Lee Oosthuizen

Certified Financial Planner®

Under your mattress isn’t an investment strategy

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Figuratively speaking, of course. The practical equivalent to “under your mattress” is leaving your money to rot in a notice deposit account that makes the bank rich instead of you.

If your money really is under your mattress, then we urgently need to talk!

Banks adore these notice accounts. They get “sticky deposits” that they can lend out to borrowers, while paying depositors a miniscule interest rate.

Inflation in South Africa typically runs between 3.5% and 5%, although the SARB targets 3% – 6%. A return below this level means your money is going backwards every year.

This is known as a negative real return and results in you having less buying power next year than you do this year.

That doesn’t sound like much of a wealth creation tool, does it?

Money market funds are only slightly better

Many people have invested significant sums of cash in money market accounts offered by the major banks. Again, banks love these products, going to great lengths to advertise them to potential depositors.

The rate offered is usually a tiered structure based on the amount deposited and the notice period required. For example, a quick look at the Nedbank website shows that a balance of R1,000 – R24,999 deposited for 1 month will achieve a pre-tax rate of 2.80%, whereas a balance of over R1,000,000 for 60 months will be paid a pre-tax rate of 6.44%.

The banks want more of your money for longer and will reward you for it.

However, by the time you’ve applied your tax rate (and recognising that individuals younger than 65 can receive up to R23,800 interest tax-free this tax year), you’re barely beating inflation after tax even if you achieve the top-tier interest rate.

E.g. R1million at 6.44% = R64,400 interest. Less exempt interest of R23,800 (persons younger than 65), = R40,600 taxable interest. Assuming a marginal tax rate of 45%, the tax payable is R18,270.

Thus, your after tax return is R46,130 or 4.6% and NOT R64,400 or 6.44%.

A paltry 2.8% return at the lowest tier is better than nothing in your current account and is useful for your slush fund. However, it still isn’t helpful for wealth creation.

This gap is real and isn’t going away

The gap between inflation and your money market return, i.e. the negative real return, is probably going to get worse before it gets better.

Interest rates are at historical lows and won’t increase until consumer spending starts to significantly increase. Input costs on the other hand, the drivers of inflation, are set to skyrocket. Think of price increases in electricity and the impact on food prices of wage increases above inflation.

The South African Reserve Bank (SARB) actively manages inflation by adjusting the interest rate. However, the SARB will be nervous to increase rates until we start to test the upper tiers of the inflation target. By then, your money has taken a big step backwards.

First port of call: your access bond

If you have a bond, you’re probably paying a rate close to Prime on your outstanding balance. An access bond allows you to pay extra into the bond and withdraw most of that money at a later stage. This enables you to use your bond as a slush fund, through treating it as a risk-free investment.

By investing spare cash in your bond, you are saving on Prime interest (7%) which is effectively an after-tax return as SARS can’t tax you on interest saved. Compare this to the highest Nedbank rate of 6.44% pre-tax and the decision should be clear: rather pay down your bond.

No bond? It’s time to get more creative

If you are one of the fortunate few without an outstanding bond, then it’s time to really put your money to work. Even if you don’t have the risk appetite or profile for equities, there are fixed income opportunities that can at least provide a positive real return.

Bank money market accounts pay rates linked to short-term paper in the wholesale funding market. Think of it as a Sunday market for money, with lots of stalls offering different amounts at different rates. The banks walk around the market, sipping on something cold and figuring out where the best deals are.

That’s the money market.

In contrast, the bond market is more exciting and exotic. If the money market is a gentle Sunday market, then the bond market is a huge shopping mall offering a variety of alternatives of all shapes and sizes.

Income funds typically invest in a combination of corporate bonds (issued by listed companies to raise debt), government bonds and bank paper (the little stalls we talked about). The goal is always to maximise return for each unit of risk taken on.

 Corporate bonds are the riskiest and pay the highest yield, followed by government bonds and then short-term bank paper.

A great example is STANLIB’s Income Fund which achieved a yield of around 6.5% over the past 12 months[RP3] .  This can be accessed by an investor with a R5,000 lump sum OR a monthly contribution of R500.

The fund exposure is roughly 73% corporate bonds, 21% government bonds and 6% money market. This is a riskier proposition than a purely money market fund, but the yields achieved are far superior with historical performance showing very down side risk.

Remember that the recent yield of 6.5% must be compared to the lowest rates offered by the banks, as the minimum investment amount is low.

Wanting fixed income returns doesn’t mean you have to go backwards

There are ways to achieve an attractive, risk-weighted return without being on the wrong side of inflation. Let’s discuss appropriate alternatives for you that will keep you ahead of inflation, without placing your hard-earned cash at significant risk.


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