How to buy an investment ‘pizza’ instead of a house

As we all know, property prices have soared however you measure them, making them a less realistic alternative for many younger investors compared to their parents or grandparents.

Indeed, since the early 1990s house prices have flown from less than three times disposable household income to more than five and a half times now.

As we covered last week when looking at some of the realistic alternatives to buying a house, many houses and apartments are out of reach for young investors on some income levels and made saving for a property a very long process for others.

Fortunately, younger investors are savvy and have been flocking to invest on the share market as the property market grew more difficult, with a greater proportion of millennials likely to buy an exchange traded fund than any other generation.

The ‘Aussie’

There is nothing wrong with investing and eating local – not everybody needs the extra herbs, spices and currency risks that comes with international exposure.

Investing in a good Aussie diversified portfolio with a juicy, fully franked dividend yield is not hard with the two main options being a listed investment company (LIC) or an exchange traded fund (ETF).

The two largest LICs are Australian Foundation (ASX: AFI) and Argo (ASX: ARG), while the largest ASX 200 ETF is SPDR ASX 200 (ASX: STW), although there are a host of others including Ishares Core ASX 200 ETF (ASX: IOZ), Vanguard Australian Shares (ASX: VAS) and Betashares Australia 200 (ASX: A200).

Some higher yielding options

For those that want just a hint of chilli on their Aussie pizza, there are also some higher yield Australian ETFs such as Vanguard Australian Shares High Yield (ASX: VHY), iShares S&P/ASX High Dividend Yield (ASX: IHD), Russell High Dividend Australian Shares (ASX: RDV), SPDR Australia Select High Dividend Yield Fund (ASX: SYI), ETFS ASX 300 High Yield Plus (ASX: ZYAU) and VanEck Morningstar Australian Moat Income (ASX: DVDY).

Bear in mind, most high dividend ETFs trade off some measure of capital gain to produce the higher dividends.

The ‘Quattro’

Sometimes known as the ‘Four Corners’ pizza because of four different types of topping, the Quattro is also a popular investment combination because it adds greater diversification and more tastes in a single product.

Of course, you can also go with a ‘half n half’ using two flavours but the idea is the same and the combinations are plentiful.

One of the first two flavours to choose are the main ingredients in the Aussie – an ASX 200 ETF, LIC or a high yield fund but for the other two quarters, it is time to go shopping overseas.

Time to shop overseas

The first and most obvious place to shop is in the world’s biggest capital market and the home of the world’s biggest and most successful global companies – the United States.

Unlike the Aussie ingredients, you shouldn’t go in expecting much more than a derisory dividend yield out of the S&P 500, but what you do get is strong, long-term growth and exposure to some important sectors such as technology and healthcare that are much smaller and less mature in the Australian market.

Fortunately, buying access to the S&P 500 – or the NASDAQ for that matter – is easy and relatively cheap in the form of iShares S&P 500 ETF (ASX: IVV) and Vanguard Total US Stock Market ETF (ASX: VTS) – plus several others as well.

The Vanguard product is a little wider, giving access to companies that don’t make it into the 500 but the results are broadly similar.

Factor in currency changes

One thing to note when adding some international spice to your investment pizza is that currencies will play a part in your investment return.

So, if the US dollar goes down relative to the Australian dollar, your US investment will go down too when expressed in Australian dollars, even if the price in the US hasn’t changed.

You can mitigate this currency risk by using hedging with several products offering that inbuilt, but hedging costs money and in the very long term, you’ll probably do better to just take on the currency risk. Again, it is your pizza, so select the options you like.

The final quarter is also international in nature, but we are looking at the rest of the world rather than the US market.

That is important because there are many very large and innovative companies in Europe and Asia, for example, that it is good to be exposed to.

There are a myriad of “rest of the world” products out there but the big ones are Vanguard MSCI Index International Shares ETF (ASX: VGS), Vanguard All-World ex US Shares Index ETF (ASX: VEU) and iShares S&P Global 100 ETF (ASX: IOO).

Once again, there are some hedged products available if that is what you are after.

The ‘Supreme’

Often when you want a pizza, the supreme is a failsafe choice because it has a bit of everything, so you never feel like you are missing out.

In the investment sense, the supreme pizza is the pre-mixed, set-and-forget type of fund that gives you a broad exposure in one easy purchase.

Similar to a superannuation fund in the spread of investments it uses, the pre-mixed fund allows you to choose how much risk you are happy to take and then choose accordingly.

Pick the right level of risk

Obviously with higher risk comes higher rewards and more volatility so it depends very much on the individual investor.

In general, you should go for the level of risk that allows you to sleep soundly at night – there is no use riding the big dipper if the sharp downward moves are going to make you panic or sick.

For example, Vanguard has four pre-mixed funds: the Vanguard diversified conservative index ETF (ASX: VDCO), the Vanguard diversified balanced index fund (ASX: VDBA) the Vanguard diversified growth index ETF (ASX: VDGR) and the Vanguard diversified high growth index ETF (VDHG).

As the names suggest, you are gradually moving up the risk/return as you go up to high growth so you really need to know yourself and how you will react to market downturns.

In general terms, higher growth options will outperform in the longer term, but will also be more subject to losing money occasionally so the duration of your investment is also important to consider.

In this case, the high growth ETF only has 10% of its funds in income asset classes and 90% in growth assets while the conservative fund at the other end of the spectrum has a 70% allocation to income asset classes and a 30% exposure to growth assets.

Fees are a little higher than for many of the broad index funds, but for the money you can enjoy your supreme pizza safe in the knowledge that it is invested according to your chosen investment risk and is widely diversified across various asset classes.

While I have used Vanguard as an example, there are of course a welter of other similar products spread across the major ETF providers.

Alternatives to buying a house

So, there you have it, three investment pizza alternatives that could easily replace buying a house for younger investors.

The great thing about all of them is that they are highly liquid (easy to sell quickly) and suitable for adding to over time with additional purchases – two key advantages over buying a house.

If things go wrong when you have bought a house, you can’t just sell off a back room to liquidate part of the investment.

Having said that, it is important to let any long-term investment program to also act as a form of enforced savings – something that buying a house is very good at doing.

So, remember to remain disciplined in your approach.