Reality check!

I have recently written a note on current market conditions to clients at the company I work for and decided to publish it on this blog so here goes:

It is important to understand the sensitivities of investments and I would like to highlight some current developments.

Cash and Bonds
Not much needs to be said about these asset classes except to avoid them for longer term investments but treasure them for shorter term liquidity (0-3 years).

Listed Property
The longer the consumer takes to start buying goods and services, the longer it will take for retail and commercial properties to justify the fantastic recovery in the share prices of listed property stocks. We are not experts on this specific asset class and entrust the rating thereof in the hands of fund managers, but it seems as if this asset class carries more risk than some other equity investments.

Listed Equities (Shares)
As we are writing this the JSE All Share Index stands on 26 188 points. This means that it is fair value if compared to the average over the last 10 years. We want to make the following comments about investments in South African Shares:

1) We do not believe that the market should go up another 30% over the next 12 months as it has done over the previous couple of months. If this should happen, fundamental value would no longer exist and anything could happen.
2) On a technical valuation, everything is due for a correction. We do not invest client’s money based on technical valuations but rather on sustainable fundamental valuations. The implication hereof is that longer term the best place to invest is still shares but over the short term nobody can predict the direction of the market.
3)Our investment strategy is still to evaluate the timeline of our client’s investments and invest longer term funds in equities at the current fair value.

Rand vs. Other currencies
We are still of the opinion that the Rand at R7.87/US$ is too strong and that it should be closer to R8.50. To predict the value of the Rand is for us a guessing game and we suffice in saying that it is still a good time to invest in the International market if you haven’t reached your optimal offshore exposure (+/- 30% of longer term investments).

In Closing
We would like to remind our clients that investments are all about buying value for money and then having the patience for it to unlock. We believe that any sell-off in the market should be seen as an opportunity for a longer term investor to buy shares and for clients already in the market to understand that volatility is the nature of the beast (bulls and bears).

Understanding the last 9 months

So we wake up one morning and it is October 1, 2009. We pour ourselves a cup of coffee and contemplate the Share market. Year to date your investment in shares is up 15.81%, your investment in cash is up 6.5% and inflation is at about 6.4%.

Now if you are like me you think about the future and ask yourself "what now?"

This is what flashes through my mind at that moment of asking the question:

Cash is killing me! (return wise that is). I earn 7% pre tax (4.2% after tax) and inflation is at 6.4%. That is okay for short term liquidity but what about the longer term, say 5 years from now.

Do I invest in shares at these levels? This I will only do if the price I pay for them now is still good value. A good way to determine the value of a share is to look at its Price/Earnings ratio (PE).

We have experienced what they call a "crash" in the share markets in 2008. An easy way to see how severe this "crash" was is to look at what happened to the PE ratio of the market and compare it to the long term average.

The 20 year average PE for the JSE All Share index in South Africa is 14. If the current PE ratio is below this average, we can say that the market offers good value and vice versa. In March 2009 the PE stood at 8 (market very cheap), currently it is at 13.5 and rising.

The increase from 8 to 13.5 is reflected in the 30% + rise in the share market from March. The question is, "can this continue?" The answer lies in the historic behaviour of the market.

2 Things happen after a crash. We saw this in 1961, 71, 76, 82, 88, 91, 98 and 2003.

First there is a Re-Rating of the share market. This is not a recovery based on a fundamental improvement in the shares like an increased earnings growth, but rather a reversion to mean. The 20 year PE mean is 14; it stood at 8 so it wants to go back to 14!

This reversion is lightning fast and unannounced. This time it happened at the beginning of March 2009 and is over. If you weren't in the market you lost this re-rating rally.

Secondly you get the fundamental recovery which is mainly driven by the earnings growth of companies. Investors will not continue buying a share from these levels until they are satisfied that the company will grow its earnings from current levels. We saw a 30% year on year growth for 4 years after 2003. The important thing to remember is that the PE ratio of the share does not increase substantially because the earnings growth matches the increase in the share price so the company with a 10 PE might increase its PE to 11 but the share might go up 20%.

After all this I can give you a short answer: The JSE All Share is still good value but the next 20% growth will take much longer than 6 months to materialise and will be driven by the recovery of company earnings rather than re-rating or sentiment.

Money or the Box?

I have taken some flak from readers regarding my insensitivity towards people who have no money to invest; made all the mistakes I wrote about and have no hope of earning the big bucks ever!

I have some GOOD NEWS!!!

You still have a remote chance of one of the following happening:

• Marry rich
• Win the Lotto
• Inherit from somebody you don't know

One of these can happen! But in the meantime, let me give you some good advice which we can call "Money or the Box".

This is a very simple game where I give you a choice between choosing the money or choosing the box where:

Money = Salary

Box = Lumpsum Cash

If you choose the money I will give you R10 000pm before tax for the next 25 years which will increase with inflation.

If you choose the box I will give you R1.5mil now.

NOW YOU CHOOSE!

To see which one is better, I will assume the following to make us compare apples with apples:

• You earn no other income thus your tax on the money will be R1 000pm. This leaves you with R9000pm spending money.
• Your actual expenses are R7 000pm in both instances.
• The monthly savings from the "money" as well as the R1.5mil lumpsum can be invested with a growth of 2.5% over and above the inflation rate.

Result:

If you choose the money, you will be able to survive for 36 years. So if you are 40 now, the money will be gone at age 76.

If you choose the R1.5mil cash, the money will be gone in 23 years (age 63 if you are 40 now).

Conclusion:

Your ability to generate an income is far more important than being a millionaire today.

The Good, the Bad and the Ugly!

Believe it or not, you get investing personality types! I am one of 4 brothers, raised by the same Mother and Father and we all invest differently. Now if you can admit that you have a problem, you are 50% towards solving it!

3 of the 4 investment personalities need help. The 4th one doesn't because he/she is consumed by understanding investing. Let me take you through the 4 personalities and help you solve your problem.

The Fearful person:
This is the person that cannot and will not go into the proverbial investment water! If you ask him today where his money is he will say "cash". If you ask him in 10 years he will say "cash". Then you tell him that inflation is 7% and after tax he gets 5% on cash, losing 2% of his investment value each year and he will say "but shares are too risky". This is the person that can never retire because for every Rand he earns, the tax man takes 40% and inflation the rest. This person has to work an hour to earn a $. He will never have what we call "passive income". Money being earned on investments while he is sleeping or drinking coffee.

The Cure for the fearful person: Go see 5 independent financial advisers. If they all tell you to invest some of your savings in shares and they give you the same reason, believe them! I mean really! If a lawyer tells me that I will go to jail if I steal a car, I believe him.

The Reckless person:
Now this dude is the opposite of the fearful one. This guy is bullet proof, balls to the wall, nobody can tell him anything. His mania is usually driven by greed. He will make and lose millions during his life and the end result is usually not in his favour. He is lucky, not wise and you should never get sucked into his plans.

The cure: Go see an independent financial advisor. Let him calculate how much money you need to be financially independent for the rest of your life and give him that amount to invest and manage for you. You can take the rest of the bucks and do whatever gives you a rush.

The Ignorant person:
This is somebody that doesn't care about money. For them it is all about life and living. Money has no meaning and at best it is a means to an end. If they do not stumble upon a "money spinner" passion they will not compromise their beliefs just to make some cash. These people are also very generous and will often give and not receive. They will also believe the rubbish clever sales people tell them and get burnt badly. Because money is not important to them, they need very little. The problem is that because of their disinterest in money, they miss even the most basic opportunities to invest wisely, getting money that they can give away if they like.

The cure: Just listen to somebody you trust and that knows about investments. Let that person advise you on not necessarily making money but rather just not wasting money.

The Calculated investor: This person eats, sleeps, drinks and talks investments. He will not always be right but because he understands investments, he will be conservative and bold over time, winning 51% of the time and losing 49% of the time. He will get to a point in his life where he generates more money from investments (passive income) than from working. He understands two things very well and they are, patience and respect for money.

His advantage: He knows that investing is a science. No single investment can always be the right one and no two people should invest in the same manner.

Life is a balancing game, so too investments.

New investment options.

There are 2 things I can tell you that you might not know about when it comes to investment products and that might be to your benefit.

The First one is a product from Discovery Invest and you might have heard the ads on radio. It is all about them giving you up to 26% more than the amount you invest and guaranteeing a 6% growth on that portion.

The cool thing is that if you lost money in the crash last year, you can get it back by investing with them. So these are the basic facts:

• Invest say R1 000 000 in any of the unit trust funds they have on their list.


• Get R260 000 from them invested at 6%. (26% of amount invested)

What do you have to do to deserve this?

• You have to take out a life policy from them. The higher the monthly premium, the bigger the sweetener up to the 26%.

Bottom Line: If you need life cover, consider this opportunity, if not, not the best investment but also not bad. I will provide more details if requested.

The Second product is called the Investec Money Market iSelect fund. If you want to leave your money in cash, this fund will give you on average a 0.25% higher yield than the normal Investec Money Market.

Fund Name and Yield
Cadiz Money Market 9.09
Gryphon Money Market 8.88

Investec B (iSelect)* 8.79
Allan Gray 8.57
Investec Money Market R* 8.49
Metlife 8.43
Old Mutual 8.32
Standard 8.22
Nedbank 8.21
Coronation 8.13
Prudential 8.11
Symmetry Money Market 8.10
RMB 8.09
Absa 7.96
PSG 7.96
Sanlam 7.61
Glacier Money Market 7.11

The higher yield is due to the way the iSelect fund is priced. If you pay tax on interest at a rate of 40%, you can also benefit by buying this fund in a sinking fund wrapper and paying only 30% tax on interest.

6 months down...,6 to go!!

And with hindsight we can see that the JSE All Share has hit the SA Cash investor for a huge 6!

Early in April I sat down and selected the 10 shares on the JSE main board that were trading at the highest discount to their Net Asset Value. In simple terms, I selected shares that were washed down the toilet by me, you and all the other people in the world!

Now you must understand, this required very little intellect. All you have to do is open the list of companies trading on the JSE, go to the column that says NAV, go to the column that says Current price and choose 10 with the biggest difference.

The only spice you have to add is ensuring that the companies are reputable. This is the list I chose:

1. Grindrod
2. Investec
3. Metropolitan
4. Old Mutual
5. Pallinghurst
6. Peregrine
7. PSG
8. Reinet
9. Remgro
10. Stefanutti

And the result is.......19.5% capital return if I sell them today and that is not all!!! They will pay me an annual tax free dividend of 5.325%.

Now if that doesn't get you excited, compare it to a 1.875% taxable return cash would have given you over the same period.

Why do I tell you this? Because it was so damn nice to be able to play the lotto with such good odds!

Moving On...

What now? Well...the odds are slightly less favourable but let's consider the following:

• Shares on the JSE are still trading 29% below their highs in 2008.
• The US shares are way behind in the recovery.
• Interest rates have come down 4.5%.
• World sentiment and company earnings are stabilizing overseas.

These bullets all point toward more growth in share prices from current levels.

But consider the following: A number of companies in South Africa will report very weak earnings during 2009 which will turn sentiment negative every time the press reports it. This will create volatile markets.

Conclusion:

If you still have money to invest for 5 years +, buy the SATRIX RAFI share and forget about it for now, and even better, if you haven't got any international exposure, NOW is a good time to get the exposure with the Rand trading at R8/1$. Buy an international Unit trust like Allan Gray Orbis International Equity Fund of Funds or Sim Global Best Ideas Fund.

Quote From Warren Buffett:

'the argument is made that there are just too many question marks about the near term future; wouldn't it be better to wait until things clear up a bit and maintain cash reserves until current uncertainties are resolved?

Before reaching for that crutch, face up to two very unpleasant facts: the future is never clear and you pay a very high price in the stock market for a cheery consensus. Uncertainty actually is the friend of the buyer of long-term values".

Warren Buffet, Forbes interview, 6 August 1979

Please tell me...!!

....you have purchased shares with the cash you don't want to use for the near term! Since my last piece the JSE all share has moved as high as 22 700 and now stands on 22 015. That is a 10% increase in a couple of weeks.

If you are still in cash, you are earning 1% less than when we last touched base!

The other thing to take note of is the Rand exchange against the US$(R10.00 to R8.30). If you want to invest offshore or buy $ you should consider doing so now.

Something that a lot of investors forget about is their offshore investments. A lot of people have large $ cash portfolios offshore earning almost no interest due to the rates coming down. With the international equity markets also 30% cheaper than 18 months ago, you should consider switching the cash into shares if you deem the cash to be a longer term investment!

How to invest in shares without incurring high costs or admin hassles? Try the range of SATRIX investments. You can get all the info on www.Satrix.co.za

Something that you should start thinking about for the future is the possibility of inflation going up due to all the cash made available by international governments. Now, if you stay in cash, you will be slaughtered! if you are invested in shared you will be protected and if you want to have a lower risk investment you could look at an inflation linked bond like the newly launched product from RMB called "INFLATION-X".

Stay in Cash or move to Shares?

If you are not asking yourself this question yet, here are some reasons why you should:

Cash (prime overdraft rate): 15.5% (June 2008) now 13% Down 16%

The Reserve Bank changed the frequency of its meetings to monthly (excl. July) and cut the repo by 100bps in March. A further 100bps cut is expected in April which should give even more relief for the indebted. We would expect another 250bps-300bps in interest cuts which should provide a strong stimulus for equities.

Although cash provide a positive return on investment, the trend is down and you might end up earning only 9.5% on your cash at the end of the year.

SA Equities (JSE All Share): 33 000 (May 2008) now 20 000 Down 39%

Markets remain volatile and a further correction in the market cannot be ruled out. However, the second half of 2009 should be an improvement on the first, with equities expected to re-rate ahead of the economic recovery.

Equities went from its low of 17 770 (Nov 2008) to 20 000 currently. This is an improvement of 12.5% over 5 months which is a 30% annualised return.

Example on possible investment:

If you invest R100 000 in cash for 5 years and you end up earning 9.5% interest on average over the period (before tax), your R100 000 will grow to R157 424. This is an 11.49% annual growth.

If you invest R100 000 in shares for 5 years and you end up earning half the last 5 month average annual return (15%), your R100 000 will grow to R201 136. This is a 20.23% annual growth.

Conclusion

One should look at the markets objectively and intelligently. An investor should understand that investing in cash could be just as risky as investing in shares. Too much cash has an opportunity cost (earning less than one could earn elsewhere), and too much shares could have an absolute cost (losing money).

Stick to an investment philosophy of:

· Hold enough cash to cover expenses for the next 5 years.
· Invest the rest in shares, bonds and listed property.

Elections!

An ex colleague and very good friend of mine wrote the following piece on his website regarding the SA election. I found it uplifting like all of his insights. This has no direct connotation with investments except that a stable country will create investment magic.

By Louis Fourie (The Logic Filter)

“What went through your mind during the election period?”


I actually enjoyed all the private debates, political rhetoric and trumpeting of viewpoints. Not always because of the quality of the content or purity of intent, but because of the privilege to live in a society in which free expression precedes proper elections.

Fifteen years may feel like a long time, but in times like these, I always remind myself of a time not too long ago when our highways were empty most of the day; convenient, but eerie. When state spending was the engine of paltry economic growth, our weapons industry our national pride, Waterkloof Air Force Base busier than Jan Smuts International, and Eskom sitting with 60% overcapacity. A time when we needed two exchange rates to imprison capital, and during which the tax burden of individuals doubled in ten years to finance the organs of separate development and support a nation isolated from free trade.

Those were the times when we had to pay amateur sportsmen to play against us, when we had to put strange labels on our export wines, when some of our SAA aircrafts had to be painted white to secure brief landing rights. When millions have never uttered or heard the names of their future heads of state.

Personally, I always pity the fact that many great people never had the chance of meeting during those years, as making eye contact, shaking hands and having a meal together were segregated events.

Despite all our shortcomings and some fifteen years down the bumpy road of normalisation, I’m really proud of the fact that we are no longer a bankrupt nation, that we’re standing tall even in a time when leading economies stumble. That policy makers had the insight to choose the path of evolutionary economic restoration, instead of latching onto all the popular theories of the early nineties that promoted fast-tracking of reconstruction in some or other unsustainable way.

I’m proud of an unfettered-with Constitution that enshrines the rights of all our people - and the landmark rulings which resulted from it over the last fifteen years. Of a change in Presidents without civil unrest. Of our free press and robust civil society – the ultimate guardians of democracy. Of the distance between state and religion. Of the fact that private fixed investment spending has become one of the dominant drivers of economic growth.

I feel indebted to the majority of South Africans out there who chose reconciliation, participation and respectfulness above indifference or resentment. And I’m really proud of our business acumen, which equips us with the competitive guts to do global business on merit, the organisational savvy to conduct free and fair elections, and the sophisticated edge to fluently assemble the stage for the world’s ultimate sporting event in 2010.

While standing in the queue to cast my vote, I dreamed of a future in which the life expectancy of our nation starts rising again. A future in which all people who want to work are skilled enough to find a job, when parents can be proud of the dwellings in which they raise their children, and children be proud of their parents. I imagined a South Africa that is a no-go area for organised criminals and violent perpetrators, and too transparent for corruption to flourish.

I pictured a country served excellently by its state departments and local authorities, buzzing with small businesses, propelling their young into a life of opportunity off an innovative education system. I pictured forty eight million people boasting a proud one-ness.

While casting my ballot, I renewed an intimate commitment to be a net source of energy to this country. To leave it better off every day, however small the contribution may seem. And to afford dignity, goodwill and respect every step of the way, remaining deeply cognisant of a sacred opportunity to help eliminate our legacy of disregard and neglect.

Regards
Louis
www.thelogicfilter.com

What the market might do..

Those of us that are still breathing after the severe pain we have experienced in the financial markets over the past 15 months might want to sit down for a while and contemplate the future.

The first thing we have to do is get over it! We can't change the past but we should always remember it! We have been here before (1929, 1972, 1979, 2002) but 2008 will go down in history as one of the worst.


Where the share market is going to go from here should be split between short term and longer term expectations. Longer term is easy, it will go UP! Shorter term is very unclear but I will give you my personal view.


My view:

• We have seen the SA All Share Index shoot up 18%, come down 4% and go up 2% again since the beginning of March. I believe that some of these gains will be taken back but what I also believe is that there are more buyers than sellers in the market currently.


• I also believe that these buyers will pile into the market when they sniff any good news and if you aren't in the market already, you will lose out on the first 30% rise.


• I expect the market to stabilise after one of the immanent rallies and fluctuate round the new level for a while. As company earnings are reported for the year ending 31 December 2009, I expect some disappointments and perhaps some selling pressure on the shares.


• The sideways movement will last for a year or two until all the measures that are being put in place to stimulate the world economies kick in. We will then see shares rising again in their usual Bull trend.

If we look at the behaviour of the markets after the previous meltdowns, we see the following:

• US market down 82% (1929-1931), up 90% in 1933.
• US market down 54% (1972-1974), up 48% soon after.
• SA market doubled only twice over a one year period. In 1997 during oil crash and 1933, during great depression.

If we accept that people will still have to exist in future, we can with a great deal of confidence say that they will have to buy services and goods which will ensure that well managed companies will make money which will reflect in their share price.

I can only say this, invest as you would normally invest. Short term money you keep in cash, longer term money you invest in shares. Don't try to pick the bottom of the market, you will not succeed!

You have to dig in!

Warren Buffett, the richest man in the USA through investing over the last 42 years, started with $100 of his own money and is now worth $50 000 000 000.

How did he do it? He sucked up information like a Hoover. He never tried to keep up with "Mr and Mrs Jones". Every time he had to pay for something that got close to not being a necessity he considered the opportunity cost, for example: If he had to pay for a holiday that cost $1 000, for him it felt like paying $10 000 because he knew that if he invested the $1 000, it would grow to $10 000 in a couple of years.

That might sound like somebody that is as tight fisted as Mr Scrooge, but in the current financial turmoil, that is what I would recommend!

Cash is King, but only for now. No matter how much money you have, the first thing you have to do is ensure your monthly income. What do I mean?

I recently consulted a guy that sold his company for R40mil. He depends on the return on the R40mil to cover his cost of living. So let's say he spends R100 000 per month to pay for his normal day to day expenses. That will be R1.2mil per year. He has to ensure that he receives a guaranteed R1.2mil tax free, after cost return on his investments.

So, if he invests the money in the bank and earns interest, he has to invest at least R20mil at an interest rate of 10% and a 40% tax rate to get R1.2mil after tax at the end of the year.

With the remaining R20mil, he has to start investing in shares because in a couple of year's time, cash will still give him 10% return but shares will give him 20%!

Now let's break this example down to something you and I can relate to. If you have R500 000 cash on hand. You spend R15 000 per month to cover your day today expenses (NB: I assume you have no debt because you should pay that off first!). If you can earn 10% interest on the R500 000 and pay tax at 30%, your after tax return will be R35 000 per year. If you earn a salary of R12 000 per month after tax, you short R3 000 per month so you have to use some of your investment income to supplement your salary.

At the end of the day you will have to keep the R500 000 in cash because you can't afford not to receive a guaranteed R3 000 per month from it!

If however you earn R18 000 per month after tax, and you are very sure that you will not lose your job, you have to start investing the R500 000 into shares over the next 6-12 months.

Moral of the story, your number one priority now is to ensure your basic day to day expenses and cut that to the bone. Any excess money you can and should start investing in shares.

And remember that every R1 000 you spend on something stupid now could have given you R10 000 in a couple of years!

Don't Clutter

I think that in all aspects of life we should avoid clutter. The trap we all fall in is that when things are going well, we buy stuff we don't need and it ends up standing in some corner gathering dust.

Now look around you and tally the things you never use. In my case it is half my wardrobe, my Jet-ski, half the stuff in my kitchen, tables, chairs, Hi-Fi etc. If I should put a monetary value on it, it must be worth R50 000. Let's say you fare better and the value of unused items in your house adds up to R10 000.

If you bought the stuff on average 5 years ago instead of keeping the money in the bank, earning interest at 6%, you have already lost R3 382. If you keep the stuff for another 10 years before throwing it away, you will lose another R10 583. This is called opportunity cost.

Now if you fall into the trap of buying expensive items like Flats, holiday stands, weekend motorbikes, boats etc, your opportunity cost might just be running into the tens of thousands!

At the end of the day what I am saying is that only buy the things you need and not the things you just want. Buy investments you understand and not just because everybody is doing it.

When times are tough and you want to sell that flat, boat, Harley etc, nobody wants to buy it!

And Remember, if it doesn't make you money, it loses you money!

It is wonderful to journey through life with a light load, emotionally and physically.

Life and Disability cover

DO NOT expect your life and disability cover to give you something back except money when you die and money when you become disabled!

This is like any other insurance, it should NOT be confused or combined with investments.

Life and Disability are very important when you are dependent on an income generated by yourself and on you being there. If you have enough passive income like interest, dividends, profit share, rental etc. that will continue paying in your absence, your need for cover diminishes considerably.

Let's look at life cover:

You need enough cover to pay off all your debts and leave your dependants with either a lump sum or an annuity income that will be sufficient to replace the loss of your income. If you have no dependants, any cover is a luxury that will enrich someone else and the premium should be invested rather than spending it on insurance.

And disability cover:

In this case you are still alive and need the money so you have to cover debts and income loss even though you have no dependants!

How Much?

Enough to cover debts and loss of income. If you have children the need for cover becomes more important because without your contribution the spouse will have to double up! Most financial planners have programs that will calculate how much you need in a heartbeat.

Investment and Cover:

Usually you should separate the two. If you buy a product that has both in one plan, you will confuse the matter and pay more and get less. Determine how much cover you need and get quotes, take the cheapest. Then see how much you have left to invest and go seek quality, regardless of price!

Serious stuff:

You should not tempt fate! You need disability until you are financially independent, then you need it no more. You need life cover whilst you have dependants relying on your income. When you become financially independent, you need it no more.

Rebalancing your portfolio

Over the last 100 years we have seen markets go up and we have seen them come down again. You can take almost any investment: property, gold, shares, cash, bonds and take any economy: USA, Europe, Japan, China, South Africa, Argentina etc. and they all fluctuate around their trend line over time.

Now there are 3 ways to handle this:

Do Nothing: If you have a very long time and you don't touch your investments, you will eventually receive the inherent return of the investment you are in, let's call it the "trend line return". If you are invested in shares, you will receive the highest return and if you are invested in cash, the lowest. The problem with this strategy is that you might have to wait an extremely long time for the trend line return due to the irrational nature of the market!

Actively trade: Here you try to time the market by selling your investment when the return is high and buying an investment when it is cheap. This method requires you to know more than the rest of the investors in the whole world and is doomed in the long run. The problem with this method is that the information regarding an investment is available to everybody at the same time and because of this already reflected in the price. Lots of people make the mistake to think that because they get it right 2, 5 or even 10 times, they are clever and not just lucky!

Rebalancing your portfolio: By this I mean deciding how much money you want to invest in the broader layers of the investment universe namely: country, currency, asset class, sector and instrument, and sticking to those allocated percentages no matter what. On a predetermined interval, you evaluate your portfolio and sell those areas where you have a higher percentage due to good performance, and buy those areas where you are under your predetermined percentage due to bad performance.

Let's take an example:

You decide to start your portfolio with the following percentage allocation:

• Equity 40%
• Property 20%
• Bonds 10%
• Gold 5%
• Private Equity 5%
• Cash 10%
• Hedge Funds 10%

You decide to invest in the following countries:

• USA 40%
• Europe 30%
• Japan 10%
• South Africa 5%
• East Asia 10%
• South America 5%

You decide to invest in the following currencies:

• US$ 40%
• Euro 40%
• Rand 5%
• Yen 5%
• Pound 10%

And so on!

Now if you decide to rebalance your portfolio on the 30 June and 31 December every year, you might find that your Equity exposure went up to 45% of your total portfolio and your Bonds went down to 5%. What you will do now is take the 5% profit you made in Equities and buy more Bonds at the lower price to get back to the Equity 40% and Bond 10% ratio.

The same should be done on the other levels as well, if exposure in the USA went down to 30% and Japan increased to 20%, rebalance!

WHY???

Because this will force you to leave emotions out of your decision making and stop thinking that this time is different! It will also ensure a smoother long term return and reduce the risk of thinking that you can beat the market or go for the one more year of spectacular growth in a specific area, just to lose at all and having to start again.

Problem: There is nobody out there that will do this type of rebalancing for you and you will have to do it yourself. Financial advisers will do the initial planning to determine how you should invest your money between all the layers but then they will allocate the money to the different products and leave it to grow or fade.

The good news is that there is a Fund Manager out there that does manage a fund based on rebalancing.

Advice versus Coffee

One of the things that makes me happy in life is a cup of good coffee in the morning. I would usually start my day by going to a coffee shop (different one every time), and order a coffee while I read the newspaper.

Financial advise is a lot like coffee, you can get it anywhere and they all taste and cost the same, except at that one special place. I would drive a long way for a good coffee and I am prepared to pay a bit more because life is short.

Now if you have to have a coffee and you have no choice as to where to go, at least know that the coffee is bad and don't over pay for it. The only way you will know that there is something better out there is if you shop around.

To illustrate my point take the following actual example:
A lady walks into our offices with an investment quote under her arm and asks us to look at it. She has R5mil to invest for the longer term. On the one page investment quote she is advised to put it all into a Matured Endowment Policy with 100% exposure to the Money Market and the adviser's commission is R100 000!

This is as BAD as coffee gets!

The moral of the story is to always get a second opinion and drink only good Coffee!

Next time I am going to write about a financial term I believe will start to pop up in the media more and more called " Rebalancing of your portfolio".

Wise words on investing.

I know that most people do not enjoy reading financial literature so I will save you the agony of doing so and give you extracts from stuff that I have read.

One of the best books on investing is a book called "The Intelligent Investor" by Benjamin Graham, the guy that taught Warren Buffett (the richest investor ever), how to think about investing.

Now the secret here (and what I love about it) is that he doesn't try to give you some magic formula to follow, he just gives you the fundamental truths.

Graham said that sooner or later, all bull markets must end badly.
- October 1987 US markets collapsed.
- Crash of 1929-1932 wiped 70% off the market
- 2008 Credit crunch saw SA shares drop 40% high to low.

The market is a pendulum that forever swings between unsustainable optimism and unjustified pessimism, sell into optimism and buy into pessimism.

He said that there is a persuasive argument for using the method of “rand-cost averaging” when investing into the market.

Graham observes that he has not known a single person who has consistently or lastingly made money by just following the market.

Graham observes that there is an illusion that shares in leading companies could be bought at any time and at any price, with the assurance not only of ultimate profit but also that any intervening loss would soon be recouped by a renewed advance of the market to new high levels.

Graham observes that you should buy your shares the same way you would buy your groceries, and not your luxury items (like perfume if you are a lady). Always ask “How Much?”

Buy companies that are trading not far above their tangible-asset value. (physical property and financial balances) Also called Book Value, NAV (divided by fully diluted issued shares).

Speculation is always fascinating. If you want to try it, put aside a portion of your money, the smaller the better, and never add to it.

Since you cannot predict the behaviour of markets, you must learn how to predict and control your own behaviour.

Ways of investing for the novice investor:

* Buy unit trust funds

* Give to investment manager to invest and manage

* Use “rand-cost averaging” to invest over time. (buy the same amount of shares every month over the period of investing) This is part of “formula investing”

* Diversify between Shares and Cash using a ratio of 75/25 after a crash and inverse as Bull market develops (re-balancing the portfolio).

Investing consists equally of three elements:
· You must thoroughly analyze a company, and the soundness of its underlying businesses.
· You must deliberately protect yourself against serious losses.
· You must aspire to “adequate”, not extraordinary, performance.

People who invest make money for themselves; people who speculate make money for their brokers.

People believed that the test of an investment technique was simply whether it “worked”. If they beat the market over any period, no matter how dangerous or dumb their tactics, people boasted that they were “right”. But the educated investor has no interest in being temporarily right. To reach your long-term goals, you must be sustainably and reliably right.

If you want to get to a specific destination you can get there by driving at a 120km/h, or you can get there in half the time by driving at 240km/h. If you survive, are you “right”? Should everybody try it because it worked? Trying to beat the market is much the same: In short streaks, so long as your luck holds out, they work. Over time, they will get you killed.

Oscar Wilde joked that a cynic “knows the price of everything, and the value of nothing” As an investor you should focus on the value of an investment, not only on its price.

Stages of life and your investments.

Following on from my last posting, I want to outline the stages of your life regarding investment. During my early years in the investment industry, I was lucky enough to share time and space with 4 extraordinary people when it comes to filtering out the noise and getting to the essence of the matter.

In the 80's and 90's, financial advisers or "brokers", were trained to sell policies like any other commodity. They received very little training and were paid a commission based on sales, not value added to the client.

I was taught the reverse in the sense that my mentors focused on the philosophy of adding value to the client and the "sales" will follow.

One of the first things they explained to me was the 4 life stages of "Man" as far as preparing for financial success goes.


Age 0 to early 20's

During the first 2 decades of your life, the basis of everything that will follow in your life is established mainly via your parents. Some of us are not fortunate enough to have a stable upbringing and the road for them are a bit harder but never impossible.

During these years you are creating the most valuable asset you will ever have, your education. Without knowledge you will always have to play catch-up. I am not only talking about the pure theoretical knowledge we gain in school, I am also including here social skills, street smarts, experimentation with life and the respect we get for it from suffering failure and enjoying success.

Important stuff to do in this part of your life is to gain a healthy respect for money. Learn how to work with it from an early age by getting total freedom with your allowance and know that if you get the balance right between instant gratification and saving for a rainy day, you will one day live without having to worry. As you can see, this is where the parent plays a huge role!


Age early 20's to late 30's

The next 20 years or so of your life you have to dig in, build a career with the knowledge gained during the first 20 years and create a lifestyle you can afford. These are the "Duracell Bunny" years! You have Soooooo... much energy and if you can channel that into something you are passionate about, the sky is the limit.

This period of your life should not be wasted on procrastination. You have to be out there, working till all hours of the morning to become the best in whatever you are doing. You have to prove yourself and create respect as an individual in the world of independence. You have to be focused and take chances. If you lose money, you have enough time to make it back.

Success will not be measured by what you know, but how you apply it!

Financially the most important thing to remember if that at the end of this period, you should have established a lifestyle you can afford, and be debt free.

If you reach 40 and still ask the bank to lend you money to buy the latest model BMW or to buy a bigger house, you are spending money you should be investing in your children's first 20 years, or falling into the trap of never being satisfied with what you have got.


Age late 30's to early 60's

Usually you are settling down into a stage of your life where you can consolidate and start investing excess cash into a diversified wealth creating portfolio. You should implement an investment plan and stick to it. Because you are debt free, you can create wealth for yourself and not the banks. Doing some future cash flow projections and getting to understand your different investment options are crucial.

These are the high income years of your life because your skills are in demand and you have established a presence in the market. It is important to protect this potential income stream by taking out life and disability cover. Do not get tempted by "get rich quick" schemes and do not deviate from your field of specialization. Don't spread your attention too thinly by joining every club, society and committee you get invited to.


Age early 60's till death do us part

Never retire! You are entering the years where you should be "financially independent", meaning you have accumulated enough assets to provide you with sufficient income to sustain your standard of living without having to work.

Your ability to generate income by applying your wealth of knowledge and experience should be kept alive by doing something you want to do and not because you have to! These are the years where you can become significant by giving back to the community by sharing time, money and wisdom.

The golden rule here is to not lose what you have accumulated. You should have a plan of "wealth protection" in place and stay away from risky wealth creation ventures. By this time you should have established a relationship with a trusty investment advisor that can ensure that investment decisions are made without emotions.

In conclusion I want to mention that these 4 stages have no sense of time in real life. Some people start to give to others from the day they are born and others never have enough investments to be financially independent. Some people can retire at 30 and others can never drive a fancy enough car.

BUT if you follow the steps of, get an education, give it all you've got, consolidate in your specialized field and share your wisdom, you can live a happy life.

Failing to plan....

The best way to achieve something is by setting goals. When you set out on a long journey you have to start with knowing where you are going. This should be backed up by a "time/destination" plan (when are you going to be where?).

It is like the F1 qualifying sessions before the main race. The race track is divided into sections and if a car passes a specific point, they can calculate its relative position.

In the same way you can set goals for your financial life. At some stage you have to sit down and ask yourself "Where do I want to be and when?" I have recently spoken to 2 people about financial planning and was surprised by the attitude in the one case, and the level of unpreparedness in the other.

If your attitude regarding financial planning is that you do not need to think about it because you are going to work forever and earn an income to support your lifestyle, I want to make the following comments:

• What happens if you lose your job and can't find a new one because the economy collapsed, you are too old, you are replaced by better qualified people, you are replaced by a computer, and so many more!
• What happens if you are self employed and become disabled?
• What happens if you become ill and can't work for long periods of time?

My point is that there are many things that can go wrong.

If your attitude is that I am waiting for something to happen before I start planning, think again!

• Don't wait because you think that you are going to get married and that will sort things out!
• Don't forget about planning because you are still living with a bunch of people in a house or at your parents and the cost of living is seriously distorted!
• Don't wait for the dream job or salary increase, it may never come.

I believe you have to do the following: Understand what you need per month to support your standard of living. This will be the amount that covers all your costs (bond re-payments, food, education, social, sport, taxes etc.). This amount will change as time goes on but you have to understand what you spend to understand how much you need to invest in yourself to generate an appropriate income.

Let's look at an example:

JoeSoap is 30 years old and has the following expenses each month:

• Rent for flat R3 500
• Water/Lights R150
• Food R1000
• Gym membership R300
• Short term insurance R1 000
• Petrol R750
• Medical Aid R700
• Budget for car service and December holiday R500
• Disability cover R500
• Weekend social R600

The total expense per month is R9 000

90% of the people I talk to can't tell me what they spend on average per month! This is like driving without knowing how much petrol is in the car!

To spend R9 000 per month after tax, JoeSoap needs to earn R122 000 per year (R10 167 pm) before tax. If he wants to stop working now and continue spending R9 000 pm until he is 90 years old, he has to have R3 800 000 invested that earns a 2% real return (more that inflation, so if inflation is 10%, his investments have to earn 12%).

NOW JoeSoap can start putting things into perspective!

IF he wants to increase the R9 000 to R12 000 per month, he has to have R5 000 000 invested, or earn an income of R170 000 per year before tax (R14 167 pm).

IF he thinks that he can get a new job that pays R15 000 per month before tax and can work for another 20 years, with annual salary increases that is on average 5% higher than inflation, and carry on spending an inflation adjusted R9 000 pm with the balance invested, he can retire at 50 with the equivalent of R3 000 000 under investment and carry on spending the R9 000 pm (inflation adjusted) until he is 90 years old.

IF we take the same info as above but JoeSoap wants to spend R11 000 per month that increase with inflation for the rest of his life, he has to either work for another 24 years or earn R19 400 per month before tax for the 2o years, with the balance of income over expenditure invested every year.

To sum up: Doing these calculations is very easy and I can assist where needed. They are essential to know how much disability or life cover you need, how much you can spend with what you earn if you want to build up a nest egg or when you will reach a stage where you have enough investment income to change your situation from having to work to wanting to work.

Tax and your Investments.

There are some things that I just don't like doing, such as standing in a queue and paying for parking. Some things I accept as inevitable such as dying and paying taxes, I just don't want to seem over enthusiastic in pursuing them.

Therefore I pay my taxes, but only the proper amount. I can't go into the detail of tax on investments now, but there are some very basic things one can consider when investing and I will highlight them in this posting.

First, let us understand what can be taxed when it comes to investments.

Property

If you own the house you live in and you sell it, you will not be taxed on the first R1.5mil profit made. Profit is calculated by deducting the price you paid for it, together with all the permanent fixtures you added to it, from the selling price. i.e.

Purchase price R1 000 000
Build swimming pool R 50 000
Sell for R2 000 000

Profit is 2 000 000 - 1 000 000 - 50 000 = R950 000

The R950 000 is less than the R1.5 mil so no tax is payable!

BUT , If you sell a flat that you rent out, the full profit will be subject to Capital Gains Tax! (because it is not your primary residence)

AND, If you sell such a flat within 3 years of purchase, you might even pay Income Tax!!

The thing to remember here is that for assets/investments that you owned for 3 years or longer, income tax can't be charged unless it is classified as trading stock in your business. If you sell the asset/investment within 3 years after purchase, you have to prove that it is capital in nature and not income.

WHY is this important? Because the maximum amount of tax you can pay for something that is deemed to be Capital in the hands of an Individual tax payer, is 10%. The maximum tax rate for individuals on Income, is 40%.

How can I apply this tax saving? When you buy a share or unit trust or property, only sell it after 3 years if you have a choice.

Interest earned is the other place you can do some basic tax planning. Every individual younger than 65, can earn R19 000 interest per tax year without paying any tax on it. If you are older than 65, this moves up to R27 500. (figures adjusted every year)

This translates into an investment of R190 000 if you earn 10% interest on this investment, without paying tax on the interest earned! (R270 000 if you are older than 65).

How can I use this?

You have some cash to spare at the end of the year and this amount just happens to be exactly R380 000. Your spouse has nothing left because.....who knows! If you decide to keep the cash of R380 000 in your bank account and earn 10% interest on it, you will get R38 000 interest, R19 000 will be tax free and you will pay 40% (R7 600) tax on the other R19 000 if you are already in the maximum 40% tax bracket, at the end of 12 months.

Now follow closely, if you should donate half (R190 000) of the money to your spouse because you love and trust your better half so much, the spouse will earn R19 000, you will earn R19 000 and you save the R7 600!

Earn Dividends instead of interest.
On cash you earn interest, which is taxed at up to 40%
On property you earn rental, which is taxed at up to 40%
On shares you earn dividends which is taxed at up to 10%

If you do not want to invest in shares but have cash that will be taxed as per illustration above, you can slip out the following backdoor when the Receiver of Revenue walks in the front door.

There are two options:

Preference Shares: All the banks and some big companies allow you to buy their shares but unlike an ordinary share, you are only entitled to dividends declares by them and have no voting rights. I am not going to go into the details of them now but they will give you less risk on your capital than ordinary shares and dividends with a much lower tax rate than cash.

Dividend Income Funds: These are normal unit trust funds. Instead of investing in ordinary shares, they invest in preference shares. So, they do the work for you and the return on the unit trust is tax free. They charge you a fee to invest in the fund so make sure the after cost return is still better than the after tax interest you could have earned on cash.

How can I use this?

Let's say you are 40 years old. You inherited R300 000 from your long lost Uncle in Tousrivier. You want to buy a house in 3 years time so can't invest the money in shares. You already earn a R500 000 + per year salary so you are in the 40% tax bracket.

If you invest all the money in cash, you will earn R30 000 interest, pay R4 400 tax, and get R25 600, so try the following:

• R190 000 in cash, earn 10% interest, R19 000 and no tax.


• R110 000 in preference shares, earn 11.5% dividends, pay 10% tax, clear R11 385

Get R30 385 (R4 785 more)

Okay, let's stop for now and remember, paying tax is good, it keeps you out of jail, but paying too much is sad!

Understanding Financial Lingo.

Doctors, Lawyer, and Financial Advisers all babble in a language that sounds foreign sometimes. All you know is that whatever they say, it is going to cost you money!

Let's look at some of the terms used and what they mean.

Asset Class:

This is the term used to describe things we invest in. Asset classes with similar attributes are grouped together and given names like :

• Equity : where you buy a little piece of a company as in when you buy a share.


• Cash: please don't let me explain this! To most people cash is king, like Elvis.


• Property: is your house or a holiday flat or an office building or a factory building.


• Bonds: is not the same as the money you borrow from your bank to buy your house! This is money you give to usually a big company or the government to finance their business activities and they pay you interest.

If you give your money to be invested, it will end up in one of these asset classes. The asset class that you invest in will determine if you make money or if you lose money. Let me give you some of the characteristics of these asset classes:

• Equity : very unpredictable over the short term and because of this seen as higher risk. Provides you with capital growth (value of the share increases) and sometimes pay a dividend (income). Proved to be the best performing asset class over longer periods of time.


• Property : unfortunately the sub categories in property (residential, commercial and industrial) can have cycles that are not synchronised but in general they are also seen as higher risk because they can be damaged, slower to buy and sell, can not be moved to better location! You usually get rental income and increase in property value.


• Bonds : are generally regarded as lower risk assets because you receive an interest income from a reputable institution which is contractually binding. The instrument via which you buy your bond can have some volatility in price which makes it not 100% save.


• Cash: This is the safest investment (used to be before some banks started going belly up) and pay interest on a capital amount which are both guaranteed. (capital and interest)

Instruments:
When they talk about "financial instruments", reference is made to the containers through witch you can invest in the different "asset classes". Let's look at some of the instruments for the different asset classes:

Equity: shares direct, unit trust funds, hedge funds, policies, retirement annuities, pension funds, satrix, etc.

Property: buy a building, unit trusts, policies, retirement annuities, pension funds, etc.

Bonds: buy a bond direct, unit trusts, policies, retirement annuities, pension funds, etc

Cash: bank account, unit trust, foreign currency etc.

Diversify:
This is something you will always hear when financial advice is given. What is meant by diversification is simply the allocation of your money between different "asset classes", not necessarily different "instruments"! The main purpose of diversification is to spread your risk between different asset classes that act differently and at different times so that if you misjudged one asset class and it loses money, you might have other asset classes that make you money. You should not only diversify between different assets, but also between countries, currencies, sectors in the economy, investment strategies etc.

Short Term and Long Term
In finance talk you will always hear people attaching investments to certain periods of time. Usually they would say that shares are a "long term" investment and cash is a"short term" investment. This is all due to the level of unpredictability associated with the asset class. We know what we will get from our cash investment tomorrow, but we have much less confidence in our expectation of what will happen with our shares tomorrow.

So, to give the unpredictability time to become more predictable you have to give shares time to settle down and that "longer term" is at least 5 years, BUT, it could be much longer. I would suggest that if you want to go into shares from the current valuations you should give the investment the 5 years at least.

If you want to use your money within 18 months, don't even think about anything except cash.

Between 18 mts and 5 yrs you can call it medium term and Bonds might be an investment alternative.

To sum up:
If I have R50 000 to invest, the decision filter should be:

• Is this 5 jr plus money or not?


• How much do I want to invest in the different asset classes?


• Which instruments am I going to use?

Answer:

• Yes, all of it.


• Diversify between 10% cash, 10% bonds, 10% property and 70% shares.


• Cash: account at my bank or unit trust; Bonds: Unit trust fund; Property: Unit trust fund; Shares: 50/50 between satrix divi and satrix rafi.

We have lots still to cover and only 352 days to go, keep those comments cumming!

Must I invest in SATRIX?

One upon a time, in a galaxy far, far away, we could invest in Shares or an Endowment Policy, that was about it!

If you had a lot of money you invested in shares and if you had a little and the word "shares" scared you, you invested in a policy. Now the funny thing is that buying a share and buying a policy can be exactly the same thing and if you are afraid of shares, you should be more afraid of a policy. Why, because some policies are only a bunch of shares tied together and sold as a bundle called a policy. So as a matter of fact, you should always specify the type of policy you want to invest in.

Fortunately things have changed and computer systems enabled the investment product providers to offer us a huge choice of different ways to invest. Unfortunately with the increase in choice came the increase in confusion regarding what to choose!

Now one of the best ways to invest in South African shares is with a relatively new product called SATRIX.

Why do I like SATRIX investments?
Because in all investments you get risk you can manage, and risk you can't. With SATRIX you can decrease the manageable risk because of the following:

• The product "SATRIX" is regulated. There is a watchdog to ensure no funny stuff happens.
• Via SATRIX you get a little bit of a lot of shares which decreases your risk. (diversification)
• The investment can be sold easily. (liquid)
• The cost to invest is low.

You can however not get away from the fact that it is an investment in shares, which can make or lose money with no guarantees!

Now I am not going to give you all the detail about the SATRIX investment plan, you can and should go to the website: http://www.satrix.co.za/ and read it yourself. What I can mention is that the cost to buy is 0.10% of the investment made compared with up to 1.5% if you should trade small amounts of shares via a Stockbroker, and when you sell, the cost is 0.10% again. Other than that you get charges about 0.80% per year for management fees which is not more than any other equity Unit Trust.

How does it work? Very simply it is a group of shares that is listed on the South African Stock Exchange, packaged together. So when you buy the SATRIX share, you actually get all the shares in the package and not only one share.

You get different packages of SATRIX as well. The ones I would consider are the following:

SATRIX RAFI : This is a package of 30 or 40 shares that passed certain criteria which distinguishes them from the other few hundred listed shares because of their current valuation and potential. The RAFI selection process has proved to be very successful in the USA for many years.

SATRIX DIVI : This is 30 or 40 of the shares that pay the highest dividends. Now, this is cool because not only do you get the potential growth in the price of the share, but you also get the almost tax free income during the year which you can re-invest or use.

The oldest SATRIX fund is called the SATRIX 40. If you invest in this one you invest in the biggest 40 companies in South Africa. I do not believe that bigger is always better. You might get a nice fast run on them but that doesn't mean that they will provide the best returns over time.

To sum up: Instead of going to a stockbroker or insurance company to buy shares or Unit Trusts or even a equity policy, just go online, complete the SATRIX Investment Plan, print, sign and mail or fax to SATRIX and you will have one of the cheapest, best regulated and diversified equity investments in South Africa.

You need only R300 pm or R1000 lump sum to open an account!

So if I had R20 000 now to invest for at least 5 years or longer. I would invest R4000 pm for the next 5 months via debit order into the Satrix RAFI.

Feel free to use the comment button to send me questions or remarks.

Where to invest...?

Now we get to the interesting stuff, where do I invest spare cash? The answer to this question will be different for most individuals because their circumstances differ and that is why it is good to consult a professional, sooner rather than later (especially with larger investment amounts).


The problem you face when going to an investment advisor (as I mentioned previously) is that they will either charge you for advice, or show you the door because they only work with BIG money.

Now that is where everything starts going wrong!


Let’s deviate a bit and indulge me in a little bit of a moan.


If you ask anybody what you should do to get rid of your party hangover they will tell you to start by drinking a pain pill. If you ask anybody what eating health means they will tell you that you have to include fruit and vegetables in a balanced diet. And so we can carry on with the general knowledge, BUT, ask people what you must do with spare cash and their eyes will glaze over and you will get replies like, spend it, invest it, put it in your bond, keep it in cash, buy US$ etc.

What I am getting at is that there should be a standard answer that everybody should give you based on the “laws of finances”. A five year old should give the following answer:

• If you have debt, re-pay it.
• If you want to use it in the next 12 months and you have no debt, put it in your bank account and earn interest.
• If you have no debt and don’t want to use it in the next couple of years, invest it in shares.
  

Why go and pay somebody to tell you this?! I am not saying that it doesn’t get more complicated than this but these are the basic rules.

OK, let’s get back to the topic of investments. Let’s use and example one of my friends gave me the other day and break it down into a potential investment plan:

Joe Soap has no debt and R20 000 in a Money Market account. He doesn’t want to use it for the next 10 years but want it accessible if something unforeseen should happen. Let’s break it up:

• No debt so rule number one doesn’t apply.
• Keep it in the Money Market (cash)?
• Buy property?
• Buy other investments that will pay interest like Government Bonds?
• Buy Gold?
• Buy US$?
• Buy shares?
  

Not suggested

• Money Market, cash, government bonds and other interest paying investments because these instruments should be used for the short term. They are safe but taxable and inflation will erode all the returns over the longer term.
• Property require much more than R20 000, even for a deposit.
• Gold is very speculative and high risk.
• Buying a currency like US$ is once again a speculative investment and closer to gambling than investing.
  

Suggested: Shares because,

• Currently the share market is relatively cheap.
• This is a longer term investment and shares have proved itself as the best performing investment over the longer period.
• Returns will be largely tax free.
• Shares can be sold with the click of a button if cash is needed.
• Shares on average outperform inflation over the longer period, unlike cash.
  

If Joe Soap does decide to invest his R20 000 in shares, I would urge him to keep it simple and consider investing into what is known as the SATRIX range of shares on the Johannesburg Stock Exchange.

Time is running out so I will give you the details of what SATRIX is in my next posting.

Thanks for your feedback, keep it up!

What came first?

In the previous posting I mentioned two golden rules of financial management.

1. Get rid of personal debt and
2. The sooner you can start saving, the better.

The question now is if I have personal debt (not the same as debt used to finance some business activity like a bond on a rental property), do I re-pay the debt before I start investing into something else like shares, or do I allocate some money to the re-payment and some to investing, or do I invest everything?

In my opinion the answer 90% of the time should be to get rid of the debt before you start investing, BUT, we are experiencing unusual times at the moment and my current opinion falls into the 10%.

Why should one re-pay debt? Here are some reasons:

• Let's say your bond rate is the same as the current Prime Interest Rate, 15%. So, the bank charges you 15 cents(15%) per year for every rand you borrowed from them to buy your house. Now at the end of the year, you owe them R1.15. If you give them back their R1 rand at the beginning of the year, you saved the 15 cents interest.
• This 15 cent saving is guaranteed. You know that you will have 15 cents in your pocket at the end of the year if you give your bank back the R1 at the beginning.
• The 15 cents is tax free. Because you have 15 cents in your pocket at the end of the year because you paid the bank the R1, does not allow the Receiver of Revenue to tax you on it.

Now if you decide to take that same R1 and not give it to the bank as re-payment of your bond, but decide to invest it in a share, the following will apply:

• You have no idea what the amount of money is the share will give you at the end of the year. It might be 15 cents, 20 cents or even -30 cents. The point is that the return on the share is not guaranteed.
• The other disadvantage is that the return on the share is taxable.

So, if you re-pay your bond it is the same as getting a guaranteed 15% tax free return on your money.

If you invest the R1 in a share, you don't know what you will get back, if anything, and whatever you get will be taxed.

So why do I say that we currently have to consider our options between re-paying debt and investing in shares? Here are the reasons:

• You can buy the shares of big, well managed, profitable companies all over the world for on average 35% less than you bought them 12 months ago. Some of these companies will also pay you an annual dividend of up to 5% which is almost tax free.
• Interest rates in South Africa are coming down so you might only have to pay 12 cent (12%) on every R1 outstanding on your bond soon.

To sum up, If you have to decide what to do with an extra R1 in your pocket, ask yourself this question:

- Can I get an after tax, guaranteed return of more than my bond rate by doing something else with the money?

If the answer is yes, then do it, if you don't know and have some appetite for risk, then go 50/50. If you have no debt, start investing.

I will look at some investment alternatives in the next posting.

Please remember that the aim of this blog is to make you think and consider alternatives and not to give you professional advice. For advice you can contact me or your licenced financial advisor.

Let's do the numbers

In my previous posting I mentioned that parents play a very important role in establishing sound financial management consciousness in their children. Let's face it, very few young people are interested in saving money or want to know how to deal with it and if a parent sets a bad example, a real nasty habit can develop in the child.

My motto is "Keep it simple". You don't need complicated structures and stuff to do the right thing. Let's look at two examples of just doing the basics right.

The MOST important lesson we all have to learn is that private/personal debt is never good.

Why? Because debt is an expensive luxury and if you watched the world economy go down the gutter over the last 12 months, you will understand that sitting on a box of dynamite for a very long time with nothing happening doesn't make it save.

Get rid of your debt:
If you have a bond on your house of R500 000. Let's say the interest you pay on the bond is 13%. If you repay your bond over 20 years the monthly repayment is R5 858. If you add all the monthly repayments for the 20 years your house will cost you R1 405 890.

Now if you increase your re-payment with R503 per month to R6 361, your house will be paid off in 14 years and 7 months and the house would cost you R1 125 950.

YOU SAVE R279 940 by just paying R500 pm more into your bond.

Now let's say you were smart and bought a small house/flat when you were 25 years old and only up scaled when you could buy a bigger place with the profit from selling the previous house without increasing your bond, and you used your annual salary increase to repay your bond as discussed.

At 40 you have a bond free house and can start saving/investing. Don't fall into the trap of accepting a great new line of credit from your bank! (believe me, they will come running. Why? because as long as you owe them money, you lose and they win!)

The sooner you can start investing/saving, the better.

• You start investing R500pm (R6000pj) at a return of 10% and increase the annual investment with the inflation rate (say 6%) every year. So in year 1 you invest R6 000, in year two you invest R6 360 etc. In 20 years you will have R580 860.
• If you start 5 years later, you will end up with R393 172

So by starting 5 years later, you invested R33 823 less because you started 5 years later, and lost R187 688 because of that.

Something we can discuss next time is whether you should get rid of debt before you start saving or 50/50 or what.

Sent me comments or questions any time.

We have liftoff.

Today the gears are starting to turn for most people back at work. Most people do this not because they love it but because they have to. All of us would love to get to the point where the previous statement is reversed.



To get to the point where you do what you love and not because you have to do it to survive, starts with something that you can't choose, your parents. Why do I say this? there are 3 reasons:

1. They have plenty of money and you don't have to work to support yourself, ever.


2. They encourage you from a young age to do what you love and not what society demands.


3. They provide you with an education that enables you to find a good job.

The first two points are obvious. The third is the one most people have to deal with.

What we can take from what I am saying is that if you are a parent, you have a huge responsibility. Schools don't provide proper financial management education and there will always be a lot of pressure from society to keep up with Mr & Mrs Jones. You as a parent must either encourage your children to do what they love or if they love nothing in particular, make sure that they can find a proper job one day and instil in them from a young age the discipline and knowledge of sound financial management.

2009

This is going to be a year where you have to take part in the investment industry and not sit on the sideline. If you have cash, there will be plenty of sound companies to invest in. If you have debt, you have to kill it before you start investing, and never get back into debt!

I don't think lump sum investing is the way to go but be sure to follow a phasing in plan over say 6 months. In this blog I will provide you with some investment truths, according to me, and can and should be tested with other investment professionals.

I will provide a unbiased, objective opinion about stuff I read. The problem with consulting an investment professional is that you have to have lots of money to talk to the good ones or you have to pay a consulting fee which can be rather high. The major drawback is that lots of the so called advisers provide subjective advice and do not act in your best interest.