Offshore Fixed Interest

Currency is just one of the risks many investors take on.   We need to be aware of the actual investment risks involved.  Some people are wondering if there are non-New Zealand fixed interest offerings. They see that our interest rates are low relative to rates available in Australia.

Australian banks have been paying around 7% for five year money. Not bad in a relatively low interest rate environment, especially when the money (for an Australian) is almost implicitly guaranteed by the Australian Government.

The major dilemma for investing offshore is what happens when our currency strengthens against the currency that your investment is denominated in. It goes down in value when measured in New Zealand dollar terms. Conversely it goes up in value when our currency tanks. Given that our dollar is relatively low against the Australian it does not auger well for new investments by New Zealanders denominated in Australian dollars unless there is an effective currency hedge in place.

For most New Zealand investors, investing in fixed interest offerings offshore is not appropriate unless the investment is fully hedged to the New Zealand dollar. It will however bring increased diversification.

International bond funds may well increase in popularity. However they must be cost effective for the investor. That is, they must have low management fees, low currency hedging costs and should have interest rate swap instruments in order to reduce risk and make the investment returns more predictable. They should not be seen as a panacea to increase investment returns. In all likelihood their returns are likely to be similar to those of a New Zealand fixed interest fund investing in underlying securities of similar investment ratings.

Our taxation regime also needs to be taken into account. Offshore investments are taxed differently to New Zealand investments, and there are taxation issues relating to financial instruments such as interest rate swaps, currency hedging etc. The easiest option is to use a PIE compliant investment fund.

Most investors in KiwiSaver schemes will have exposure to international fixed interest. International fixed interest is not likely to be a high performer. It is more of a steady as she goes investment, used primarily to decrease overall investment risk and also to increase diversification.

Some investors may be tempted to play the currency game and gamble that the New Zealand dollar will fall so they make a capital gain on the currency.  The reality is that the New Zealand dollar fluctuates against all currencies and not necessarily in the same direction over the same time period. Exchange rates are notoriously difficult to predict, and few people have consistently made money out of doing so.