advice. In our opinion this is the most equitable and fair charging method relevant to the type of service we provide and our clients require. Given the experience of the past four years, we would argue that our clients would not have been happy had we had fixed fees rather than percentage based fees when portfolio values decreased significantly, in line with the fall in investment values. Certainly, this has had a negative effect on our profitability, but we see that as being an element of fairness in our relationship. Certainly, I acknowledge that we benefit when portfolio values increase, but the

Story by John Hewison, CEO

relativity of cost for the client remains in-tact and with a scaled fee base, the rate of our fees ultimately falls with the increase in value of the client’s investment. Financial strategy planning and ongoing management is not a set-and-forget proposition. Done properly, it entails continuous review and adjustment on a number of levels including response to legislative and regulatory change, market conditions, corporate actions and investment restructuring, tax planning and changes to client circumstances. All these things require constant monitoring and pro-active input. In our opinion, the only viable and fair method of fee calculation for these services is an asset-based percentage calculation. Rather than ASIC and consumer groups getting involved in things that don’t concern them and they clearly don’t understand, why not let the client decide?

Capital Gains Tax and Small Business Story by Chris Morcom, Director/Private Client Adviser

re you the owner of a small business, and if so do you plan to sell in the future?

The following may be of interest if you wish to maximise the after-tax amount you receive from the sale of your business. When you sell your business, Capital Gains Tax (CGT) applies to the proceeds received, after deducting your purchase costs. However, there are some lucrative concessions that can significantly reduce and even eliminate your taxation liability on the sale. To access these concessions, generally you must satisfy one of the two following conditions: 1.Your business turnover is less than $2 million; or, 2.Your net assets are less than $6 million. There are detailed tests to determine eligibility to the concessions depending on your business ownership structure, and you will need to seek specific taxation advice from your accountant to ensure you are eligible. If you meet one of the conditions then, in addition to the normal 50% CGT discount for holding an asset longer than 12 months, you can consider using one or more of the following CGT concessions to reduce tax payable:

1. 15 year exemption – provides a total exemption of a capital gain if you have continuously owned the asset for at least 15 years, and you are aged 55 or over; 2. 50% Active Asset reduction – provides a 50% reduction of a capital gain; 3. Retirement exemption – provides an exemption of capital gains up to a lifetime limit of $500,000. If the recipient is under 55 years of age, the amount must be paid into a superannuation fund; 4. Small business rollover – provides a deferral of a capital gain if a replacement asset is acquired.

Proceeds from Sale Less: Purchase Price Gross Capital Gain Less: General 50% Capital Gain Discount

50% Active Asset Reduction Retirement Exemption* Net Capital Gain

The following example provides an indication of how the concession can apply: Dave and Judy are 55 and 57 respectively. They jointly own their successful business which they purchased 13 years ago for $1million. They recently sold the business for $4 million so that they could retire early. They meet the basic conditions for eligibility to the Small Business CGT Concessions. As they have not owned the asset for more than 15 years, they can’t use the first concession. The table below illustrates the application of the remaining test:

Dave

Judy

$2,000,000 $500,000 $1,500,000

($750,000) ($375,000) ($375,000)

NIL

* Both Dave and Judy could take the Retirement Exemption amount as cash as they are both over 55 years of age. Use of the concessions has saved Dave and Judy around $700,000 in capital gains tax, presuming they are both subject to the top marginal tax rate, and they can now consider strategies to fund their retirement income in a tax effective manner.

2012 Wheel Classic

Chris Morcom Wealth Professional Adviser 2013 – Top 50 Hewison Private Wealth director and client adviser Chris Morcom was recently named at number 30 in Australia’s top 50 financial advisers by Wealth Professional Magazine. The criteria for the competition were based on the performance of financial advisers with reference to client retention, new business and the total assets managed by the individual planner.

ewison Private Wealth director and client adviser Chris Morcom was relieved, proud and somewhat exhausted as he rolled up to State Parliament House steps on Sunday, 23 September, having completed a 9 day, 1,250 kilometre journey from Sydney to Melbourne. The ride was to raise funds for the Future 2 Foundation and the 40 riders collectively have raised just over $90,000 to date, with their target being $100,000. Chris would like to thank all his generous supporters, his family who had to put up with his absence for 11 days as well as the

many days of preparation prior to the ride, and his work colleagues for the time off to pursue this challenge. Donations can still be made to the Future2 Foundation by visiting www. future2fundraising.org.au. All funds raised go towards grants to “grass root” organisations providing disadvantaged young Australians with a second chance at life. Chris is pictured with Hewison Private Wealth clients Bruce and Tracey Maney, who also rode the full distance from Sydney to Melbourne, a wonderful achievement.

Here’s a minute of

Q&A Effie Goumas

Practice Manager a) Where were you born? Melbourne

g) What do you love to cook? Italian

b) How long have your worked at Hewisons? 6 1/2 years

h) Where was your last family holiday? Vietnam

c) What do you do for fun? Reading, shopping, catching up with friends d) If you weren’t doing this job, what would you be? Organisational Behaviour Consultant e) What is on your reading list? Do you have a recent favourite? Mordant’s Need Book 1 & 2 by Stephen Donaldson f) What music do you mostly enjoy? Operatic pop, Alternative Rock, Jazz

This is the first year that Wealth Professional Magazine has run the competition and plans to continue the recognition of excellence in financial planning each year

Janine 25 Years Janine Gordon recently celebrated her 25th anniversary with Hewison Private Wealth. The pace and breadth of change that has occurred during Janine’s time with the company has been quite extraordinary and she had been right at the cutting edge with much of that change in particular in IT systems, data interfacing and systemisation. Janine has been a highly valued member of the HPW team and is both a Director and shareholder of the firm. We congratulate Janine on her achievements and her great contribution. Her loyalty to the firm and its clients is unsurpassed.

i) Who do you admire most? Janet Holmes a Court j) Dead or alive who would you most like to meet? Paul Newman k) What is a typical Day for you? What projects occupy your time? Managing the Accounts, HR and Compliance l) What is it you enjoy most about your role @Hewisons? Interacting with people

Level 4, 102 Albert Road, South Melbourne VIC 3205 P (03) 9682 1900 | F (03) 9682 5999 info@hewison.com.au | www.hewison.com.au

The information contained in this publication is general in nature and not intended as personal advice. Please obtain advice from your financial planner before acting upon this information.