Invest in a 30-day notice account or unit trusts?
A combination of income funds run by respected asset managers may be one of the safest forms of investment, other than cash.
BUSINESS NEWS – South Africans are currently finding themselves in a high interest rate environment (compared with internationally), together with low inflation locally. Real returns from cash and fixed-interest instruments are therefore for the moment attractive, considering a negative double-digit return from risk assets for the year to date.
Cash and fixed-interest instruments returns (such as local bonds) have been quite impressive in US dollar terms, considering the strengthening of the rand since November/December 2015.
As both of these asset classes outperformed local equities and listed property, it is necessary to refocus on the appropriateness of each asset class, instead of just the short-term return results.
Income-type funds
Cash and cash-equivalents are perhaps better understood by investors than ‘income funds’. Income funds consist of cash, cash-equivalents, listed/unlisted bonds (such as short-dated government bonds and corporate/inflation-linked bonds) and possibly small exposures to listed property/equity. Income funds predominantly have local assets but can include offshore assets of the same categories, typically 10% to 30% (within Regulation 28).
Although these funds are low risk, they can be more volatile than cash during liquidity crunches in the bond, property and equity markets. Income funds can appreciate in value from the reinvestment of interest, rent and dividends received, but also from an instrument pricing point of view.
The price of bonds is driven by factors such as changing interest rates and liquidity considerations (normal supply and demand mechanisms).
Considerations for choosing an appropriate asset class
- Investment term
Considered individually, cash and fixed-interest instruments – together with low exposures to listed property/equity (income funds) – are well suited for a short-term investment period of one to three years. Cash and income funds form part of a diversified portfolio, but considered individually, they are both effective for ‘capital preservation’ strategies.
- Risk or certainty
Bank notice deposit: Investors should be rewarded with above-inflation returns for taking on investment risk. I see a cash investment as a preservation/parking/payment tool, where a client has no market risk appetite. Each bank has a credit rating, which is an indication of the bank’s ability to repay its depositors. Standard Bank, Investec, FirstRand, Absaand Nedbank, for example, all have a Moody’s rating of Baa3. The credit rating of each bank should be factored in when interest rates are considered in a like-for-like comparison, as not all banks are the same.
Income fund: Investors investing in income funds must acknowledge that income funds can drop by 5% to 15% during short-term extreme volatility. A key focus for income fund management is to avoid permanent loss of capital at all costs.
- Diversification
Bank notice deposits: In South Africa we have seen a few examples of banks that got into financial trouble. Although this is a highly unlikely event, it should still be part of your consideration, especially if you place all your savings (retirement/discretionary) with one depository.
Ideally, do not place more that 20% of your life savings in one financial instrument.
One can see that a pure return consideration (such as the additional 0.05% to 0.2% per year return from Bank A versus Bank B) pales in insignificance if there is a risk of losing your investment capital plus interest.
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Source: knysnaplettherald.com