After four years of exceptional returns on the JSE, South African investors have endured one shocking year. The market is back to the level it was at in 2006, wiping out all those gains – but if you rode the bull market from 2002 to 2007, you most likely will still have outperformed cash and bonds.
Despite what has happened on the JSE, there is no need for long-term investors to adjust their strategy. However, the most vital aspect of retirement planning, explains Citadel wealth planner Andrew Finlayson, is that you do have a strategy.
He lists three key components of any retirement plan: understanding the capital you have available, projecting your future expenditure and anticipating any post-retirement income.
Once the primary income is gone post-retirement, household costs have to be reduced – but you will still want to maintain a certain lifestyle and household.
“All costs have to be extrapolated into the future to provide for inflation,” says Finlayson.
“Once we know the individual’s monthly cost of lifestyle, adjusted for inflation, and have an assumption as to what the return on investment will be, then we can determine how much capital he needs to put away.”
Retirement is a chancy business, and few financially literate people today retire without making provision for some post-retirement income, such as rental or part-time work.
Andrew Warren, a director at Liberty Life personal lines says the key to retiring rich is to start saving as early as possible. Many individuals, strapped for cash or eyeing a major purchase, tell themselves they can make up for lost time by making higher contributions in future years. Unfortunately, money doesn’t work that way. Thanks to the power of compound interest, cash invested today has a disproportional impact on your wealth level at retirement.
Retirement annuities (RAs) are one of the most efficient ways to save for retirement, because of the tax advantages. However, Finlayson claims they have a bad reputation with regular investors, and would only recommend them to people if there is a clear tax benefit.
“A lot of people say it was the worst investment they ever made. This is not the fault of the product itself, but the fact that many of the RA product providers are focused on the savings aspect and not the investment performance,” he says. The argument forwarded by the insurance industry, he claims, is that the primary advantage of RAs is their ‘forced savings’ characteristic.
“As a result there is very little focus on investors’ financial circumstances, and asset allocation, and they are simply a vanilla investment solution.”
In the case of entrepreneurs, Warren says they would be likely to get the tax benefit, because they structure their own plan, “and in this case an RA is very beneficial”.
“An RA is a vehicle offering access to a wide range of asset classes and can be completely bespoke to the individual, or he can select from a wide range, or change the mix as his circumstances change,” says Warren.
He emphasises that the contractual savings nature of RAs is not to be under-estimated.
“It locks in those savings. Casual savings are too easy to dip into if some emergency crops up during a year. For someone lacking personal discipline, this is the product to go to first.”
Finlayson concedes that the investment performance of RAs have improved recently. For instance, Citadel, Liberty and Allan Gray all offer RAs that have a focus on asset allocation.
One alternative to insurance products is the JSE. Many investment advisers had been suggesting for some time that local markets were over-priced, and the prudent investor should have been reducing his exposure to equities
Finlayson says Citadel had been reducing wealthy clients’ exposure to equities for two years, and as a result Citadel’s portfolios are only 4%-5% down this year, compared to the JSE’s 25% losses.
The problem is that nobody can predict the bottom of the market. For instance, notwithstanding six months of market correction that hit financial services in particular, stocks in several major British banks still managed to drop 40% in a single week in the middle of January.
On the other hand, no less an authority than investment guru, Warren Buffet, says this is the time to be “greedy” with equities and buy in. Finlayson agrees with this, with the caveat that the investor has a 5-10 year investment horizon.
For investors looking at diversifying, he suggests that the investor’s own home is probably sufficient exposure to direct property, and those looking for more property should consider listed property.
“The costs of transacting in physical property are high, they are extremely illiquid and the price is unknown, being determined by the market,” he says. If someone is still insistent on physical property for the rental income, he advises bonding it for the tax advantages.
One of the best returns one can achieve in the short-term is to pay spare cash into one’s bond. Finlayson explains: “If you look at the economy and the direction of corporate returns, a guaranteed after-tax return of 13% will probably outperform any other current return.”
Both he and Warren agree that paying more into your bond is a good short-term strategy, but it excludes you from potential opportunities in the equities market.
One of the hardest calls at the moment is offshore investments. They have on average performed considerably worse than the JSE. The result is that their relative pricing is better than the JSE, and top global companies are available for bargain prices.
Finlayson says: “There are really good opportunities. These are companies that may still struggle for a year, but will do well over the next 5-10 years.”
Richard Carter, head of product development at Allan Gray Unit Trusts Management, says: “The difference between fund returns and investor returns is likely to increase during times when the market is very high, decreasing, or very volatile. These extreme conditions unsettle investors and increase emotion-based, short-term investment decisions.”
