Interest rates are low and getting lower, tied to sharp declines in the official cash rate (OCR). What’s more, the Reserve Bank hasn’t ruled out the possibility of negative rates in the coming months.

This is good news for borrowers (especially mortgage holders), but not so much for savers, with term-deposit rates now well below 2 per cent. But how do falling interest rates affect investments? And what are some of the tools for investing in a low interest rate environment?

The exact answer to this question entirely depends on your circumstances, so we recommend discussing your investment strategy in detail with a SHARE financial adviser. But if you’re looking for some general rules of thumb, here are a few things to consider.

Why term deposits lost their lustre

Not long ago, term-deposits used to be a good option for New Zealanders saving for retirement. Just to give you a practical example, when rates were over 8 per cent, back in 2007, a saver with a $500,000 term deposit could benefit from an annual return income of $40,000, or about $800 per week before tax.

Today, with the same deposit amount, a saver with a six-month term deposit rate of 1.5 per cent would only earn an annual retirement income of $7,500, which amounts to approximately $150 per week. Quite the difference, right?

And the combination of lower returns and increasing ageing trends makes term deposits less and less attractive. So, what else is there?

Other low-risk alternatives to term deposits

In the low-risk managed funds space, cash funds and income funds can be alternative options to term deposits. Cash fund returns are quite similar to term deposits, but they come with benefits in terms of flexibility of access and lower taxation. While a maximum 33 per cent Resident Withholding Tax (RWT) applies to term deposits, PIE compliant cash fund returns are taxed at a maximum rate of 28 per cent (the maximum PIR rate).

Just like cash funds, some income fund returns are taxed at a maximum rate of 28 per cent. Also, this option gives you the ability to invest in a diversified asset portfolio, and depending on your investment horizon, can be ideal for capital stability and regular income. Let us know if you have any questions at all.

How much risk can you afford to take on?

Let’s leave ‘low-risk territory’ for a moment and venture up the risk curve. Depending on your risk profile, there can be other investment tools to consider – some of which tend to perform better when rates go down, or when the economy is underperforming.

Below are some examples to get you started, but keep in mind that this is intended as a quick overview only. Our SHARE financial advisers are here to answer your questions and help you find a good match for your needs and goals.

• Shares & dividend stocks – In a low interest rate environment, businesses tend to pay less interest on debt and increase their profits, so share prices may rise as well. Also, as capital returns become harder to achieve, dividend-paying stocks become more popular. And unlike Europe or the United States, NZX-listed companies often pay out a significant proportion of their earnings in dividends.
• ETFs and index funds – Exchange Traded Funds are funds whose units can be bought and sold on the sharemarket. Some ETFs are riskier than others, but they all offer the flexibility to invest in specific markets, industries or commodities. Many ETFs are also ‘index funds’ – a low-cost form of passive investing, offering a diverse selection of many shares in one bundle.
• Peer-to-peer lending – Generally speaking, peer-to-peer lending (P2P) platforms offer higher rates than the banks, but with some level of risk. In short, if you have spare money, you can lend that to other Kiwis looking for a short-term loan. This option isn’t for everyone, though. Most P2P lending is unsecured, and you’re unlikely to be protected if the platform itself goes bankrupt.
• Gold – There is a correlation between falling interest rates and the gold market performing strongly, essentially because investors view gold as a stable investment, and turn to this precious metal as a way of protecting their wealth. For example, in the first half of 2020, gold benefitted from investors’ reduced appetite for risk and had a remarkable performance.

What about property?

New Zealand property deserves its own chapter. Despite predictions of an imminent house price fall, at the time of this writing (September 2020), the property market continues to show outstanding resilience to Covid-19. Prices and sales numbers are up in many regions, supported by both first-home buyers and investors.

With the remarkable value growth delivered over the years, it’s no wonder that Kiwis’ love of property investment remains so strong. But there are also other factors at play, including low interest rates. For borrowers who have equity or a deposit, owning property becomes more attractive and ‘desirable’, which pushes up demand and prices.

How we can help

Whether you’re looking to invest in KiwiSaver, property, shares or other assets, please don’t hesitate to contact us. Depending on your investment goals, income needs, attitude to risk and time horizon, our SHARE financial advisers can help you build an appropriate diversified portfolio. Disclaimer: Please note that the content provided in this article is intended as an overview and as general information only. While care is taken to ensure accuracy and reliability, the information provided is subject to continuous change and may not reflect current development or address your situation. Before making any decisions based on the information provided in this article, please use your discretion and seek independent guidance.