Geared funds are proving to be a popular strategy for wealth accumulation, especially for younger clients with a long time horizon, but they require careful consideration by financial advisers.
Gearing is an investment strategy that combines investors’ capital with borrowed funds, allowing for larger amounts to be invested and potentially delivering magnified returns.
But professionals suggest there is a crucial role for financial advisers to play in harnessing the benefits of such strategies while mitigating potential downsides for clients.
A number of such offerings from fund managers exist in the Australian market, such as geared equity funds from VanEck, Perpetual, and Ausbil. Earlier this year, Betashares also unveiled its “wealth builder” range, which is understood to deliver Australia’s first moderately geared ETFs on the ASX.
According to Chris Carlin, founder of Queensland-based financial planning firm Glasshouse Wealth, there can be long-term benefits to gearing strategies when they are used thoughtfully.
“My niche is the ambitious accumulator,” he explained, adding that geared strategies can play a key role in catering to this particular segment.
“[This] is definitely something that advisers I know have spoken about, but I haven’t really seen anything marketed as to the power of what that can do in terms of the long-term benefits of clients being in internally geared managed funds if they’re done the right way.”
Looking at how these funds operate, he explained an initial investment of $20,000 could see clients’ investment amplified to $40,000 over the long term if it is leveraged internally up to 200 per cent in a geared strategy.
“Past performance is not an indicator of future returns, but if we believe that the share market is going to increase in value, and we’re getting that extra exposure, it’s literally hundreds and thousands of dollars that could add potentially to your retirement savings,” Carlin said.
“If we’re able to step into the market and increase our exposure and leverage investments while the market is down again, it just gives us that opportunity to really add significant value to our client’s overall position.”
He maintained that, over the long term, such geared strategies can deliver added value to a client’s portfolio if they are employed well by an adviser.
“If it’s done right, we’re able to add significant long-term value to a client’s portfolio and really create intergenerational wealth that benefits them, benefits their kids and many generations to come,” Carlin said.
Marc Jocum, product and investment strategist at Global X Australia which runs an Ultra Long Nasdaq 100 Complex ETF, observed the average Australian tends to be more familiar with gearing of the property market but is unaware it can be applied to share investing.
“Many investors lack awareness that gearing or leverage can be used within share investing. If you think about it, property prices haven’t really been the thing that’s generated all the wealth, it’s actually been leveraged, but that only works when asset prices go up,” he told Money Management.
For advised clients, he agreed with Carlin that such strategies could prove a “productive use of their time and assets” for young professionals in their 20s and 30s.
“Many people lack an initial capital base to invest in the share market, so by using gearing or leverage, you can magnify that exposure. It does work when markets go up and I think a lot of people who don’t have that initial capital base might be interested in something like this whereas later on in life, they’re retirees, they’ve got a lower risk appetite and already have the capital base, and may be less interested.”
He remarked leverage can be seen as part of a less hands-on, buy-and-hold strategy in modest levels, suitable for investors with a long-term time horizon. But it is not without risks, which have to be considered as what goes up can always come down.
“Some geared ETFs, we’ve seen, have fallen up to 70–80 per cent over the course of the last 5–10 years,” he pointed out.
“I do think this needs to be a more hands-on approach, given the complexity and risk of investing in these products. That said, ETFs make it very easy and accessible […] to get that leveraged exposure, without having to go out and get a loan themselves.
“It’s an easy, transparent way to get this magnified exposure, add a bit of spice to their portfolio if they do want it, without the burdensome and administrative complexities.
“That’s where advisers have a really important role to play, to not just communicate this to their clients, but deem what’s appropriate for their portfolios,” Jocum explained.
He also observed advisers often want to keep their products reasonably simple in a model portfolio, and that geared products could be potentially complicated for clients to understand.
“To have to explain to a client how leverage works and make an analogy to property, that can be a little complex. People might be risk-averse of borrowing because of things like margin loans and making margin calls.
“I do think advisers have a role to play in this, but I think they need to use leverage quite tactically rather than make it applicable to all their clients because not all clients need to have leverage in their portfolios.”
