Tag Archives: Investing

What is a distribution?

By Robert Wright /November 20,2024/

A managed fund generates income from its investments – for example, through share dividends, interest on cash or fixed interest investments in the fund, or any gains made when fund investments (like shares) are sold. So in short, a distribution is profit or income made by a fund and paid to investors.

How are distributions paid?

Managed investment funds are required to pay all realised income and capital gains to investors for the financial year. Income can be paid monthly, quarterly, half yearly or yearly, depending on the fund. You may receive your distribution as a cash payment, for instance as a payment to your designated bank account, or as an amount that is reinvested back into the fund. As an investor, you should also receive a statement that outlines the amounts and types of income generated by the fund and distributed to you, which may be helpful at tax time.

How are distributions calculated?

• The income of all individual investments in a fund for a given time period is calculated taking into account things like share dividends or interest payments.
• The fund’s deductible expenses (things like management fees and other payables) are then subtracted, leaving the total amount of income that can be paid out.
• That amount is then divided by the total number of units in the fund to provide an amount of distribution per unit. For example, if the distribution for a fund was $1 per unit and an investor owned 100 units in the fund, they would receive a distribution of $100.

What does the unit price have to do with distributions?

When you invest in a fund, you’re pooling your money with other investors to access a professionally managed portfolio of investments overseen by skilled investment managers. In exchange, you’re allocated a number of units that correspond to how much money you’ve invested – based on the fund’s unit price at the time of investment.

Why does the unit price fall after a distribution?

When you receive a distribution for the income generated by a fund’s investments, the value of the fund reduces by the amount of the total distribution. This results in a lower unit price because income from the fund’s investments is being paid from the fund to investors, reducing the total value of the fund’s assets – a figure that is divided by the total number of units owned in the fund to determine the unit price. This doesn’t mean you’ve lost money on your investment or that your investment in a particular fund has changed – rather, you retain the same number of units in the fund, which has simply decreased in value by the amount of the distribution paid to you. Distributions that are reinvested back into a fund are used to acquire more units in it. This means the value of your investment should not fall as you will be allocated additional units.

Why aren’t distributions paid to super funds?

While managed investment options (funds) outside of super pay distributions to investors, investment options within super do not. That’s because there is a different structure and purpose for super, which members can’t access until retirement. Generally, super balances fluctuate higher and lower over time depending on the contributions members make and the performance of the funds their super is invested in. Investment options within super contribute to super balances through the unit price, which changes daily based on the performance of each fund’s investments. Effectively, the distribution amount is retained in your super and forms part of your super balance, which over time can be used to acquire more investments in the options your super is invested in.

 

Source: Colonial First State

Ever thought of investing in essential services?

By Robert Wright /November 20,2024/

Ever thought of investing in essential services?

Investing in infrastructure is about investing in the companies that provide essential services to society and earning predictable, reliable returns in the process.

More than 350 infrastructure and utility companies are listed on global stock markets, with the sector having a combined market capitalisation in excess of US$4 trillion; about three times the market value of the Australian stock market[1]. The services provided by these companies are essential to the efficient function of communities, providing assets that have reliable earnings growth and stable income streams in times of market declines. As investments, infrastructure stocks exhibit unique characteristics, including reliable cash generation, inflation protection, defensiveness in declining markets, and low correlations with other asset classes creating a compelling case to include the sector in a diversified portfolio.

As it is traditionally defined, infrastructure typically refers to large, tangible assets that deliver essential services. While utilities, highways and pipelines are widely regarded as infrastructure, the status of other assets, including car parks, data centres, and satellites attracts debate. Notwithstanding this complexity, the case for investing in infrastructure is clearly demonstrated by an examination of the sector’s attributes.

Why invest in listed infrastructure? 

As an asset class, infrastructure exhibits four distinctive characteristics:

• Infrastructure generates reliable cash flows – The vast majority of infrastructure assets exhibit predictable demand, limited competition and a stable regulatory environment. Infrastructure is thus well positioned to generate reliable cash flows and solid and stable earnings growth, no matter what economic conditions prevail.
• Infrastructure offers inflation protection – Infrastructure comes with built-in protection against inflation because regulators allow these companies to raise their prices to protect their earnings when their costs rise.
• Infrastructure has lower risk of capital loss – Assets that have reliable earnings growth and stable income streams are typically havens in periods when equity benchmarks decline.
• Infrastructure exhibits low correlations with other asset classes – Because the earnings of infrastructure companies exhibit low levels of sensitivity to economic conditions, the returns of infrastructure investments typically exhibit low correlation with other asset classes, offering diversification benefits for investors.

Including infrastructure in a diversified portfolio can enhance returns and reduce portfolio risk.

Infrastructure – always in demand

Investing in infrastructure is about investing in the companies that provide essential services to society. We are so used to these services in our lives that perhaps we underestimate the range of essential services that are provided the world over, every minute of every day.

Communication towers

The phenomenal growth of the Internet and mobile devices means that communication towers play an essential role in the efficient function of a modern community. The biggest tower operators have a large reach. American Tower, for example, has nearly 226,000 towers across 25 countries in five continents[2]. Other examples of telecommunication tower stocks include Cellnex Telecom, Vantage Towers and Crown Castle International.

Global mobile data traffic is expected to grow 20% p.a. over the six years to 2028.

Water

Water is perhaps the most essential of all infrastructure services. Australians consumed more than 13,800 gigalitres of water in FY2020-21[3], with the average household bill being $832 a year[4]. In 2020-2021, the total expenditure on distributed water by Australian households, businesses and other bodies was about $9.2 billion. Examples of global infrastructure water stocks include United Utilities of the UK and American Water Works.

Humans can use only about 0.3% of the world’s supply of water[5].

Natural gas

Natural gas is nearly as interwoven into our daily lives as electricity. In Australia, ~42,000 kilometres of natural gas transmission pipelines shift gas from where it is produced to demand centres[6]. Natural gas supplies ~27% of Australia’s energy needs[7].

Global natural gas consumption is expected to increase by more than 40% over the period to 2025[8].

Electricity

Electricity is integral to almost every aspect of our modern lives. In the US, the power grid is made up of over 7,300 power plants, nearly 160,000 miles of high-voltage power lines, and millions of miles of low-voltage power lines and distribution transformers, connecting 145 million customers throughout the country[9].

The average US household spends US$137 per month on power[10]. Examples of global infrastructure ‘electricity’ stocks include the National Grid of the UK, WEC Energy and Xcel Energy with service territories in the USA.

Electricity wasn’t ‘invented’ it was ‘discovered’ because it is present in nature.

Airports

In 2022, planes carried over 3.8 billion passengers worldwide through the world’s airports[11]. Airports within the global infrastructure sector include Zurich Airport, Paris Charles de Gaulle Airport, London Heathrow.

Airports play a vital role in economic growth, job creation and international trade and tourism.

Toll roads

Toll roads have been around for thousands of years, the history of toll roads in Australia dates back to 1811 when the first toll road (Sydney-Parramatta) was built. Today the US has more than 9,500 kms of toll roads and host more than five billion trips a year[12]. Examples of global infrastructure ‘toll road’ stocks include Transurban with operations in Australia and North America, Ferrovial with toll road assets in North America.

Sydney’s toll roads host an average of more 950,000 trips each day[13].

 

Source: Magellan Group

[1] https://www.ceicdata.com/en/indicator/australia/market-capitalization

[2] American Tower Overview – Q2 2023, Data as of June 30, 2023

[3] Australian Bureau of Statistics: 2020-21, total expenditure on distributed water by industry and households

[4] Canstar Blue research, January 2023.

[5] ngwa.org – https://www.ngwa.org/what-is-groundwater/About-groundwater/information-on-earths-water

[6] Australian Pipeline and Gas Association: https://www.apga.org.au/pipeline-facts-and-figures

[7] https://www.energy.gov.au/data/energy-consumption (2020- 2021)

[8] https://www.energy.gov/fecm/liquefied-natural-gas-lng

[9] https://www.epa.gov/green-power-markets/us-electricity-grid-markets

[10] https://www.eia.gov/todayinenergy/detail.php?id=56660#13

[11] https://centreforaviation.com/analysis/reports/the-worlds-airports-the-state-of-the-industry-in-jan-2023-in-11-numbers-635413

[12] IBTTA. https://www.ibtta.org/sites/default/files/documents/MAF/2015_FactsInBrief_Final.pdf

[13] https://www.parliament.nsw.gov.au/lcdocs/inquiries/2792/Report No. 16 – Road Tolling Regimes.pdf

Decoding cognitive biases: what every investor needs to be aware of

By Robert Wright /August 23,2024/

Common human biases that investors should understand when it comes to investing is extremely important. These biases are ingrained in human nature, leading to tendencies to oversimplify, rely on quick thinking or exhibit excessive confidence in judgments, which may lead to investment mistakes. By gaining insight into these biases, investors may be able to make better decisions to help reduce risk and improve their investment outcomes in the long-term.

Numerous cognitive biases can affect how decisions are made. The key to mitigating these biases lies in recognising their presence, identifying when they might arise and then either making appropriate adjustments or obtaining help to moderate their impact.

Seven cognitive biases that might arise at various stages of an investor’s investing journey.

1. Herding: The tendency to follow and mimic the actions of a larger group.
2. Confirmation bias: The preference for information that confirms one’s existing beliefs or hypotheses.
3. Overconfidence effect: Excessive confidence in one’s own investment decisions and abilities.
4. Loss aversion: When the fear of loss is felt more intensely than the elation of gains.
5. Endowment effect: Overvaluing assets because they are owned.
6. Neglect of probability: Disregarding the actual likelihood of events and often overemphasising rare occurrences at the expense of more probable outcomes.
7. Anchoring bias: The tendency to rely too heavily on a past reference or a single piece of information when making decisions.

Herding

The herd mentality occurs when people find reassurance and comfort in a concept that is widely adopted or believed by many others. In recent times, we have seen the herd mentality with the events that surrounded the GameStop stock event. Where many people saw the rise in stock prices and without proper investment research followed the trend of many others and invested.

This impacted a lot of investors who bought the stock due to the fear of missing out and the hype it created. We believe, to be a successful investor, you must be able to analyse and think independently. Speculative bubbles are typically the result of herd mentality. Herd mentality in investing can overshadow rational decision making and could increase the risk of financial losses.

Investors need to recognise the feeling of pressure to conform to popular opinion or follow the crowd and instead consider conducting research and analysis before making decisions, as well as seeking alternative views to challenge the consensus.

Confirmation bias

Confirmation bias is the tendency to favour information that corroborates pre-existing beliefs or theories. In our view, confirmation bias can lead to significant errors in investing. Investors may develop an inflated sense of certainty when they encounter consistent evidence supporting their choices. This overconfidence can create an illusion of infallibility, with an expectation that nothing can go wrong.

Overconfidence bias

Overconfidence bias in investing is where investors overestimate their knowledge, intuition and predictive capabilities, often leading to poor financial decisions. This bias can present itself through various ways such as excessive trading, under-diversification and the general disregard for potential risks.

Investors with overconfidence bias tend to believe they can time the market or have the ability to pick the winning stocks better than most, which in turn may also result in overtrading and increased transaction costs. Overconfidence can also lead to a lack of proper risk assessment and analysis, as investors might underestimate the likelihood of negative events or industry dynamics affecting their investments.

An example of overconfidence bias occurred during the dot-com bubble of the late 1990s and early 2000s. Many investors were overly optimistic about the growth potential of internet related companies. This led to inflated stock prices as more and more people invested in these companies without proper evaluation of their actual worth.

Loss aversion

Loss aversion is where a real or potential loss is perceived as much more severe than an equivalent gain. The pain of losing is often far greater than the joy in gaining the same amount.

This overwhelming fear of loss can cause investors to behave irrationally and make bad decisions, such as holding onto a stock for too long or too little time. For example, an investor whose stock begins to tumble, despite clear signs that recovery is unlikely, may be unable to bring themselves to sell due to the fear of loss in the portfolio. On the flip side, when a stock in the portfolio surges, they may quickly cash out, not wanting to see the possibility of those profits disappearing.

When an investor clings onto failing stocks, departs with successful stocks too quicky and fear governs their investment decision, it’s known as the disposition effect. It’s a direct consequence of loss aversion, leading investors to make overly cautious choices that ultimately undermine their financial goals.

So, understanding this bias may help investors make rational decisions to grow their portfolios while managing risk effectively.

Endowment effect

Closely related to the concept of loss aversion is the endowment effect. This effect arises when individuals place a greater value to items because they own them, as opposed to identical items that they do not own. It’s a cognitive bias where ownership elevates the perceived value of an item beyond its objective market value.

For example, an investor may develop a strong attachment to a particular stock. It could be the very first stock they ever invested in, or they may favour the company for a particular personal reason such as aligning with their values. If this stock begins to fall and financial experts are advising to sell, because of the value bias this investor has they may be unwilling to sell. The investor perceives the stock’s value as greater than what the market dictates, purely because of ownership. It is a delicate balance that is needed to be able to determine between attachment and sound financial decision making and can be challenging for some investors.

To help mitigate the endowment effect, investors should regularly review their portfolios and consider the help of a financial adviser. Establish clear, predefined criteria for selling assets, aligned with financial goals. Develop a detailed investment plan with specific financial goals, a well defined investment strategy is crucial to prevent emotional decision making. Understanding and focusing on long-term investment goals can also help in maintaining objectivity.

Neglect of probability

Humans often overlook or misjudge probabilities when making decisions, including investment decisions. Instead of considering a range of possible outcomes, many people tend to simplify and focus on a single estimate. However, the reality is that any outcome an investor anticipates may just be their best guess or most likely scenario. Around this expected outcome, there’s a range of potential results, represented by a distribution curve.

This curve can vary widely depending on the specific characteristics of the business involved. For instance, companies which are well established and have strong competitive positions, tend to have a narrower range of potential outcomes compared to less mature or more volatile companies, which are more susceptible to economic cycles or competitive pressures.

Another error investors may make is to overestimate or misprice the risk of very low probability events. That does not mean that ‘black swan’ events cannot happen but that overcompensating for very low probability events can be costly for investors.

Anchoring bias

Anchoring bias is the inclination to excessively rely on a previous reference or a single piece of information when making decisions. Numerous academic studies have explored the impact of anchoring on decision making. Typically, these studies prompt individuals to fixate on a completely random number (such as their birth year or age) before asking them to assign a value to something. The findings consistently demonstrate that people’s responses are influenced by the random number they focused on prior to being asked the question.

Looking at a recent share price is a common way investors may anchor their decisions. Some people even use a method called technical analysis, which looks at past price movements to predict future ones. However, just because a stock’s price was high or low in the past doesn’t tell us if it’s a good deal now.

 

Source: Magellan

A guide to active and passive investing

By Robert Wright /August 23,2024/

Investment funds can be broadly split into two categories – active and passive. And while both options play a part in an investment portfolio, it’s important to understand how each works before allocating money to them.

Basics of passive investing

Passive investing has gained momentum in Australia, and beyond, over the last decade. It could be because this style of investing aims to replicate the returns of a particular market index (for example, the S&P ASX 200 Index).

This means, that when the value of the index rises, so too will the value of the fund. On the flip side, as the value of the index falls, so too does the nature of the fund.

Exchange Traded Funds (ETFs) are some of the most popular passive investments. They are similar to managed funds, in that they involve a trust structure which holds a basket of securities. As described above, the investments in the fund replicate the makeup of the relevant market index. For example, if the index is made up of stocks that include banks, mining businesses, retail companies and supermarkets, the ETFs will also hold these stocks.

Units in ETFs are listed on stock markets and can be traded just like shares.

It’s important to note, that while there are also actively managed ETFs, passive ETFs are most common of the two.

Basics of active investing

In contrast, an active approach to investing involves a fund manager choosing the assets in the fund, depending on the manager’s view of markets and the type of fund it is.

Like passive investments, there are many types of actively managed funds which offer exposure to different asset classes and industries. Rather than track an index, an active fund will target a return above a particular benchmark. An example of this is, every year, an actively managed fund might aim to achieve the same return as the S&P ASX 200 plus two per cent. Another common way of measuring the performance of an active fund is for it to target a premium above the rate of inflation. For example, a fund might aim to achieve inflation plus two per cent per year.

Cost benefit analysis: fees

Cost is one of the major differences between these two styles of funds. Typically, passive investments are lower cost, as investors are not paying for the fund manager’s expertise in choosing the investments in the fund.

Active funds, on the other hand typically charge a base fee and a performance fee to incentivise the fund manager to produce the highest possible return.

Market conditions

It’s important to remember that markets will always go up and down, and actively managed funds still have many benefits (as well as risks) while factoring:

• Funds that track an index only produce the return of the index.
• Fund manager skills can be used to pick investments that have the potential to do well when economic growth is slow and markets are falling.
• Active managers can also avoid stocks and sectors that are not doing well.

It’s very difficult to get a true picture of whether actively managed funds perform better over time versus passive funds. It’s probably more instructive to think about how each style of investing is used in a portfolio.

Styles applied

A core and satellite approach are a common strategy investors use that involves both active and passive investing. In this approach, the core of the fund tends to be made up of passive investments that follow the market, while the satellite part of the strategy is made up of more specialised investments.

There are a number of ways this style can be applied, but a popular technique is to use index or passive funds as the core, such as an ETFs that tracks one or more major market indices.

The satellites are made up of actively managed funds that allow an investor to express specific views by selecting their asset exposure. For instance, an investor may choose to allocate funds to an actively managed fund that comprises technology investments, in the belief this sector will perform well. Or an investor may choose to apportion funds to an actively managed gold fund, taking the view this commodity may provide a hedge against market volatility.

There are almost endless ways of using actively managed funds to express views about how different asset classes and sectors will perform over time.

A balanced perspective

There’s really no right or wrong approach when it comes to investing in active and passive investments. Many investors choose to invest in a combination of the two styles to achieve a level of diversification in their portfolios and to get access to a broad range of asset classes across the risk spectrum.

 

Source: BT