Oran Hall | Clash between investment objective and time horizon
QUESTION: I need your advice on what is the best short-term investment product for $500,000. The plan is to earn as much as possible which will be used to assist in purchasing property next year. I await your response.
FINANCIAL ADVISER: You have a short-term goal to purchase property in one year. At the same time, you want "to earn as much as possible". This may suggest you are interested in growth, but perhaps you are just interested in money market products.
The stock market is doing well and it is very tempting to really have a go at it. It provides the highest possible returns of all asset classes over the long term and is a safe way to beat inflation, but you need time on your side if you are interested in that option.
But you could also make a good return in a short time too. Is it the best way to generate the funds you need to make the property investment? Much depends on how the market behaves between when you make the investment and when you are ready for your money.
For short-term goals, you need liquidity and safety of principal, that is, you need to be able to convert your investment to cash easily and to be certain that you will not lose any of the invested funds.
Because of the fluctuations of the stock market, you could lose a substantial portion of your money or you could find it hard to liquidate your investments at the time you want to, and it seems that this goal is an important one for you so it is not worth the risk.
Unit trusts, including those that have growth or capital appreciation as their investment objective, do not have a liquidity issue as it is quite easy to convert such investments to cash, so, in a sense, they also reduce the time horizon problem.
Capital growth funds do not pose the same level of risk as ordinary stock where loss of capital is concerned, but there is still risk of the loss of capital.
What makes your situation so challenging is that the longer you take to purchase property, the more it is likely to cost, making it necessary to have more funds to make the purchase.
It seems to me that you need to consider forgoing growth considering the risks involved and the fact that stock market movements are not linear. They do decline, and very sharply too, from time to time.
Your best course is to select a short-term investment product that is safe and liquid, the return on which will not be significant. Interest rates are low and the income generated is taxable, further reducing the yield.
Let us look at the short-term instruments. The minimum sum allowed for the purchase of repurchase agreements or repos is $1 million.
The treasury bills now being offered are for one month, three months and six months with yields hovering around 5 per cent. Considering the fees charged it is best to invest in bills with a maturity of six months. Treasury bills are issued by tender and stockbrokers generally bid on behalf of their clients. The next tender will be on January 17.
Bank of Jamaica certificates of deposit are mostly issued for 30 days and now yield about 3.8 per cent. The minimum investment allowed is $1 million. They are issued by tender. Brokers generally bid on behalf of their clients in the tenders.
The money market funds of unit trusts invest in a basket of short-term interest-earning instruments so their yields reflect the yields of such instruments. The performance of such funds depends to a large extent on the weight and returns of the various types of instruments in which they invest.
From the look of things, you are not likely to earn much on your $500,000 over the next year. To improve your position, you could consider how you can increase your savings by reducing spending and, if at possible, by earning additional income.
As a first step, though, consider how much you will need to make the purchase so that you can make more effective plans and determine if your goal is realistic, all things considered.
- Oran A. Hall, principal author of 'The Handbook of Personal Financial Planning', offers personal financial planning advice and counsel. email@example.com.