Australia’s Big 4 – the Commonwealth Bank of Australia (ASX: CBA), Westpac Banking Corporation (ASX: WBC), National Australia Bank Ltd (ASX: NAB), and the Australia and New Zealand Banking Group (ASX: ANZ) – dominate not only the banking industry, but also the ASX, being the 1st, 4th, 5th and 6th largest companies on the ASX by market capitalisation.
It’s easy to see why. Investors love to stick with what they know, and just about every Australian can recognise these banks’ iconic logos wherever they go. So, with impressive fully franked dividends ranging from 6.3% to 6.7% (market average of 4.2%), why do I think bank shares are such a terrible option for most beginning investors?
Changing our perspective on risk
“I’m just thinking of buying bank shares because I don’t want anything too risky”
Whilst it’s unlikely that our banks will be going out of business any time soon, it doesn’t mean that your investment will be immune to volatility. Banks exemplify the definition of a cyclical stock – as the economy slows and loans begin to decrease, it doesn’t take long before dividends are cut and the share price begins to dive. During the GFC, the Commonwealth Bank share price fell as much as 57%, debunking the so-called ‘safe’ status that new investors tend to give reputable companies. The impact of record low rates and the banking royal commission continues to put pressure on the banks, making it harder for them to issue loans and thus squeezing their profit margins.
Another good reason to steer clear of our banks is that you probably already own them. The Commonwealth Bank, Westpac, and ANZ are the top three most commonly owned shares by superannuation funds, with NAB following closely behind. With this much exposure being had through superannuation holdings, most working Australians would be better off seeking growth and diversification from different assets.
So, what are the alternatives?
I’d say the biggest problem for investors starting out is diversification. General wisdom suggests that investors get to 10 stocks as soon as they can so that any adverse event affecting any one individual stock won’t destroy your portfolio.
Exchange-Traded Funds, or ETFs, are a fantastic way to get instant diversification across many companies without being swamped by brokerage fees. Instead of buying an individual company, putting money into an ETF means that a fund manager will automatically allocate your investment across a range of opportunities. I’d recommend the Betashares Australia 200 ETF (ASX: A200) for investors seeking local exposure, with a management fee of only 0.07%. Investors seeking exposure to established US companies such as Microsoft, Apple and Amazon can achieve this with the iShares S&P 500 ETF (ASX: IVV).
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Motley Fool contributor Saran Likitkunawong has no position in any of the stocks mentioned. The Motley Fool Australia owns shares of National Australia Bank Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.