Disclaimer: this entry is only my personal opinion, it should not be taken as investing guide. Please do your own research for your investing choice.
This entry tries to study the possibilities of protecting personal income in a period of high inflation. This topic actually can be discussed in a thick book if we really go into details, but I’m trying to put things as concisely as possible.
Many banks in Germany offer a fixed rate of interest of 5%+ for a 12-month contract. Considering the inflation rate of around 3%, the actual annualized rate of return is only about 2%. The fixed 12-month contract might be a big problem for some people who require high flexibility. What if there appears a market mispricing (like right now for many DAX stocks) and you need liquidity to capture an uptrend? For me, the fixed rate, fixed period is the last option, unless any bank offers 15%+ return for 12 months.
Before I talk about insurance I’d like to say that Germany’s pension system is largely questionable. Individuals should have the right to decide how to manage the pension themselves, why should the government deprive the private right? After all there are so many financial products out there. Government should educate citizens on how to choose the right product for his/her very own need, but not simply take the money away from our payrolls. I was told that normally one is not allowed to have more than 2000 euro a month after he is retired. To be honest that sounds ridiculous to me. Ridiculously un-capitalistic. 2000 euros might not be enough for a 67-year person who might need good medicines or good nurse. We pay several hundreds of euros a month for pension now and end up with 2000 euro maximal when we are old. I have to turn on the Aria series again and mimic Alicia’s “Ala ala!” for this huge misery. To rescue ourselves, we must find some other ways out.
Many financial institutions offer so-called “Riester Rente” or “Rürup Rente”. The best Riester Rente I know in Germany is the DWS001. There is an online calculator which tells you the return on the linked site. I haven’t researched the Rürup Rente in details yet, but I guess the principal should be very similar to Riester products. You pay some amount every month to your Riester- or Rürup account, the financial institutions will invest your money for you. If the market works out well, the financial institutions may actually give an annualized return of 6% or more. The German government encourage people to buy such insurance products, and pay a little bit to your insurance account. My problem with such products are, most of them do not allow withdraw before I’m 65 or 67. That’s a big hm. I’m more than willing to work even after 67, but what if there is a sudden liquidity need in my life? The flexibility problems aside, there is a lot of complex and non-transparent details in such insurance products. When the market works out extremely well, I might not get the high return which matches the market performance. Most of such products are managed as mixed funds, the management cost is actually pretty high. For people who have no interest or time to know how financial products work at all, actually these products are very good. For people who are willing to learn and want to take the control of their own money, there are better choices.
Now the funds. There are many different kinds of funds, an overview of the fundamentals of funds can be found here and here. (Both in German since I’m talking about the German financial offerings). If one is performance-oriented, stock mutual funds are the most interesting offerings. My biggest problem with mutual funds is, they diversify too much. A typical stock fund holds 50+ stocks. Unless the macro circumstance is extremely good, the well-performing stocks is usually only a very small part of the 50+. The diversification problem aside, the management cost is also not unimportant. In Germany, the bank ING-DIBA has many excellent mutual fund offerings with zero initial charge. For people who haven’t learnt the discipline of stock investing, mutual fund is an excellent choice. Just remember do not do things like “today buy tomorrow sell” with mutual fund, make a thoughtful choice and then sit for at least five years.
I know nobody in my German life circle who holds stocks. This is a miserable thing. I never knew that German people are as conservative as that! Actually stock investing is an excellent tool for securing the pension and fighting inflation. Yes there is risk, but letting inflating devaluing my money is also a risk. I saw from the news about people condemning the T-com stock, but not every company is Deutsche Telecom, there are quite a few pearls in the DAX companies. At the moment, many stock prices do not match the company values at all, they are ridiculously low. But I see people flock to banks for the 5%, 12-month return but keep themselves away from 50% or even 150% return from the stock market. I just don’t grok this mentality. Investing in stocks requires more discipline than knowledge. Everyone knows “buy low, sell high”, but when the “low” really presents itself, very few people have the gut to get in. What people usually actually do is “buy high, sell low”. Yes picking up good working horses is not that simple. One really needs to learn and spend a lot of time digging information out from 10Ks and 10Qs of the public companies. But taking stocks as a tabu is somehow interesting to me. I don’t see this mentality in China or USA. A while ago people flocked to the Deutsche Bahn to express their sorrow and worry when the German Railway company wanted to go public. I could not help laughing out loudly whenever I saw in news that people protesting the Deutsche Bahn IPO. Now back to the stock picking. I need to get into a bit details in another entry. The principles are: Economic moat of a company is the uttermost important thing to check; As long as one does not borrow money for stock investing, stock value dropping 40% within 3 months is not that bad, as long as the fundamentals of the company are still good and the stock price goes back up 90% in the next year (This happens pretty often in emerging markets); Stay away from any warrants (Zertifikate in German). The biggest scandal of Germany in year 2008, IMHO, is the introduction of the 25% capital gain tax, regardless of the investing period. This just further discourage German people to _invest_ (IMHO there is difference between investing and speculation) in German companies. Come on, the capital market can really help German people out on pension deficiency and help them out at fighting against inflation! The government should encourage people but not discourage to the stock market!
More on stocks later.
Hi Eddy, I really did not mean to condemn the conservativeness of German people! Now I live in Germany, I must adapt myself to this environment, it’s ridiculous to ask the environment to adapt to me.
Actually this conservativeness is often respectable. I should learn from the people around me.
Off the topic: To be honest I truly think Germany is a very generous country. People treat me very well when I was studying, and I benefited a lot from the German education system. I remember all the kindnesses, will do everything I can to reward my schools and the German society.
Back to money.
There are always good times and bad times in life. And yes, to some degree I believe there is fate. What I gain at the end might not match the effort I’ve paid. Still I’d like to make an effort, and care less about the outcome. Nowadays there are so many good channels of information. People can be well informed before they start to invest, if they really do their homework. Public companies have to publish their business results every quarter. Read some good accounting books and read companies’ business results. Read between lines, pay particular attention to the footnotes. This way we can already avoid many bad decisions. How many investors kept calm in front of all the crazy P/E ratios during the great tech bubble of 1998-2000? Or did they bother gauging the P/E at all? Did they bother groking what is P/E at all? The No. 1 rule I tell myself to absolutely obey is: before you know a business inside and out, do not invest at all. Investing is not gambling.
I’m really sorry to hear your relatives’ lost during the tech bubble. My relatives also had lost in the North America market during that time. I understand how painful it is. This lesson just made me want to know as much as affordable before I put my hard-earned small money into the capital market.
I’ll try to discuss more about banks / insurance companies / inflation later in my FA study notes.
Oh, come on, it’s so easy to condemn the conservativeness of German people. But that’s not some special problem with investment and preservation of assets, it’s a general problem with the enertia of the mentality. The society lerned a lesson with market crashes 80 years ago and there is always the knowledge of possible outcome in the minds of people. This knowledge is part of the mentality, it’s always somewhere in the mind when it comes to decissions.
They also learned their lesson from the time around 1998-2000. I have relatives who invested a lot into experimental stuff on the market and were bitten by it (i.e. actually buried most of that money). There are also people like me who saw hyper inflation with the own eyes, and belive me — there is no fun, at least not the kind of fun you like to play with. Neither is a monetary reform usually used to “solve” such problems.
Why do I talk about inflation? The current official inflation factor is not mere 3%, that’s a bad joke of “result” published by some governmental agency. The average costs of living (from the personal experience) and prices of sophisticated goods are almost the same as eight years ago counted in DM instead of EUR. So from my POV it’s effectively NINE percent per year.
Do you really think the banks can afford giving you 5% just because of someones good mood? Hardly, they calculate with 12-15% percent they can get from their debtors. Now just think about where the difference (7-10%) must come from — yes, that value usually reflects the real inflation becoming in the near future. Think about it.