RETIREMENT
     REINVENTED

In the context of steering the JSE All Share Index towards a more favourable trajectory, the question at hand examines several key factors. When discussing equities, three fundamental elements often enter the conversation: valuations, macroeconomics and momentum. Currently, there has been a downward trend in momentum, which typically influences market direction unless an external catalyst intervenes. Valuations, when compared to historical standards, are relatively low, a trend that has persisted for the past two years. Historical data suggests that when the South African market has exhibited similar low valuations, the subsequent five years have often yielded robust returns, although not necessarily immediately or in a linear fashion. Hence, valuations appear promising, but the question of "when” remains a significant consideration.

On the macroeconomic front, there has been a global rise in inflation, including in South Africa. This situation poses challenges for companies, as they often struggle to pass on the increased costs to consumers. This challenge may indicate a potential area requiring adjustment for a more favourable market climate. Additionally, South Africa faces unique challenges, including a forthcoming challenging budget meeting during an election year and the ongoing issue of loadshedding impacting businesses and households.

It is essential to bear in mind that equity markets react not solely to current conditions but also to sentiment relative to expectations. For instance, if a company is expected to announce a 30% drop in earnings compared to the previous year but reports only a 20% decline, its share price is likely to increase. The anticipated 30% drop was already factored into the price. The critical question is, what expectations are currently built into the South African market? It is entirely plausible that a pessimistic growth outlook is already reflected in pricing. Therefore, a modest improvement in sentiment could potentially serve as a catalyst for improved equity returns, representing a significant uplift from the existing bleak outlook.

Looking beyond the JSE All Share Index, it is wise to explore other asset classes that offer attractive returns with reduced volatility. Incorporating a combination of bonds and cash in a diversified portfolio may offer a more balanced approach to navigating the financial landscape and achieving favourable outcomes.

Banks have been actively advertising fixed deposit interest rates, attracting conservative investors. A client, who recently sold a house, found herself in this situation. As soon as the sale proceeds landed in her bank account, the bank contacted her. They persuaded her to invest in two one-year fixed deposits at an 8.1% rate and a five-year endowment with a guaranteed rate of 7.2%. However, selling a five-year endowment to a retired individual seeking income is not suitable. Her PPS portfolio had a net return of 10.3% over the past year, which made the bank’s advice appear misguided. The fixed deposit returns would also be taxed, resulting in an estimated net return after tax of about 5.2%. The one-year deposits were locked in for the next year, but the five-year endowment could not be changed. This story emphasises the importance of avoiding hasty investment decisions driven by fear, without considering your holistic, long-term retirement plan.

Clients tend to favour guarantees because people generally prefer certainty over dealing with uncertainty, even if the probability of success is higher than failure. However, it is essential to question whether it is genuinely risk-free when considering potential missed returns due to excessive caution.

The rationale for embracing risk and diversifying investments is that, even with lower-risk options, there is still the risk of earning lower returns, especially depending on your investment horizon. If an investment expert could demonstrate a track record of expected returns consistently outperforming guaranteed ones, the preference for guarantees would likely diminish.

It is also worth considering whether the guaranteed return is compounded, as this can influence decision-making. The critical step is to consult with a financial intermediary to ensure your actions align with your financial objectives. If we could access statistics on how many fixed deposits are prematurely terminated with penalties, our perspective on the “guarantee” might change. Fixed deposits often entail restricted access, leading to penalties for early withdrawal or even complete inaccessibility. So, it is important to weigh the trade-off and consider your liquidity needs.

In the ongoing debate surrounding this matter, the sharp devaluation of the rand over time has been a central point of concern. Traditionally, Regulation 28 of the Pension Funds Act enforced stricter limits on global exposure for pre-retirement assets. Contrary to the expectations of many sceptics of the rand’s performance, these limits have been raised progressively to 25%, 30% and now 45%. It is essential to acknowledge that post-retirement financial products, such as living annuities, are not bound by Regulation 28. Many providers, like PPS, permit a 100% global exposure for post-retirement income. The key question that requires addressing is whether this approach is advisable.

Global equity is arguably the top-performing long-term asset class from a South African perspective. However, it is also the most volatile asset class in the short term. When individuals retire and begin withdrawing income from their retirement funds, volatility becomes a significant concern. Due to this income dependency, the portfolio becomes much more susceptible to short-term market fluctuations than during the pre-retirement phase. Extensive research has been conducted to determine the tipping point between the expectation of superior growth from global equity and the potentially detrimental impact of short-term volatility. From an expert’s viewpoint, the consensus on the maximum allocation to global assets is approximately 50%. Given that Regulation 28 now allows for a 45% allocation, it is considered less restrictive.

Investing in hard currency involves converting South African rand into currencies like dollars, pounds or euros and investing in them. The process has become relatively straightforward, with banks and various companies offering currency conversion services for a fee. Multiple product platforms and funds are available for selection. Each individual has a foreign currency allowance of R1 million. Beyond this limit, one can apply for an annual increase of up to R10 million. It is crucial to note that all offshore expenditures while abroad, including paying for services like Netflix, contribute to this limit.

Another often overlooked point is whether a global Will is required or if these assets can be incorporated into a South African Will, depending on the investment approach. For companies and local trusts, it may be necessary to explore asset swap or feeder fund structures to gain exposure to global assets.

The question regarding the viability of cash as an investment is becoming increasingly common. Currently, an attractive investment proposition is presented by cash, prompting an overweight position in cash across all portfolios. Traditionally, cash served as a diversification tool and a means to mitigate risk in a portfolio. However, due to present yields, it has evolved into a deliberate investment choice. It is worth noting that this does not translate to an all-cash position in any multi-asset portfolio.

In an ideal scenario, the strategy would involve maintaining a high cash exposure until a clear pivot towards higher returns in risky assets occurs, followed by a shift to equities. However, this expectation is not practical. It is prudent to retain a lower weight in risky assets during volatile times, but when markets rally, having a stake in these assets becomes essential to ride the upswing. Historically, equities and bonds have outperformed cash over the long term, and this trend is expected to persist.

It is crucial to recognise that while holding cash in volatile markets may seem intuitive, the key challenge lies in the timing of re-entry into the market. Numerous instances have shown investors moving to cash to avoid market volatility, only to remain on the sidelines for too long, missing out on subsequent equity market recoveries. Achieving success in this investment strategy depends on flawlessly timing both the exit from and re-entry into the market, a skill that many find challenging to master.

Inflation stands as a significant financial concern for individuals post-retirement, given its tendency to steadily increase over time. Managing one’s finances becomes a challenge when navigating through unpredictable markets marked by alternating favourable and unfavourable periods. The initial step in addressing this concern is to consider the individual’s investment time horizon. Many retirees, including PPS members, are now experiencing longer lifespans than previous generations. This extended time frame permits a portion of their investment portfolio to include riskier growth assets, despite their inherent volatility, as the extended horizon can accommodate such investments.

Growth assets, while more volatile, have a historical track record of significantly outperforming inflation over the long term, even though they may experience short-term periods of underperformance. Some asset classes also exhibit better performance in the face of rising inflation, with inflation-linked bonds being a notable example. These bonds are directly linked to the inflation index, ensuring that as inflation increases, the bond’s value also rises. This is in contrast to many other asset classes that may depreciate under inflationary conditions. Inflation-linked bonds serve as a dependable hedge against inflation. Consequently, all appropriate PPS portfolios include a dedicated allocation to inflation-linked bonds to mitigate the risks associated with escalating inflation to some extent.

Therefore, it is advisable to consult a PPS-accredited financial adviser to make well-informed investment decisions.

When considering tax planning strategies, individuals must understand that a one-size-fits-all approach is not applicable. It is essential to thoroughly assess one’s personal circumstances, and in some cases, those of their spouse and dependents.

A crucial starting point is to familiarise oneself with the tax structures of investment wrappers or products. In the case of pre-retirement products, contributions are typically tax-deductible, investment growth remains non-taxable and income drawdowns from these products are subject to taxation. These products offer an opportunity to defer income tax until retirement when individuals are likely to be in a lower tax bracket.

Conversely, in discretionary investments, growth elements like interest, capital gains and dividends are taxed based on individual earnings. Hence, it is essential to understand how to leverage personal tax abatements on these investments. Additionally, if planning retirement as a couple, it is prudent to consider an equal split of these investments between spouses. In the high-net-worth market, the use of trust and company structures can be effective, but they come with certain limitations. For instance, local South African companies cannot invest in hard currency global assets and do not have capital gains or interest abatements.

Some products feature taxation within the product at a specific rate, such as endowments or sinking funds where interest is taxed at a flat rate of 30%. Careful consideration is necessary for these products because even if an individual’s marginal tax rate is higher than 30%, it does not necessarily mean that they will be taxed at a rate exceeding 30% on interest. The underlying investment portfolio may largely consist of equity, making capital gains tax a more important consideration.

Queries regarding the rand always pique interest. In the long term, economic theory proves to be a reliable framework for explaining its behaviour. Nevertheless, in the short term, the rand exhibits a consistent pattern of overreacting and underreacting. Adding an intriguing dimension to the rand’s profile is its status as one of the most volatile currencies when measured against the dollar.

As an emerging market currency, the rand is sought after by global traders, particularly in risk-on trading environments. They prefer the rand due to the advanced state of South African financial services, which resemble first-world standards, ensuring no liquidity issues. Transactions involving the rand and the dollar occur swiftly without delays. Consequently, the rand often enjoys significant gains when risk-on trading prevails. Conversely, in risk-off scenarios, investors find comfort in the ample liquidity of the rand, and this tends to make the rand one of the first currencies to be sold. Predicting the behaviour of one of the world’s most volatile currencies is a challenging task. Very few, if any, consistently make accurate forecasts, and often, it is global rather than South African factors that determine the currency’s relative performance.

The primary factor that can boost the rand’s valuation is an improvement in global sentiment. This could lead to a risk-on scenario and global investors showing interest in investing in emerging market economies. Occasionally, significant movements in the rand occur due to internal factors, such as political events like the swift replacement of a finance minister over a weekend. However, such occurrences are infrequent and difficult to predict.

The most critical factors in managing investments are self-discipline, patience and a rational perspective. It is good to, during market downturns, reconsider one’s retirement planning and budget in alignment with these principles. The market’s behaviour is beyond our control and it is important to recognise that markets can at times be irrational, resulting in a discrepancy between the price and the actual value of assets. During these periods, assets tend to sell for significantly less than their intrinsic worth. Unfortunately, it is precisely at such times that investors often feel disheartened and anxious, leading to poor decision-making.

Diversification plays a pivotal role in this context. There are moments when equities may appear as a winning choice, while in other instances, a money market account seems like the only rational option. Attempting to predict these shifts can be fraught with risk, and history has repeatedly shown that a well-diversified investment mix outperforms attempts to time the market.