While gearing has many advantages, using savings to gear on a regular basis can offer some additional benefits. Regular gearing involves combining savings with borrowed funds to invest into selected managed funds and / or shares on a monthly basis. It can help grow a portfolio faster and is a simple and automatic way to drip-feed money into investments, taking advantage of dollar cost averaging. This means buying more when the market is down and less when the market is up, which can help smooth out the highs and lows of investing.
Case study: how regular gearing works
Sam has $2,000 equity and wants to invest into an Australian share fund. He can afford to invest an additional $500 per month and wants to maximise his return over a 10 year period. Sam considers the following options:
Option 1 - no gearing strategy
Invest the initial $2,000, plus $500 per month into an Australian share fund. After 10 years the total net value of the investment would be $84,867.
Option 2 - regular gearing strategy
Combine the initial $2,000 with a loan of $5,000 to make an initial investment of $7,000. Sam invests $500 per month, as well as using regular gearing to invest an additional $500 per month from the loan, i.e. he borrows $500 to create a total investment of $1,000 per month. After 10 years the total net value of the investment would be $92,202 (net of a loan balance of $65,000).
After 10 years |
Option 1 |
Option 2 |
Sam’s equity contribution |
$62,000 |
$62,000 |
Investment value after interest and tax |
$84,867 |
$157,206 |
Less Loan balance |
$0 |
$65,000 |
Investment value after interest, tax and loan |
$84,867 |
$92,206 |
Assumptions applied: interest rate 8% per annum; distributions reinvested; capital growth 4% per annum; income yield 4% per annum (70% franked); marginal tax rate 47% (including Medicare levy). Capital gains are realised in the final year and qualifies for 50% general discount.
What are the benefits of regular gearing?
-
Provides an automatic and disciplined approach to saving and investing every month.
-
Benefits from dollar cost averaging — may smooth out the highs and lows of investing.
-
Allows the investment of additional money as and when available.
-
Potential to purchase more as the investment portfolio increases in size.
What are the risks of regular gearing?
Carries the same general risks as gearing but may benefit less in a rising market.
Download "Your guide to gearing".
Your guide to gearing
Understanding reverse mortgages
Self-funding instalment warrants
Understanding annuities
FOR ADVISERS USE ONLY
This information has been prepared by BT, a part of Westpac Banking Corporation ABN 33 007 457 141 AFSL 233714 (Westpac), for financial advisers only and must not be made available to any client or any other person, or attributed to Westpac or any other company in the Westpac group.
The information is an overview only and it should not be considered a comprehensive statement on any matter nor relied upon as such. Any graph, case study or example is for illustrative purposes only and is not an indication of future performance or result. Where past performance is used, please note that past performance is not a reliable indicator of future performance. Any taxation information is a general statement based on current laws and their interpretation. The article is current as of the date of the article unless stated otherwise. The article does not contain, and should not to be taken to contain, any financial product advice and it does not take into account any person’s financial situation, needs, objectives or taxation situation. Because of this, you should, before acting on the information, consider its appropriateness to your clients, having regard to their financial situation, needs and objectives, and your clients should seek independent professional taxation advice on any taxation matters. It is not the intention of Westpac or any member of the Westpac group that the information be used as the primary source of readers’ information but as an adjunct to their own resources and training and should therefore not be relied on for the purposes of making any financial recommendations or an investment decision. To the maximum extent permitted by law: (a) no guarantee, representation or warranty is given that any information or advice in this website is complete, accurate or up to date or fit for any purpose; and (b) no member of the Westpac group is in any way liable to you (including for negligence) in respect of any reliance upon such information.
This page may also contain links to websites operated by third parties (‘Third Parties’) who are not related to the Westpac Group (‘Third Party Web Sites’). These links are provided for convenience only and do not represent any endorsement or approval by the Westpac Group of those Third Parties or the information, products or services displayed or offered on the Third Party Web Sites.