How to make time work for you when you’re ready to invest
Understanding your time horizon will help you get the most of your long- and short-term investment
The longer you can avoid dipping into your savings, the greater your range of investment choice. When markets are volatile, as they have been in recent years, you need to be realistic about the time horizon of your investments to get the most from them.
Knowing how the time frame of different types of investments affects savings outcomes can help investors choose the most appropriate investment vehicle to earn the best possible growth.
The savings levels of working South Africans are low at just 15% of their income. But according to the Old Mutual Savings Survey, savings for the entire population are even lower at just 3%, reflecting the country’s overall low savings rate.
Investors often choose bank fixed-deposit accounts and money-market funds, as both benefit from set interest rates and provide fairly easy access to savings.
Average 12-month interest rates for fixed-deposit accounts from SA’s four biggest banks are currently about 5.5% to 7.5%. Average money-market rates are about 7% to 8%. With money-market funds, investors can access their money within 24 hours, which is a significant benefit.
By choosing to move up the yield curve, which means investing in fixed-income funds, investors can get average returns of between 7% and 9%, immediately adding almost 2.5% extra in returns while remaining in a low-risk investment. Although these funds should be retained for at least 12 months, investors still have access to their funds within 48 hours.
Income funds (from low risk to more aggressive) sit on the conservative side of the efficient frontier risk spectrum. An efficient frontier simply shows the opportunity to earn higher returns when you take on more risk.
Unit trusts and tax-free savings accounts
Unit-trust tax-free savings accounts are also within the low-risk investment category and can be used to save for a few months or even decades. They provide access to underlying funds and are a good way to combine tax efficiency with investment savings.
Investors can save R33,000 per year with a lifetime limit of R500,000. Growth on investments is tax free and so is the money that investors withdraw from the account. Used as a pre- and post-retirement savings option, tax-free savings accounts can have a lifespan of 40 years.
Equity-based investments, such as property, equity and balanced funds, are found further up the time-horizon spectrum. These require a planning horizon of more than five years, as the opportunity they provide to earn higher returns also means taking on more risk.
Over the long term, equities have proven to be the highest-performing asset class but can take years to recover from short-term downturns. Investors saving for less than five years may not have time to recover from a market correction.
Balanced or multi-asset unit trust funds
Balanced or multi-asset funds have an investment time horizon similar to equity funds – typically about seven to 10 years – as managers focus on longer-term macroeconomics and business cycles to position portfolios for growth, while keeping volatility low.
Balanced funds aim to give investors the best of both worlds by including exposure to equities and bonds. The equity allocation can range from 60% to 75%.
Understanding investment time horizons is not just about ensuring investors’ portfolios have time to recover if there is a market downturn. It’s also about understanding what influences managers’ decisions.
Investing in a balanced or equity fund positioned for a business cycle five to seven years ahead, when your personal time horizon is less than five years, means your outlook is not aligned with how the manager is managing the fund.
Investors can go wrong by choosing an equity or balanced fund and then stressing about short-term underperformance when the manager is managing the portfolio for the long term.
Investment time horizons of different types of investments
At the extreme end of the spectrum are private equity and other alternative investments such as infrastructure and credit funds, typically only available to wealthy investors with a minimum lump-sum investment of R1m. If you fall into that category, these types of investment are suitable for a goal such as putting money away for your child’s education in 20 years’ time.
Over a 10-year period – from December 2007 to 2017 – private equity funds managing assets of between R500m and R1bn returned 18.4% per year, according to the latest RisCura SAVCA South African Private Equity Performance Report. South African equities returned 10.7% over the same period.
It is important not to over- or underestimate your time horizon. If you and your financial adviser are not planning to access your savings for 10 years, consider investments with a higher risk return profile that can enhance your returns.
This article was paid for by Stanlib.