Investing in Foreign Currencies ( Forex )

Wealth manager always advocate diversification of investments and the 2 classic groups for investment diversifications are usually bonds and equities. In recent years, investors have been chasing for yield and more classes of investment products are popping into the view of everyday investors. Some examples include precious metals, art pieces, wine and foreign currencies, or forex in short.

In this article, we will look at the possible ways of investing in forex (short form for foreign exchange). Forex is the largest market in the world with the longest trading hours. In fact, the exchange rate for various currency pairs produces quotes for 24 hours every weekday. What I will try to discuss is to invest and not speculate in forex, so forex trading platforms will not be covered.

Why invest in foreign currency?

Forex has long been recommended as an investment product with low correlation with bonds and equities . This means foreign currency price movement has very little relationship with the movement of stocks or bonds and this complements the goal of diversity for investors.


As with all investment, you will need to understand it and have a long term view of the product to have success in investing, and of course, having a long investment time horizon will also help. In a very simplistic view, if you believe that a certain country is likely to enjoy economic boom, the currency will most likely appreciate and it will be good to invest in it.


But of course, the world does not operate in a simple environment. There will be intervention by government to control their currency through price pegging, interest rate manipulation or implementing monetary policies. So you will need to adjust your views accordingly.

How to invest in forex?

Many banks have introduced multi-currencies saving accounts. After you have deposited money in this account, you will be able to exchange them to another currency at the prevailing foreign exchange rate quoted by the bank. The spread rate (i.e. the different between the buying and selling price) of the banks are using very high, so its not a good platform for short term buying and selling. But if you are looking at long term appreciation of the currency, then this spread will be insignificant and this becomes a viable way.


Another method is to open a foreign currency fix deposit account with your local banks. They also offer better interest rates when compare to the foreign currency savings account. So this is worth considering if you want to hold on to that foreign currency for quite some time. This is also useful for people who needs to spend in that currency in the future, such as paying for education fees.


For the more affluent, there is also dual currency investment, where it lets investor enjoy extra yield based on their view of the currency movement. This is usually not available to normal retailer due to the nature of higher risk

Time to buy Equities?

STI has dropped from a high of 3174 on 2 Jan 2014 to 3039 as of writing (on 29 Jan 2014). This represents a 4.25% dropped in a matter of 1 month. Although its not yet a bear market, the drop is deeper than a normal correction. Those who have been eyeing to buy some shares can consider nibbling into the market bit by bit. Value is starting to emerge if this drop continues.


Some blue chips have emerged with good yields. With their stable business nature, they can be a good long term investment. Among those with current yield of more than 4% are Singtel,SPH and Keppel Corp. Beside providing the possibility of capital appreciation, they have been distribution regular dividends to share holders and these easily beats the low interest that banks are giving at the moment.

Is it still safe to invest in 2014?

Fed had just started tapering their quantitative easing (QE) policy in December 2013. They will start with $10 billion dollars a month and is expected to gradually increase this amount in each of their 2014 meeting. This signals the start of removing "easy money" from the economy. Although this action targets the US economy, it inevitably creates a rippling effect across the world. As the old saying goes, "When US sneezes, the rest of the world catches a cold". So what will be the best bet for investing in 2014?

Equities

A lot of analysts have recommended sticking to equities. Although Dow and S&P have reach their highest point in 2013, the analysts are proclaiming that there is still room for further increase. Dow index components are trading at PE of 17 with dividend yield of 2%. This is hardly rewarding for those who are into value investing. STI is at a PE of 12 and this is slightly below its long term PE of 14.  Given a choice, I would choose STI over the US market for now. I will still invest in equities, but will go in with my eyes wide open. One good way is to buy STI ETF that tracks the index. This gives you exposure to the full range of STI component stocks with a smaller initially cash outlay.

Bonds

Bonds are the next class of possible investment. However, given the imminent scenario of interest rate increment in 2015, bond prices will tend to drop. Singapore, being a open economy, has its interest rate tied closely to that of USA. This also means that interest rate will increase in Singapore and bond prices will increase. Therefore, this is one asset class which I will advise investors to stay clear of bonds for now.

Is keeping cash a good option?

The interest bearing accounts in Singapore banks are very low. In fact it is less than the official inflation rate of the country. So it is not wise to keep too much cash. My advise is to keep enough cash that can sustain your lifestyle for 6 to 9 months if you are out of work. The rest of the money should be made to work harder. The closely alternative to cash and fix deposit will be money market fund. These funds invest in short duration bonds that aims to give a better return rate than banking accounts, but at the same time, is not as risky as normal unit trust that invest in equities or long term bonds.

I have no experience in other investment class such as forex, precious metal or alternative investment like wine or painting, so I will not comment on them. On a closing note, do not stop investment completely. You can never time the market and it pays to invest small amount regularly to enjoy the benefits of dollar cost averaging.

Hidden Cost of Blue Chip Investment Plan

Some time back, I wrote about comparing OCBC Blue Chip Investment Plan and POSB Invest Saver and came to the conclusion that OCBC Blue Chip Investment Plan is better for my investment pattern. With this in mind, I have decided to test out a small amount by performing some purchase on the BCIP.

Fast forward to now, I just received my first statement from my Blue Chip Investment Plan and was baffled by the calculation in the statement. I have indicated to the bank that I wanted to purchase $200 worth of Nikkon AM Singapore STI ETF each month. In the statement, it was written that it had purchased 60 units for me at $3.3 per unit. This is fine as it amounts to $198. Thereafter, the transaction fee is 0.3% of the gross investment amount, as the current promotion removes the $5 minimum fees. This amounts to $0.60 for $200 of monthly investment. So all in, the total cost to me should be $198.60, but there was no refund of the remaining amount to my bank account.

With this, I have decided to comb through the terms and conditions again to see if I can discover the reason behind this and was very surprise to find the below clause at
http://www.ocbc.com.sg/personal-banking/Investments/bcip-terms-and-conditions.pdf

8.8 Fractional Amounts
OCBC reserves the right to accumulate and retain, for its own benefit, any and all fractional amounts of the aggregated Gross Investment Amounts collected from Customers each calendar month.

This means that the bank has the rights to keep any remainder value that is not enough to buy 1 unit of the indicated share. This amount can be substantial if the value of the share is large. Imagine that you are investing $100 monthly under BCIP buying UOB shares and the price for UOB shares is at about $22.20. You will only be able to buy 4 shares at a total of $88.80. After deducing the transaction cost of $0.30, there will be a residue of $10.90. Since the bank has the right to keep any amount that is insufficient to buy a unit of share, they can keep up to $10.90. This pushes up your transaction cost to about 11% of the invested amount. This is a HUGE HIDDEN COST that is hiding somewhere in the clause and not explained fully under the FAQ.

With this, I can only say do your homework properly and read through the terms and conditions carefully before purchasing any financial products. Caveat Emptor!




Updates on 29 Aug 2014
OCBC has made some revision to their terms and conditions governing BCIP and has changed the way the cost are calculated. You can read more about it from this post.

Build your personal Capital Guarantee Structured Deposits

Capital Guarantee Structured Deposits are financial products being offered by major financial institutions across the globe. The basic concept is that if you buy and hold on to a capital guarantee structured deposit until maturity, you will definitely get back all your initial capital. In addition, part of the deposit money is tied to an investment product of higher yield, such as equities and indices. So that if the underlying investment products perform well, there is a chance of obtaining higher return from your initial deposits, when compared to those offered by a vanilla bank account.

Before you invest

All these sounds too good to be true. Capital is safe, higher interest pay out than normal bank deposits. But what are the things that you should know?

• Do make sure that you have full understanding of the product you are investing. Look out for the fine prints in any investment contracts
• Ask about the risk involved. All investment products comes with certain risk. Make sure you understand them and is able to accept the risk
• Find out about any fees involved. They may come in the form of transaction, management, early withdrawal or terminating fees.
• Make sure that you do not need that amount of money for that few years until the product matures. Normally, early redemption of the product will result in loss of capital (partially or in the worst case, everything)

After considering the above points, go ahead and make the investment if you are comfortable.

Building your own

Financial institutions will try to make money in all products that they sell and Capital Guarantee Structured Deposits are no exception. One way to save on this fee is to build your own Capital Guarantee Structured Deposits. I will try to show a simple illustration of how to do it. Once you get the idea, feel free to vary it accordingly to suit your risk profile level.

Lets take the scenario where you have $10,000 to invest and is looking at the maturity of 10 years.

1. You will first need to find out the interest rate of a 10 year low risk bond. By low risk, it will mean something like AAA rated bonds by the credit rating agencies. This will ensure that the risk of default is very low and you will get back all your money in 10 years.
2.  After this, take a look at the coupon rate being offered by the bond and do some quick calculation. Assuming a rate of 5% per year, you can use $7,000 to buy the bond. This means that the coupon is $350 per year and $3,500 for 10 years. Effectively, after 10 years, you will get back $10,500 and this is $500 more than your original sum of $10,000
3. With the remaining $3,000, invest it in a higher risk investment products, such as ETF. Any sum that you make in this investment product will be the bonus interest from your very own Capital Guarantee Structured Deposit. In the unlikely scenario that you lose all $3,000 in 10 years, you will still have your original amount back, as shown in point 2.

Lets get started!

The concept behind building your personal Capital Guarantee Structured Deposit is very simple. You can even scale the amount accordingly to what you have available for investment. But if you are doing on your own, do choose your risk free bond (for the bulk of your money) and the higher risk investment product (for the small part of your money) wisely. It will affect what you get back after the product matures.

Blue Chip Investment Plan Vs Invest Saver

Banks are trying to make it affordable to buy and own equities. Personally, I think that having a little investment is good, as it is one of the better ways to grow your wealth. A lot of researches have shown that over a long run, equities often outperform the rest as an investment product. The only problem is that equities often trade in standard lots. At SGX, it is traded in lots of 1000 shares. There are talks that the exchange will lower it to 100 soon, but it is still some time away from actual implementation. In the meantime, what option do consumers have when they want to own shares, but yet have only a small pool of money to invest?

Regular Savings Plan

OCBC and POSB each came out with some Regular Savings Plan (RSP) that targets this group of consumers. Each month, consumer will use a fix amount to buy the equities or exchange traded fund of their choice. This means that when the price are high, it will buy fewer lots, but when the prices are low, it will buy more lots. In investment terms, this is called dollar cost averaging. In the long run, it tries to make your overall purchase price of the equities lower than the current traded price.

The Plans

For OCBC, the plan is called Blue Chip Investment Plan (BCIP). Below are the highlight from this plan.

• Invest with monthly minimum amount of $100
• Can choose to buy stocks in 19 counters that are part of the STI, or 1 ETF that tracks the STI.
• Buying fee of 0.3% of transacted price or $5, whichever is higher
• Selling fee of 0.3% of transacted price or $5, whichever is higher

For POSB, the plan is called Invest Saver. Below are some of the features from this plan

• Invest with monthly minimum amount of $100
• Can only buy an ETF that tracks the STI
• Buying fee of 1% of transacted price
• Selling fee of 1% of transacted price

The above does not take into account on-going promotions that the individual banks are having on this product.

Comparison

You may ask, which one will be a more suitable product for me?
I will say it all depends on your need.

Q: Would you want to buy blue chip counter or only ETF?

If you want to buy blue chip, then you need to sign up BCIP. But if you are looking to buy ETF, then you will have the option to sign up either one.

Q: If I am buying ETF, which one will I pay less transaction fee?

It all depends on how much you want to invest. If  you are investing less than $500 per month, POSB Invest Saver will be a better choice, as there is a minimum transaction fee of $5 for OCBC. But if you are investing more than $500 per month, then OCBC will provide you with a more cost effective solution.

Summary

Even if you are already investing through your broker, there is no harm in signing up for this plan. The transaction cost for small investment amount is very much lower than what a typical broker charges for buying shares. Which plan you choose will ultimately depends on your investment goals. But one time is for sure, investing regularly and early is the best way to beat the up and down of the market.