How should I invest my home deposit?
This is a question I often get asked and the question I always ask back is “how long until you plan to buy a place?”
Saving for a home is hard so it definitely helps to get a helping hand from investment returns however by seeking higher returns you are likely exposing yourself to additional risk that you may not be able to afford.
The share market is the most common investment people wish to park their deposit however I rarely see this as an appropriate strategy due to the risk associated with the share market.
The share market has and will continue to provide a good return over the long-term however the share market goes in unpredictable cycles and I don’t think it’s an appropriate investment unless you have a 7+ year investment horizon (e.g. you don’t need the cash to use as a deposit for 7+ years).
But why 7 years?
There’s no exact answer, some may argue less and some may argue more however this is a commonly recommended timeframe (including by Vanguard, one of the biggest investment managers in the world).
It’s undeniably a long-term strategy though as the share market can decline and stay declined for a long period of time and in situations like this, you would want for the share market to recover so your deposit is back to its original value so that you can purchase your home.
Back in 2007 in the Global Financial Crisis, share markets declined a lot and a diversified portfolio primarily invested in shares would have declined about 45% before reaching its low after around 18 months. So if you invested a $100,000 deposit into the share market at its peak, around 18 months later your investment including dividends is worth around $55,000. Including dividends, it would have taken you around 5 and a half years to get your money back. Sure, that $100,000 is now worth some $185,000 but was this person planning on buying a home 12 years later?
So what’s the alternative?
Cash is not a good long-term investment as you’re almost certain to lose money after factoring in tax on interest and the rising cost of living but it’s secure. Currently, you’ll only be able to get interest rates in the high 2% however if you plan to buy a home in the next few years, this security will save a lot of worries and is probably your best bet.
But what about the First Home Super Saver Scheme?
I wrote about this here and there are tax savings on offer however I do caution that it’s an overcomplicated scheme and the above investment principles for your contributions should apply otherwise you’re stealing from your future self if the market declines and doesn’t recover by the time you withdraw your contributions.