The perfect Portfolio?

Many South Africans love physical property as an investment. Personally, this fixation has always fascinated me as I wonder if these property investors know what they are missing by ignoring the other major investment types available to them. For example, listed property companies that trade on the JSE have been fantastic investments over the last 10 years. People who bought these companies have earned 22% per year over the last 10 years and they earned this growth without having to deal with tenants or maintenance issues. This is only one of the alternative investments available to individuals who are willing to consider alternatives to residential property.

Long term history is a good indicator

The table below shows the long term returns of all the major investment asset classes available to South African investors. The returns over 10 years are most relevant as the 2 to 5 year information is too short to be helpful although it does make for interesting reading.

10 Year Return of Major SA Asset Classes

10 Year Return of Major SA Asset Classes

It is clear from the 10 year history that listed property and shares (equities) are an ideal combination for long term capital growth. If you include bonds as a stable, inflation-beating asset, I believe you can create the ideal portfolio for any individual simply by using a stock broking account. If you are reasonably young and looking to grow your assets without an immediate requirement for income, you could combine an investment in shares with listed property. A good allocation would be 75% in shares and 25% in property.

If you are looking for a combination of capital growth and income, you could reduce your allocation to shares i.e.: 50% equities, 25% bonds and 25% in property. This combination should ensure that your capital grows more than the inflation rate whilst generating a good income. If you are not built to cope with the volatility of the stock market, you could reduce your investment in shares to 35% and increase your investment in bonds to 40% and property at 25%.

The costs of creating and maintaining any of these portfolios would be quite low (initial brokerage plus a monthly portfolio fee) especially compared to buying physical property assets. If you are considering buying residential property, you will be paying massive transaction costs and ongoing maintenance costs.

In addition, your risks in a listed property investment are significantly lower as your property portfolio consists of hundreds of offices, factories and shopping centres rather than a limited number of individual properties. You will never have to go to court to evict a non-paying tenant nor will you have to worry about inefficient municipalities etc. because your assets are managed by professional managers who get paid to do this stuff for you.

What to invest in?

The easiest (and probably most cost effective) way of creating a diverisfied portfolio for yourself, would be to invest in Exchange Traded Funds (ETF’s). ABSA offer two diversified ETF’s (called MAPPS) that you can buy via your stock broking account that will give you the necessary equity and bond exposure. You can then add your property exposure via the Proptrax ETF’s or you can buy individual property shares.

Some costs are declining

When ABSA launched the MAPPS ETF’s, I was really excited about these investments until I found out how much ABSA were charging to manage them. I am very glad to see that they have recently reduced the costs of these investments substantially; so that they are now really attractive investments. Unfortunately, I feel that Proptrax are charging too much to manage their ETF’s which makes it difficult for me to recommend these investments at this stage.

Is the market too expensive and should you wait to invest?

The JSE is on a charge at the moment and is breaching new highs on a regular basis and this is causing people to question whether the market is getting too expensive. This is one of the themes that financial journalists start repeating whenever the markets do well for an extended period of time. I agree that you need to be careful when investing your capital into this market however; your decision should always be made in context. The JSE index might be above 34,000 but the PE of the market (its real value) is near 13 which is well below its historic highs. I become very fearful when the JSE gets close to a PE of 19 but not at 13! Many fund managers are suggesting that foreign markets are trading at lower PE’s than the JSE and therefore we should rather invest offshore. I think this misses the point that the JSE itself is not in expensive territory yet. If you are investing on a monthly basis, you have no cause for concern whilst lump sum investors should probably make their purchases over a number of months to reduce the impact of volatility on their investments. There is certainly no need to avoid the JSE in the hope that it will drop in the near future, the market could continue on its path for many months yet.

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The cheapest way to buy ETFs

I have been a staunch advocate of Exchange Traded Funds (ETF’s) from the launch of the first ETF in November 2000. Since then, many new indexed products have been launched and various companies have created new options for purchasing these investments. As a result, I have been getting an increasing number of questions from readers asking me how they should buy these indexed investments. The variety of purchasing options available to investors makes the answer quite complicated. To that end, I am very grateful to one of our regular readers, Hercules Viljoen from Pretoria for sending me his research on the cheapest way to purchase ETF’s. I wish more people would take the time to share their research so that we can all benefit and the best product providers get the most support.

Feedback from a reader

Hercules (who does not work in the investment industry) has taken the time to analyse the cheapest way for an individual to buy ETF’s. More specifically he has analysed the impact of the purchase costs for different amounts of money e.g. R500, R1,000 or R10,000. He was adamant that I remind people that this is his own research and investors should still do their homework before investing their money.

Range of options

You can currently buy ETF’s via two main platforms, either directly from an ETF promoter e.g. www.etfsa.co.za or www.satrix.co.za or via a stock broker. What makes the cost comparison complicated is that some stock brokers have different pricing structures for different investments. In addition, these costs do change regularly. One aspect of Viljoen’s research that I really like is that he has incorporated the cost of selling your investment after a 10 year period to make the comparisons realistic. This is important because it means we can see the cost of buying, holding and selling the ETF’s which is what most of us will do with these investments over time.

My understanding of Viljoen’s research shows that buying ETF’s directly from an ETF promoter is your best option for smaller amounts e.g. from R300 to R1,000 per month. The transaction costs are lowest and your holding costs are not too high in comparison to a stock broking account where they normally charge a fixed fee and not a percentage fee. If you are investing larger sums e.g. from R1,000 to R8,000 per month, a stock broking account using one of their special pricing packages might work best. Some stock brokers like Standard Bank and FNB Online offer reduced trading costs if you trade specific shares or ETF’s. These are the more tradable (liquid) shares on the JSE and are specified by these brokers on their websites. For larger transaction amounts (over R8,000) the picture becomes quite murky indeed. Typically, your best cost for large transactions (over R10,000) will probably be a normal stock broker and can be negotiated.

As Viljoen points out, the bulk of South African, middle income earners will probably be investing between R1,000 and R8,000 per month and this means the specialist trading packages from the stock brokers are the lowest cost option. This is especially true if you invest this money on a monthly basis over a long period of time because your annual holding costs will reduce as your investment grows in size. With the direct ETF promoters, your annual holding costs also reduce as your investment grows but not by the same extent as the online brokers. Viljoen personally prefers the Standard Bank option called ASI but he says FNB Sharebuilder product comes a close second. If you would like to see Viljoen’s detailed model you can find it here.

Below R300 is problematic

For the past few months I have been doing some extensive research into low cost savings options for people who can only afford amounts of R50 – R300 per month. Sadly most of the investments that accept small amounts on a monthly basis are actually quite expensive (in percentage terms) to the extent that your growth is usually eroded by costs. Sadly even the government RSA Retail Savings Bonds do not cater for monthly investments. This means your best option for smaller amounts is probably to save the money in a money market account and then to do quarterly or half-yearly payments into a higher growth savings option like an ETF. There are some interesting service providers who are investigating how they can use their existing infrastructure to offer low cost savings vehicles for smaller investors.

Conclusion

The current market conditions have been wonderful for people who are saving on a monthly basis. The dramatic volatility has offered quite a few opportunities to buy great investments at ridiculously low prices. For those of you who should be saving on a monthly basis and are not doing so now; make a start as soon as possible. There is no guarantee that the market will continue to offer such good value so you need to climb in now. Don’t worry about all the roller coaster movements that we are seeing now, this is good for savers so take advantage.

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Make your first million

It is simple but not easy to make R1 million from investing, all you need is: R5,000 per month, some patience and discipline.

The formula

There is no easy way to get rich quick. People who have become wealthy in a short space of time have either gambled or been extremely lucky. Your only guaranteed way to get rich is to follow a few simple (but not easy) steps and be patient for a few years.

Step 1: Get out of debt

You cannot get rich if you have short term debts such as credit cards, clothing accounts and overdrafts. If you really want to become wealthy, you need to pay off these bad types of debt as quickly as possible. Thereafter you can keep your good debts such as home loan and car debt.

Step 2: Build an emergency fund

You need to build up a cash account that is accessible at short notice. Try to keep 3-6 months worth of your monthly expenses in this account. It is not an investment and should only be used to pay for emergencies such as a car breakdown or insurance claim. The purpose of this account is to avoid the situation where you have to sell investments at the wrong time.

Step 3: Start saving

Younger people can invest all their savings in shares because they have the time to let these investments grow. In your lifetime as an investor, you are going to see many stock market crashes and recoveries, your job is to simply keep saving through all of them. Ignore all the people and pundits who will try to scare you out of saving, just keep your head down and stick to the plan. Ideally you should save as much as possible in the beginning. Try to ensure that you save a minimum of R5,000 per month. I realise that R5,000 might seem like a large amount in the beginning but you have to decide – do you want to be financially independent or do you want to work for a salary for the rest of your life? As I mentioned at the start of this article, it is simple but not easy to get rich.

Step 4: Where to invest

The ideal place to start saving is in an exchange traded fund (ETF) or indexed investment. ETF’s are low cost investments that will generate fantastic growth over the long term. If you want to start making a million rand every 2 to 4 years, you will first need some capital. As they say, “Money makes money.” By now, I am sure you are wondering how on Earth you are going to make this kind of money so quickly.

How it works
  • You need to save R5,000 every month for a period of nine years.
  • Try to invest all this money in the stock market e.g. in an ETF.
  • After nine years, you will almost certainly have a R1 million worth of investments.
  • If you keep investing R5,000 and add it to the first R1 million, you should have another R1 million within 4 years.
  • By sticking to the plan, you should have your R3m in total within 16 years.

Whilst 16 years might seem like a long time, you can reduce the period by saving more money as your salary increases over time. Any bonuses or other lump sums that you can add to the investment will speed up the process significantly. There is a real-life example below of someone who has saved R750,000 in less than four years.

Why this works

It is possible to save this kind of money because of the growth potential of the share market and the power of compound growth. Since the year 1900, the stock market has generated an average return of 7% above inflation per year, which equates to a nominal return 12.5% per year. That means you don’t need to be a rocket scientist or have any special stock market knowledge to be a successful investor – you just have to be disciplined and patient.

The real-life example

In February 2007 I met a young person who asked me to advise her on how she should start investing. She was 25 years old and had R9,000 to invest every month. We worked out a plan very similar to the one outlined above and she implemented it on her own for the next 3.5 years. In June this year, she emailed me to say that she had more than R700,000 in her share portfolio (primarily ETF’s) and was hoping to have R1m by the time she was 30, she is nearly 29 now. As her career progressed, she started earning very good money at an early stage in her career but she maintained a low-cost lifestyle. She did not buy fancy cars and she continued to rent a small apartment – this was the difficult part of the plan but she did it relatively easily. Most of us would be tempted to start spending more money as our earnings increased, she avoided this trap and is now on her way to financial independence.  She is now considering the option of starting her own business in a few years because she will have enough savings to live off. That means she won’t need a job or a boss, she will be financially independent before she is 35 years old. To me, this is the best reason to save when you are young – it gives you the freedom to make great life-changing decisions.

Conclusion

I realise that most people can’t earn the same salary as the person in my example but everyone can follow her formula. As you can see, there is no secret recipe,  you just need to save constantly and keep your lifestyle costs in check.

Get advice

Will you have enough money when you retire? Thinking of investing? Wondering how to repay your debt? Where to invest your money?

With a dizzying array of asset classes, asset types and more information than anyone can possibly process alone, why not speak to one of our expert financial planners? Get advice that’s tailored to your unique financial situation now.