Ultima Financial Planners - News

5 August 2011 

With the recent announcement by the U.S. government that they will raise their debt ceiling, many investors ask questions about what to do.

In the late afternoon news, a day after the announcement is about more than normal market activities, both local as well as the JSE Wall Street. The news is more specific than simply the number of trades, it is about the high level of share sell-offs.

In financial planning terms this action is referred to as “herd behaviour”. The concept can briefly be described as the irrational behaviour by people who follow others’ behaviour based on emotional factors. In this case there is bad news in the market: the U.S. government cannot fulfil their financial obligations and are therefore borrowing more money. This bad news makes investors fearful of holding or buying shares in companies and they start selling off their shares causing available share prices to drop (supply & demand). Investors witness the drop in share prices and don’t want to ‘lose more money”. They offer their shares for sale, thus increasing the supply but the low demand for shares leads to further price drops (for every share to be sold, there has to be a willing buyer on the other side). Thus, a downward spiral arises.

A well-known Wall Street adage reads: “In times of crisis, money flows from weak hands to strong hands.”

What to do or not to do:

Each person’s situation is unique. So without giving specific advice to anyone:

·         Do not make hasty decisions.

·         Stick to your long-term strategy (plan).

We know that uncertain times will occur and therefore we like to remain connected to our customers by sharing relevant facts and monitor their investment strategy.

Ultima’s starting point is and remains “Life Long Peace of Mind.”

-       Nick Dekker

Saving for retirement and drawing an income from the savings (capital and investments) after retirement are matters that investors are always concerned about. Years of first-hand experience have shown us that most people nearing retirement have not accumulated enough savings. Another matter that causes investors to feel anxious is the uncontrollable spiraling of costs, such as fuel, rates and taxes, electricity and medical expenses. Insufficient savings also mean that retirees have to withdraw a lower income from their capital.

Independent research, including the research done by the financial planning company acsis, shows that a retiree’s maximum initial draw-down rate should not be more than 4%. A draw-down rate of 4% on a capital investment of R1 000 000 translates into an income of R3 333,33 per month, assuming the following: that you are 65 years old, that your capital must last you for another 30 years and that you will increase your annual income to keep track of current inflation (not your own calculated inflation rate). Furthermore, your underlying investment portfolio must target a return of 4% above inflation. If your personal circumstances differ from the above analysis, you should make the necessary adjustments to suit your situation.

Perhaps you thought you could easily draw an income of 10% from an investment of R1 000 000, and you question the low draw-down rate of 4%. But remember that although the average return of the JSE has been inflation plus 7% over the long term, the returns fluctuate constantly. If the market is negative in the first few years of your retirement, and you draw a higher income, you will find it difficult to recover later. If you increase your draw-down rate in accordance with the inflation rate while the market is negative, you will exacerbate the situation.

Drawing an income of 4% of the capital value at the start will give you a confidence factor of 90%. This means that there is a 90% chance that your capital will last you until the age of 95, and that your income will escalate every year. If you start with a draw-down rate of 7,5%, your confidence factor declines to 60%. This means that your chances of achieving your target goal will be only 60%. This is too great a gamble.

A solution could be to draw down say 5% over your full retirement period. The upside of this strategy is that you will probably not run out of money and, assuming your investment portfolio has the correct underlying asset allocation (shares, property and cash), your income will increase over time. The downside of this strategy is that your income will decline when there is a decline in the market, and this could be unsettling.

This article appeared in a recent publication from IFA News.

Retirement annuities remain a popular investment vehicle with many South Africans for good reason.

“A retirement annuity is a long-term savings vehicle aimed primarily at people providing for their retirement. To prevent people from relying on the government to provide for them in their old age, there are legal restrictions on withdrawing funds from RAs. But there are also tax advantages to offset the lack of access to funds,” says Rowan Burger, Head of Investment Strategy at Liberty Retail SA. “Tax benefits are just one of the ten reasons that you should consider a retirement annuity”:

1. Preparing for retirement

An RA helps you to build up capital during your working years so that you have enough income to enjoy the same standard of living when you retire.

2. Ensuring sufficient savings

The rule of thumb is that if you save 15% of your salary over 35 years, you will receive 75% of your salary as a pension, given reasonable returns.

The problem is that your pensionable salary (the amount that your 15% pension contributions are calculated on) is usually about only 70% of your total salary benefits which include, for example, a bonus, car allowance, medical aid and other benefits. This means that you could retire on 75% of 70% of your salary!

It is important to save for these ‘extras’ as they do help us meet our current living expenses.

For example: if your monthly package is R20000, you would need to retire on the equivalent of R15000 (75%). But your pensionable salary is significantly less at R10500 (75% X R20 000 X 70%).

By investing 15% of your non-pensionable income into a retirement annuity, you can make up the savings gap. A starting point is to always invest 15% of your bonus tax-free into an RA.

3. Tax benefits

You can invest up to 15% of your total income (less any amount that may be used for other pension fund contributions) tax-free. Not only can you invest with before-tax money, but you do not have to pay capital gains tax or income tax on your retirement investment.

Your investment growth will be higher over the long-term as the growth remains in the policy and will usually offer you a better after-tax return than other types of saving.

When you retire, you can take one-third of your investment as a lump sum. Of this the first R300 000 is tax-free with a favourable tax-rate for higher amounts. The remaining two-thirds of the retirement annuity is invested in an annuity to provide you with income during your retirement.

4. The power of compound growth

Because you are saving over a long period, your money starts to work for you as you earn interest on the interest. If you save consistently over 30 years, less than 35 cents of each Rand of income you receive will come from the contribution you paid in. The balance will come from the growth earned on your contributions and savings in retirement.

5. Disciplined savings

You do not have access to your retirement annuity savings until the age of 55. This may sound like a disadvantage but it removes the temptation to dip into or deplete your savings while you are working. A 25-year old needs about 15% of his/her salary through their working lifetime to secure an adequate pension. If they cashed in their savings at 35, they would need to save 25% to get to the same benefit. Starting from a zero base at 45 requires an incredible 47%! The only remedy here would be to retire later.

6. Long-term growth

As markets fluctuate during different economic cycles, your consistent contributions will average out this variability. You also draw your pension over a (hopefully) prolonged period. Therefore, what happens in a turbulent investment market is of less concern to you. The average investment manager has delivered returns which are 11% above inflation over the last 5 years, despite the recent global economic crisis.

7. Supporting your dependants

If your dependents are left to cope without you, your retirement annuity can provide a source of income for those you leave behind, especially if you buy death cover on your policy. The cash benefit from a retirement annuity falls outside your estate, so if you die and are insolvent, your benefit is paid to your family rather than your creditors.

8. Room to grow your savings

While pension funds generally require a contribution that is a fixed percentage of your salary, RAs offer more flexibility. Many people recognise the need to save but struggle in the short term to meet financial obligations.

A retirement annuity allows you to slowly increase your contributions over time. For example, you could take 3% from each of your next five years’ salary increases to get to the full 15% contribution. You can also invest a portion of your bonus each year as a lump sum contribution.

9. Diversified portfolio

You have access to different asset classes in a retirement annuity. You can invest 20% of your savings offshore without needing Reserve Bank clearance. You can also invest in other types of portfolios through your RA, such as direct property, private equity and fund of funds.

10. Freedom of choice

With many retirement annuities, you can choose your underlying investment giving you some flexibility in how your contributions are invested and therefore how they grow

financial planning fees in perspective

From time to time, you, our clients, may feel uncertain about the fees you pay us. We would like to present the following framework to interpret our fees.

The three main areas we charge fees for are:

1          initial financial planning fees

As with most professionals, experience, qualifications and skills determine the fee charged for initial financial planning. In practice, this fee is fixed or based on an hourly rate.

The initial financial planning process focuses on advice in three areas. The financial planner:

·         assists clients in identifying and clarifying their financial goals

·         determines the most appropriate strategies to achieve the financial goals

·         determines the actions that need to be taken, both by the client and the financial planner

The actions may be, for example, investment advice, retirement planning, optimising tax structures, estate planning and identifying the correct products and product companies to give effect to the plan.

2          implementation fees

As we charge ongoing investment fees we generally do not charge a separate initial investment implementation fee like most other financial planners do.

We charge commission on long-term insurance products at the rate of commission allowed by legislation for services, benefit, liability, infrastructure, compliance and reviews as described below.

3          ongoing financial planning fees                                                                          

benefit - The successful implementation of investment strategies ensures that clients receive the growth they require from their capital in order to achieve their financial goals. In principle, the reward for successful implementation should be aligned with the benefit this creates for the client.                  

liability - The potential liability for a financial planner advising on a large investment is much greater than advising on a small one. A percentage-based fee for the assets under management ensures that the planner is compensated for taking on such risks.

infrastructure and compliance - Financial planners are required by law to provide and maintain a basic level of client service and infrastructure. These include:

·         provision and maintenance of the offices and staff necessary to provide effective implementation and monitoring of the service for the duration of the relationship

·         record-keeping for current and former clients in compliance with legal requirements

·         ongoing learning to maintain a level of expertise to ensure that advice and recommendations remain relevant and appropriate

reviews - Ongoing financial planning to ensure that the goals, strategies and actions identified in the initial plan remain appropriate and relevant throughout the life stages of the client.

Life assurance – Good news!        

Extracts from The eDiscoverer from Discovery dated 16 September 2010:

·         South African life assurance policyholders pay 30% to 40% less for life cover today compared to what they paid ten years ago.

·         They also enjoy more comprehensive cover and can benefit from products and services designed to meet their and their family’s changing needs today.

·         The industry has doubled its claims pay-outs during the last ten years.

·         Complaints to the ombudsman for long-term insurance around disability claims have reduced by 67%.

·         Because of this decade of innovation and consumerism, South Africa has emerged as a global leader in risk cover.

Premiums in 2000 for R1 million life cover: male, non-smoker, best rates:

                                                                                                                                    Industry

Age      Company A       Company B       Company C       Company D      Company E       average

35         R208                 R215                 R197                 R266                 R189                 R222

45         R299                 R315                 R301                 R471                 R295                 R347

55         R688                 R720                 R699                 R980                 R618                 R772

Premiums in 2010 for R1 million life cover: male, non-smoker, best rates:

35         R164                 R137                 R156                 R188                 R91                  R147

45         R243                 R250                 R280                 R277                 R156                 R241

55         R464                 R502                 R579                 R488                 R311                 R469

Change 2000 to 2010:

35         -21%                 -36%                 -21%                 -29%                 -52%                 -34%

45         -19%                 -21%                 - 7%                 -41%                 -47%                 -30%

55         -33%                 -30%                 -17%                 -50%                 -50%                 -39%

The industry average assumes a uniform distribution between the companies considered.

It might just be worth your while to have your life assurance policies reviewed. However, the best option is still to have a full financial plan drawn up or to have your existing financial plan reviewed before buying a product.

Please call us for an appointment at (012) 348 1386.

Follow this link to download the newsletter: Ultima Newsletter - June 2010

I trust that you won’t say something like this! Unfortunately, investors were caught off guard again by advancing investment markets.

A 30 October 2009 article in Beeld by Neville Brand-Jonker describes how investors scrambled out of money market funds during the third quarter of 2009. R91 billion moved from money market funds to mainly asset allocation funds. Brand-Jonker commented that it seemed as if investors didn’t know where to allocate funds and trusted fund managers to do the job for them. He said that fund managers voiced their disappointment that ordinary investors again largely missed the upswing in the market.

It all began seven months ago and continued through October 2009 - the All Share Index (ALSI) of the Johannesburg Securities Exchange advanced more than 37% from March until the end of September. Mr Jeremy Gardiner form Investec Asset Management said that South African investors, just like their emerging market counterparts, didn’t trust the early upswing in the market. But why should they? Experts believed that the market would advance by 15% and then retrace. Unfortunately for investors, this did not happen.

We at Ultima have always believed that success as an investor is not achieved by the timing of markets. Rather, success comes through having a robust investment strategy and a correctly aligned asset allocation that’s closely monitored. Success over time will then be inevitable

Given their natural talent for their respective fields, what can the likes of Ryk Neethling, Tiger Woods, Lance Armstrong and the Williams sisters learn from someone else? These internationally-renowned sportspeople are dedicated, determined and confident. So why would they require a coach?

Behind virtually every champion athlete is a champion coach providing guidance in three key areas: improving technique, setting short and long-term goals and continually reigniting the athlete’s motivation to stay on track to achieve these goals. A financial coach or what we refer to as a financial planner, plays much the same role for champion investors.

setting short- and long-term goals

Ask any successful athlete, in fact, ask anyone who is successful in any particular field and the importance of goal setting will be immediately obvious. A coach working with an athlete for the first time will not immediately consider diet, fitness or training routines. Instead, the coach and athlete will work together to set realistic goals. Only then will the coach assesses the athlete’s abilities, fitness and potential and design a plan that offers the best chance of achieving those goals.

Similarly, investors can benefit from setting clear, realistic goals, such as the level of income they wish to live on in retirement. While longer-term goals are essential, short-term goals are as just as important as most people have financial needs that will not wait until retirement. These can include buying a new car or paying off debt and can all be built into a long-term financial plan. In this way, investors can enjoy ‘little’ victories along their journey to lasting financial well-being.

providing expert technical advice

Athletes become champions by accessing the latest technical training through updated technology and information and most importantly, a trusted coach.

Investors should also obtain as much technical detail as possible when it comes to understanding their investments.  Each individual’s circumstances are different and require a customised approach to ensure that their goals are achieved. This means that everyone requires a tailor-made strategy that suits their particular needs, whether it’s planning for retirement, organising inheritance, efficient tax planning or any other needs.  Expert financial coaches will focus on those needs and use their technical expertise to develop a sensible plan and keep it updated. This includes providing guidance on sound investment principles such as diversification.

overcoming the barriers to success

Setting clear goals and developing a strategy to achieve them are essential for athletes and investors. However, the journey towards these goals holds great challenges and rewards. This is where coaches add their greatest value!

Champion coaches help athletes put setbacks, such as injuries, behind them and tackle the psychological obstacles in the way of success. Those athletes who ignore short-term pain and set backs and remain focused on their goals are the ones most likely to attain long-term success.

Investors are distracted by similar hurdles. For example, successful investors have to learn to live with the pain of occasional market declines. This is done by understanding the difference between a short-term reduction in portfolio value and a permanent capital loss. Excessive fear results in some investors selling their assets for less than they are worth in difficult market conditions. Others may be tempted to leave their money in
low-returning assets for long periods of time.  Excessive optimism can be just as damaging. For example, investors who eagerly chase ‘hot stocks’ or ‘hot funds’ often do just as poorly as they don’t rationally assess the outlook. In these instances, an expert financial coach helps investors deal with their emotions and other behavioural characteristics that get in the way of success. Investors who can overcome the temptation to self-destruct during difficult market conditions and stay focused on simple investment principles during the good times will give themselves the best possible chance of achieving their goals.

When all is said and done, champion athletes and investors enjoy greater success by working with champion coaches.

In order to provide appropriate advice in terms of the FAIS Act, we need to have all the relevant information from a client.

Mr Page approached us for advice regarding his retirement. He was 45 years old and had belonged to his company’s pension fund for the past 20 years. He was contributing 10% of his salary of R45,000 per month to his pension fund. The resignation value of his pension fund was R1,867,000. He also had a retirement annuity to which he had been contributing R367.00 per month for the past 15 years. The underlying value was R168 400.

Mr Page wanted to know if he had made adequate provision for his retirement if he planned to retire at age 65 and wanted to receive a pension of 75% of his final salary. We went back to him and requested more information. We wanted to know what the underlying asset allocation (i.e. number of shares, gilts, bonds and property) of his pension and retirement annuity was. After some searching, he came up with the following information:

Pension Fund

• 15% Shares
• 6% Property
• 22% Gilts
• 57% Money Market

Retirement Annuity

• 32% Shares
• 15% Property
• 53% Money Market

We then went to work on establishing how much capital he would require at age 65 to provide a pension of 75% of his final salary, keeping in mind that the pension would also have to increase annually in line with inflation (6%). His final salary would be R144,321 per month; 75% of that (R144,321) would be R108,240.82 or R1,298,889.87 per annum.

The total capital required at age 65 to achieve his goals would be R21,600,798, assuming inflation of 6% during retirement, 11% capital growth and satisfying the requirement that the capital would have to last until his 95th birthday. An analysis of his current position revealed that his pension fund (with current asset allocation) would yield R12,284,374. There would be a shortfall of R9,316,423. This is largely as a result of the underlying asset allocation being too conservative.

As he had more than 10 years left to retirement, he needed to have far more equities in both portfolios. The current pension fund legislation allowed the equity exposure to be as high as 75% of the total portfolio.

We suggested that he contact his pension fund administrator and request that the asset allocation be altered to the following:

• 75% Shares
• 6% Property
• 15% Money Market
• 4 % Gilts

We altered the retirement annuity asset allocation to:

• 75% Shares
• 6% Property
• 15% Money Market
• 4 % Gilts

The new structured portfolios could yield a capital value of R26,468,086.

This would be R4,867,288 more than would be required. If this could be achieved, Mr Page could end up with a pension of R1,591,567 per annum instead of the R1,298,889.87 he required. That would equate to R132,631 per month or 92% of his final salary. So without having to invest more money from his after tax income, he could more than adequately achieve his retirement goals.

Setting investment goals and structuring the total portfolio so that it is aligned with these goals are probably the most important considerations when financial planning for retirement takes place.