Monthly Archives: February 2017

The difficulty in determining cost effectiveness

Determining what added value you get when you pay above-benchmark investment fees for your collective investment scheme is similar to weighing the cost-effectiveness of a luxury German sedan against a Korean family car.

Will you get enough additional value from the investment to compensate you for the extra money you have to pay? Put simply, will you get bang for your buck?

If a fund delivers a 100% return during a particular year, an investor will probably have no problem sacrificing 10% of the return in fees. But if the return was 11%, forfeiting 10 percentage points in costs would make no sense.

This is probably the most important point in evaluating the fees you pay for your collective investment, says Pankie Kellerman, chief executive officer of Gryphon Asset Management. It is not about the absolute quantum you pay, but about what you buy for it.

The impact of costs

Calculations compiled by Itransact suggest that if an amount of R100 000 was invested over 20 years at an investment return of 15% per annum (inflation is an assumed 6%) at a cost of 1%, the investor would lose 17% of his returns as a result of fees. If costs climb to 3%, the investor would sacrifice almost 42% of his returns.

Unfortunately, it is not always that easy to get a clear sense of what you pay and what it is you pay for, but the introduction of the Effective Annual Cost (EAC), a standard that outlines how retail product costs are disclosed to investors should make this easier.

Shaun Levitan, chief operating officer of liability-driven investment manager Colourfield, says the time spent looking around for a reduced cost is time worth allocating.

“I think that any purchase decision needs to consider costs, but there comes a point at which you get what you pay for.”

You don’t want to be in a situation where managers or providers are lowering their fees but in so doing are sacrificing on the quality of the offering, he says.

“There tends to be a focus by everyone on costs and [they do] not necessarily understand the value-add that a manager may provide. Just because someone is more expensive doesn’t mean that you are not getting value for what you pay and I think that is the difficulty.”

Costs over time

Despite increased competition and efforts by local regulators to lower costs over the last decade, particularly in the retirement industry, fees haven’t come down a significant degree.

Figures shared at a recent Absa Investment Conference, suggest that the median South African multi-asset fund had a total expense ratio (TER) of 1.62% in 2015, compared to 1.67% in 2007. The maximum charge in the same category increased from 3.35% in 2007 to 4.76% in 2015. The minimum fee reduced quite significantly however from 1.04% to 0.44%.

A good investment in the short term

Q: I’ve decided to sell my house, and I expect to realise just under R1 million. I would like to use this money to pay off our debts like our credit cards and possibly our cars. That will leave me with approximately R500 000.

My plan is not to buy another house just yet as we are not sure if we may move to a different province or even different country in the next couple of years. With all that is going on in the markets and considering that all of my other money is either in exchange-traded funds (ETFs), unit trusts, retirement annuities and another property that I own, would it be wise to invest my money in physical gold? Or would it be better to invest in a money market account where I can get 6.4%?

I want something safe, as it is not often in life you get a lump sum like this. We are also sacrificing having a nice big house in order to live in a smaller dwelling for the sake of being prudent and using this opportunity wisely.

As with many similar questions that I have been asked over the years, it is vital that you meet with a financial planner. A full understanding of your financial situation is required. It is not wise to give recommendations based on only a portion of your investment information.

However, that said, let’s assume that I have understood your risk profile accurately, and that a ‘couple of years’ refers to two years. I would consider the following to be wise counsel:

It is unlikely that allocating the full amount to gold would be appropriate as the price of gold can be volatile over short-term periods. I would also assume that the lump sum of R500 000 is unlikely to be a small portion (i.e. less than 5%) of your overall portfolio, and this makes it even less appropriate to allocate the full amount to gold.

In addition, you specifically ask about physical gold, which in most cases is Krugerrands. When investing in Krugerrands there are fees of about R3 000 per ounce (you can buy for R21 000 versus selling for R18 000 as per the Cape Gold Coin Exchange), which need to be taken into account. Over a short-term horizon, these costs could be really punitive.

The gold price would therefore have to increase substantially over your two year period to beat the 6.4% per annum offered by your money market option. Remember you will also have to take into account the storage and insurance costs of holding physical gold. Therefore, taking all things into consideration, I would consider gold to be a relatively high risk investment for you.

The money market is probably one of your safest options. However, I am interested that you quote an interest rate of 6.4%, as I know other options that offer up to 8.0% per annum. Make sure that you do your homework well, in conjunction with your financial planner. You may even look at the possibility of a 24 month fixed deposit, where the interest offered is currently about 8.8%.

Depending on your marginal tax rate and your age, a more efficient investment may well be through a dividend income-type of portfolio. Ask your financial planner about this because you should be able to achieve an improved growth rate after tax compared to a money market. All in all, this will still be the relatively low risk that you require in a two year, short-term investment.

The FinScope consumer survey seem to suggest

In the wake of the #DataMustFall campaign, it seems that the data revolution might have a valid and legitimate plea. The campaign founders made a presentation before the Parliamentary Communications and Postal Committee on September 21 on the costs of data in the country. According to the soon-to-be launched findings of the FinScope South Africa 2016 consumer survey, the results show that the average South African spends about 9% of their purse on airtime and data recharge, cellphone contracts, telephone lines and internet payments. The average person spends approximately R700 a month for communication-related expenses.

Parallel to the #DataMustFall campaign, which is gaining traction, is the #FeesMustFall (reloaded) campaign, which is also resurfacing in light of the announcement of an up to 8% fee increase made by the Higher Education Minister Blade Nzimande. While university students would like to see a 0% increase, universities are requesting increases to sustain operations and fund research.

Therefore, in light of these developments and expenses, how does the purse of the South African consumer fair? The preliminary results of the FinScope 2016 survey shows that South Africans spend R688 per month on average on education.

The FinScope findings further show that South Africa’s total personal monthly consumption (PMC) expenditure in 2016 is estimated at R220 billion (monthly). On a monthly basis, the average individual spent approximately R5 400 during the period of conducting the FinScope 2016 survey. The results show that the main components of expenditure are on food (21%), transport (11%), utilities (11%) and communication, which amount to 9% of the spending purse.

Overall, individuals’ spending on education is 6% of their purse (estimated monthly spend of R12.2 billion). Further demographic analysis of the data per race showed that black communities still bear the greatest brunt of the education costs. For the average black South African, education expenses constitute 7% of their purse – this is higher compared to other races for which the purse composition for coloured, Asian, Indian and whites are at an average of 4.3% of their purse.

Furthermore, as one analyses the data further, it shows that nearly 12 million black South Africans spend more than 10% of their purse on education-related expenses. This is further exacerbated when noting that the average income per month is R4 723, R6 294, R12 265 and R17 123 for black, coloured, Indian and white South Africans respectively. As such, the cost of education places a heavier burden on black South Africans.

What it means for your financial plan

Traditionally, the focus of every financial plan was retirement. Everything was built around the day that you have to leave formal employment at the age of 60 or 65.

However, more and more people are having to ask what happens next. In a time when life expectancy is steadily increasing, the idea of throwing away your briefcase and putting your feet up to live out your ‘golden years’ in peace and quiet is looking increasingly less appealing, and less practical.

For a start, there is little point in retiring ‘to do nothing’. Many retirees find that they are actually busier than they were during the working lives, but the difference is that they can do what they enjoy.

“We are finding more and more people who are re-thinking retirement,” says Kirsty Scully from CoreWealth Managers. “In most cases, they have been professionals in their careers and they want to stay employed to continue with their personal and professional growth and development, yet they don’t want a typical work schedule. They are looking for flexible working arrangements so as to have a good balance between work and leisure.”

Wouter Dalhouzie from Verso Wealth says that from both a mental and physical well-being point of view, it is important for retirees to keep themselves occupied.

“I had a client whose health started failing shortly after retirement,” he says. “He started a little side-line business and his health immediately improved. When he retired from doing that, his health went downhill and he passed away within a matter of months.”

Verso Wealth’s Allison Harrison adds that she recently attended a presentation that discussed how important it is for people to remain active. “The speaker explained that if we don’t continue using our faculties, we lose them as part of the normal ageing process,” Harrison says. “The expression she used was ‘use it, or lose it’!”

She relates the story of a retiree who had been in construction his entire working life.

“After a year in retirement, he decided to buy a second home, renovate it and sell it,” Harrison says. “This was very successful, so he decided to repeat the exercise using his primary residence.  This yielded a bigger return than the first one and thereafter then moved from house to house, renovating, selling and moving on.”

This way he ended up making more money in his 20 years of retirement then he did in his 40 year building career.