Make money work

2010-10-16 10:58

Long-term savings are very different to short-term savings. Last week we considered Farrah’s short-term savings needs, but now she needs to look at some investments that will offer her a good return in the longer term – over, say, five to seven years.

To do this, Farrah should look at a number of investments in what are termed the “asset classes”.

There are five asset types that Farrah could invest in, exposing herself to all the investment ­sectors in the process and so managing her risk and protecting her capital against ­inflation and ­taxation.

These five asset classes are cash, gilts/bonds (fixed-interest instruments), property, equity (shares) and alternative strategy portfolios (like Absolute Return Funds and Real Return Funds).

Deciding on the allocation of your assets is important.

In fact, the decision you make will determine 90% of your ­returns over a five-year period or longer. (See side bar on risk vs return.)
Which investments are best?

Farrah is faced with three types of risk when she invests: the loss of capital because of market fluctuation; inflation, which will result in a decline in the real purchasing power of her capital and income; and the risk of not achieving her objectives.

First, Farrah needs to decide what her objectives are:
» Does she want to make a monthly contribution to a ­chosen investment?

» Does she want flexibility or is she happy to not have access to her funds for a few years?

» What costs is she prepared to look at?

Mike Heeley, a financial ­consultant at Alexander Forbes ­Financial Planning, believes that for most investors who are not investment experts a good way to safeguard capital over the longer term and avoid the inflationary risk of holding cash is to look at a portfolio of unit trusts.

Unit trusts are generally ­managed by some of the best ­investment professionals in the country. It is important to choose a fund with a good long-term track record as these ­managers have proved themselves through all market cycles.

Some of the fund managers that tend to be the most popular with independent financial ­advisers include Coronation, ­Prudential, Allan Gray and ­Investec.

Unit trusts provide great ­flexibility with regard to how money can be invested.

There are a large number of funds available for Farrah to choose from to put in place a portfolio that is most suitable to her needs.

She will have flexibility in terms of having access to money and she can make lump-sum withdrawals at any time, or ­regular monthly withdrawals if needs be. She can also invest more money into the portfolio with ease.

Another option for Farrah is exchange-traded funds (ETFs). These are funds which track a specific index of shares on the JSE and which provide the average return of the stock market.

They have lower fees than unit trusts because they are not ­actively managed by a fund manager. Only about 20% of fund managers actually outperform the average of the stock market yet they charge higher fees, which is the reason ETFs are gaining popularity.

Satrix offers a range of ETFs that Farrah could consider. Satrix buys you an investment in a portfolio of the top shares on the JSE. The only downside, however, is that they are not ­diversified across a range of asset classes (such as bonds and property) and Farrah would only have ­exposure to the stock market. This would increase the risk of the investment.

A unit trust fund manager with a flexible or balanced mandate can invest across the asset classes and lower the volatility of the investment.

For both unit trusts and ETFs there is tax on interest and Capital Gains Tax which applies each time she chooses to withdraw money from the fund.

Farrah can consider the money market, but it is not suitable as a long-term investment as it will not give her a return ­sufficiently above inflation.

An endowment policy is not suitable due to the restrictive nature of the policy, but also ­because tax is deducted at a rate of 30% within the policy which is higher than her current marginal tax rate.

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