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In this issue:
Investing for income and growth: Pensioners Concerns
Cash return holiday is over
Unit trust funds on the front foot again
Investing for income and growth
South Africans retiring at age 65 can expect to live for another
20 years (and half will live longer). Retirees therefore require an
income from their investments over an extended period of time.
When faced with the need to maintain a certain level of income
without depleting capital over two or three decades, investors have
to make complex trade-offs to ensure that they achieve their goals.
The key decisions include:
- Contructing a portfolio of assets that can limit the variability of
returns from year to year while maintaining adequate protection
against the eroding effects of infl ation; and
- Deciding on a level of income high enough to fund an acceptable
living standard, but low enough to ensure sustainability of this
living standard over time.
The risk of not taking enough risk
The importance of the key decisions is most acute for retired
investors depending on a living annuity for some, or all, of their
retirement benefits. It may intuitively sound sensible to avoid
all risk by investing in a very conservative investment, such as a
money market fund. Money market funds only hold short-term
debt instruments issued by banks, large companies and the
government, and are considered the safest investment option
offered by fund managers. Since 2000, the money market funds
returned 9.8% p.a., with the highest return of 12% in 2003 and the lowest return of 7% in 2005. An investor requiring a before tax
income equal to 6% or 7% of the value of their capital may rightly
wonder whether it is worthwhile to take any more risk in the hope
of earning higher returns.
We can, with a high degree of certainty, conclude that money market funds are not a suitable solution for investors requiring
income over the medium to longer term. infl ation each year. Strategic Income focuses on the yielding asset
classes, and specifi cally excludes more volatile ordinary shares and
foreign assets. The lowest calendar-year return the fund achieved
in the past eight years was an attractive 7.8% in 2007, directly as
a result of this conservative approach. However, the downside of
this conservatism is that the fund has not managed to protect afterinflation capital at higher initial income levels.
The benefit of accepting a lower drawdown rate
It is fairly obvious that taking a lower level of income will make your
portfolio last longer. A further benefi t is that a low draw down rate
makes it possible to protect capital against infl ation without taking
signifi cant amounts of risk. Figure 2 indicates that the Coronation
Strategic Income Fund preserved the purchasing power of capital
over the last eight years at a drawdown rate of 3%, adjusted for inflation each year. Strategic Income focuses on the yielding asset
classes, and specifi cally excludes more volatile ordinary shares and
foreign assets. The lowest calendar-year return the fund achieved
in the past eight years was an attractive 7.8% in 2007, directly as
a result of this conservative approach. However, the downside of
this conservatism is that the fund has not managed to protect afterinflation capital at higher initial income levels.
We can therefore conclude that a low-risk investment portfolio with
no equity exposure is only suitable for investors who can afford to
draw very low rates of income, or who are only investing for the
short to medium term.(Courtesy of Coronation Fund Managers: Pieter Koekemoer : Head of Personal Investments)
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THE CASH RETURN HOLIDAY IS OVER
There are two sides to the interest rate debate. Those of us who invest in property and other fixed assets spend so much time complaining about the high cost of capital that we forget the thousands of retirees (and savers) who rely on fixed income investments to get by. What happens to them when interest rates fall? FAnews Online searched for answers at the Old Mutual Investment Group SA (Omigsa) quarterly press conference, held in Johannesburg on 21 July 2009. Peter Brooke, head of Macro Strategy Investments presented a series of slides titled: “The quest for real return.”
Brooke kicked off his presentation with a bit of a history lesson. “We’ve had real cash yields of nearly 5% for the last fifteen years,” said Brooke. Love or hate him, local savers have enjoyed a prosperous time during Tito Mboweni’s rein. In contrast, savers suffered negative real returns on cash – before taxation – in the pre-Mboweni era. The bad news for savers is that South African cash entered a negative real return situation in Q2 2009.
Cash is trash
Plummeting global interest rates underline the “cash is trash” tag. In the last six months 44 of 46 countries monitored by Omigsa have cut interest rates, with 19 of these countries at 2% or less. The G7 countries report average interest rates of just 0.6%. There are serious economic consequences to declining interest rates including low returns on defensive funds, subsidisation of banks by savers and the threat of inflation! Brooke points to the US and UK where savers are getting near zero returns while banks build up their balance sheets. “The very institutions who led us into trouble are now getting bailed out by savers!” said Brooke.
“For the first time in three-and-a-half years both bond yields and property yields are returning in excess of cash,” said Brooke. This yield gap between bonds and cash is mirrored all around the world. “It’s a no-brainer to get out of cash overseas!” said Brooke. And in South Africa, negative cash yields will result in a return to risk appetite too. “As soon as cash return goes, you see a return to risk appetitive – in other words markets recover, volatility falls etc.” Investors will undoubtedly do better in property, equity and cash in the short term.
What will happen going forward? “Betting that the world will not have a recovery is a mistake,” said Brooke, adding that most developed economies would make steady progress in 2010. Under this scenario equities will quickly gain favour. “In South Africa we would expect inflation to come down,” said Brooke. But he warned that the Reserve Bank was extremely concerned with how sticky inflation has been on the way down. “Guessing where interest rates are going to be is a bit of a lottery over the next year,” said Brooke, adding that we won’t witness a return to 5% real returns in cash any time soon.
(Courtesy: FAnews Editor)
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UNIT TRUST FUNDS ON THE FRONT FOOT AGAIN
The speed and magnitude of the global equity recovery caught everyone by surprise. By 2 June 2009 the MSCI World Index had retraced 45% from its 9 March lows. The MSCI Emerging Markets Index clawed back 68% over a similar period. ‘The recovery has been astounding, to say the least,” said Plexus group chairperson, Dr Prieur du Plessis, as quoted by I-Net Bridge.
Much of the recent strength is due to the return of investors’ risk appetite. Investor sentiment has also improved as the so-called ‘green shoots’ of economic recovery take hold. Du Plessis pointed to the 13.4% (Q2 2009) improvement in the Commodities Research Bureau Index and the 40.8% surge in Brent oil futures as proof. “This [rebound] indicates that global players believe the world economy is turning around and that investors are regaining their appetite for risk,” said Du Plessis. And locally listed shares are following their global peers. The JSE All Share ‘total return index’ climbed 8.7% over the second quarter. Financials were up 12.3%, industrials 14.0% and resources 2.8%.
Should you pour money into unit trusts today?
Under these conditions the unit trust industry has performed commendably. There were still some negative performers in the latest period (five of 29), but Du Plessis notes that the poor performers were all among foreign categories, where performances were severely impacted by the strong rand. Over three months the best performing categories were domestic equity smaller companies (+14.7%) and domestic equity financials (+14.1%). The worst three-month performance – no surprises here – was the foreign fixed interest varied specialist with (-11.6%). Foreign fixed interest bond funds were not far behind with -10.6%.
The question you should be asking is whether it’s time to move your spare cash back into equity unit trusts. According to Du Plessis your decision will hinge on your investment time frame. “If you are a long-term investor with a time horizon of more than five years, now is the time to invest in equity unit trusts,” said Du Plessis. But he warned against committing large sums of funds in a single hit. “As the global economic recovery is still fragile and there may be further downside (or, at best, a sideways trend with volatility) in equity prices over the next few months, investors should adopt a phasing-in strategy,” he said.
(Courtesy: FAnews Editor)
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