While it has no welfare system to speak of, the taxman nevertheless allows contributions to retirement annuities to be tax deductible up to a certain limit. This is one of the few ways for the ordinary salary-earner to reduce his taxable income and is particularly worthwhile for people in high income tax brackets.

Under current tax laws you are allowed to deduct your contributions to a retirement annuity fund up to the greater of 15% of your taxable income from non-pensionable sources, or $3 500 less any deductible pension contributions, or $1750, whichever is the greatest. The deduction for married women who are taxpayers (i.e. subject to SITE) is the greater of 15% or $1 750 less pension contributions, or $875. RA contributions are only recommended up to the limit on which you receive tax deductions.

Retirement annuities can be used to save tax during your working career. If you are paying the maximum marginal rate of income tax of 45%, this means that of every $1 000 you contribute to an RA, the taxman is paying $450. You are achieving a high gearing because if you decide to invest in other areas that do not qualify for tax deductions, you have only $550 of your $1 000 to invest. The rest goes to the taxman.

On retirement, which can be any time between 55 and 70, you are allowed to commute (take in the form of cash) a maximum of one third of the capital amount which you have built up in the RA fund of which you are a member. The remaining monies remain locked up in the fund to provide you with an annuity, or pension, for the rest of your life. If this is a fixed amount that does not escalate in line with inflation, you have to make additional provision to counter the effects of inflation.

Any pension drawn from an RA fund is taxable in full but your one-third lump sum is tax free up to a maximum of $120 000. This amount will be reduced by any other tax-free amounts received from pension, provident or other RA funds. Any amount above that is taxed at your average instead of your marginal tax rate in the year in which you receive it.

One aspect of RAs which is often criticised is the fact that the capital, apart from the commutable portion, is in some cases forever out of your reach and does not pass onto your heirs. In extreme cases it can happen that a person who has been contributing to an RA fund for many years dies unexpectedly a week after retirement. Had he invested in unit trusts for example, his investment could have amounted to several hundred thousand rands, fully transferable to his heirs.

However, various options are available to any person contributing to an RA and the RA can be structured to meet an individual’s particular needs, e.g. guaranteed payment periods, joint and survivorship annuities and certain capital preservation options. You should consult your financial adviser to determine which option would be most suited to your particular needs.

Recent changes to legislation regarding the type of investment life insurance companies are allowed to make, are expected to boost over-all returns in the future. This will make RAs a more attractive investment avenue for retirement planning.

Many people still refer to endowment policies as investment policies. Although endowment policies have a large investment component, by law they have to have significant life cover built in. Without this element of life cover, the generous tax exemption on the policy proceeds upon maturity falls away. A further restriction imposed upon endowment policies (excluding certain exemptions) is that the policy must be at least 10 years old before any proceeds are exempt from tax.

Despite these restrictions endowment policies have been very good investments over the last 10 to 15 years with overall returns easily beating inflation over the same period.

Broadly speaking, there are two types of endowment policies — policies that guarantee a certain return in the future but may be topped up by bonuses from time to time (depending on the investment performance of the insurance company), and market-linked policies. Market-linked policies have a greater degree of risk but their performance is directly linked to the performance of investments like the stock market or property.

Investors often compare the superior returns of most unit trust investments with that of endowment policies. While there is no disputing the better returns enjoyed by most unit trust funds, it is a case of comparing apples with pears in certain instances: these two types of investments show a high degree of similarity, but there are important differences that need highlighting.

Unit trusts are far more liquid than endowment policies as the investor can sell his units immediately at any time whereas with endowment policies this is often not possible without incurring a tax liability. This liquidity can be to the detriment of the average investor should the necessary discipline not be exercised. Many unit trust holders are not used to the cyclical nature of stock markets and can easily be frightened into selling every time the stock market takes a knock. This can be a costly exercise. Inexperienced investors in unit trusts may be tempted to cash in some of their profits every time the market soars. Once again this can reduce the overall return in the long run.

Endowment policies may be used as collateral in times of emergency. They may be ceded to a bank or building society as a guarantee for a loan without touching the underlying value of the investments. It is highly unlikely that a bank will accept unit trusts as collateral as there is no guaranteed value.

Endowment policies, like unit trusts, have the great advantage that the investor is benefitting from the knowledge of investment specialists employed by the life insurance companies. By pooling huge amounts from policy holders, insurance companies can invest in areas generally not available to individuals.

“Lock In” Or Stay Free

There is usually a need to have part of your assets in money form, and naturally you should aim to get a high return on these funds. You have to make an educated guess about which way interest rates are moving when you decide where to place money to earn interest. If you feel rates are going down, it may be best to take a one or two year fixed deposit or debenture. Don’t forget that once you “lock up” the money in this way for one or two years you may find it very difficult to get access to it unless there is a proven emergency. Some finance companies can be uncooperative when investors want to withdraw early.

Interest rates have a fairly cyclical nature. It makes sound sense to lock into cash investments when interest rates are high, but this would be quite foolish when interest rates are low.

We now live in rapidly changing economic conditions and it is therefore unwise to put money away on fixed term for more than two years. Nobody can predict what interest rates will be two years from now. People who “lock into” long-term investments may find themselves unable to get access to funds which could be used to take advantage of fluctuations in the economy.

Watch The Interest

We all know that you can prove anything with figures and there will be all sorts of rates offered to you. Make sure you understand what they mean. For example, three companies might offer 14% for a 12 month term. With the first you are paid the interest at the end of the 12 months, the second may pay it to you quarterly and the third may calculate and add it to your deposit (or pay it to you) monthly. Obviously the third option is the best for you. The worst is the first, because the company has the use of your interest for the whole year.

This applies particularly to bank and building society accounts. Some pay interest monthly, but some make you wait for six months. Then consider whether the interest is paid on daily balances or on the minimum monthly balance. Stay away from interest paid on the minimum monthly balance. If interest is paid on daily balances you are credited with interest based on the actual balance each day. However, if you are paid on minimum monthly balances the interest for the whole month is calculated as if the LOWEST balance for the month was the only balance. Thus if you had $1 000 in your account at the beginning of the month and withdraw $985 on the second last day, the interest for the whole month would be calculated as if you had $15 in the account for the whole month. That’s pretty rough!

Many banks and building societies have made their interest- bearing accounts so complex that even their own staff have trouble working out one from the other. The main questions to ask are: —

Does the interest rate change as the balance goes up or down from certain points? E.g. Is it higher if the balance is over, say $1 000?

Do you suffer a penalty if the money is withdrawn before a certain date?

When is the interest paid?

Every rand counts — make sure you arrange your affairs so as to get the highest interest rate.

When you invest in any fixed interest deposits make sure you specify that proceeds are to be placed on 24 hour call on maturity and NOT re-invested.

Many institutions will automatically re-invest the proceeds for a further term unless advised by the depositor to the contrary. This denies the depositor the right to “shop around” for the best rates available at that time. It is unfortunately true that some institutions who automatically re-invest fixed deposits do not do so at their highest rate.

Government Bonds

Placing money in government bonds, also known as gilts, is similar to having money in cash form but with a subtle difference — government bonds can give an investor a capital loss or a capital gain. The interest rate is usually fixed, so if rates in general fall, the value of the bond will rise. Conversely, if rates rise the value of the bond will drop.

Like most other fixed-interest bearing investments government and semi-government bonds have not been a worthwhile investment in recent years. But recent changes to what is called prescribed asset requirements has freed this market from government prescription to a certain extent, with rates now generally higher than the inflation rate.

Bonds are sometimes also used by sophisticated investors during times of stock market volatility to preserve the capital values of their investments. But investments in this area is highly complex and best avoided by the layman investor.

Bankers’ Acceptances

It is common for people borrowing money to do so by using bankers’ acceptances (BAs). They sign a bill of exchange, which looks like a cheque, which will fall due for payment at some fixed future date which usually varies between 30 and 180 days. This bill of exchange is then stamped by the bank with the bank’s own guarantee of payment.

SMALL SUMS CAN GET YOU IN Small investors may participate in “big time” investments in a unit trust with small sums of money. Some funds even allow monthly investments of R50 per month.

DIVERSIFICATION The small initial investment required enables an investor to have a range of unit trust investments thus providing diversification. The unit trusts themselves spread their investments so that the diversification is increased still further.

SKILLED MANAGEMENT Very few individuals have the time, skill or money to research the investment opportunities available in today’s complex financial market. The top unit trusts are run by skilled professional management teams all vying with each other to be Number One in their field. That is why the good trusts, even after their management charges have been taken into account, will get better results than the average person in the street.

WORRY-FREE OWNERSHIP With direct investment there may be lots of time involved consulting with stockbrokers about the state of the market, or chasing up tenants, or handling calls about maintenance and getting quotes from tradesmen. If you have properly managed investments you can leave it all to the managers. The only worry you then have is whether or not they perform.

Of course there are a minority of people who invest mainly for the fun, or the interest of doing all the leg work themselves. They get a great kick out of spending hours poring over charts of share prices, discussing the state of the markets or buying and selling and renovating property. Investment in unit trusts is probably not appropriate for these people.

READY CASHABILITY The benefit of ready cashability of your investment cannot be overestimated. One never knows when some unexpected circumstance will arise and money will be needed in a hurry. Generally a unit trust investment can be converted back to cash within seven days at most and often sooner.

UNIQUE OPPORTUNITIES The sum of a lot of small investors’ savings can be enormous and provide each investor with the opportunity to be a part owner of a multi-million rand development that would be out of reach of any of them individually. The major shopping centres and prestige inner city buildings owned by property trusts are examples.

LEGAL PROTECTION Public unit trusts have to have their prospectuses scrutinised by the Registrar of Financial Institutions and investors’ money is under the control of the Unit Trust Control Act. This helps to minimise the chances of loss.

During this time the property trust index rose at an annual average rate of 16,8% compared with the average inflation rate of 14,8% over the same period.

Although the average return was less than the return of other sectors on the JSE, property trusts are considered far less risky as price movements are much smaller and far less volatile. During the whole Great Crash of ‘87 the property sector recorded a much smaller drop than most other sectors and recovered far quicker. This was due to the fact that the income-stream of the property trusts were determined well into the future.

Property trusts are very similar in nature to equity trusts. The only difference is that investments are made in prime commercial, industrial, retail and residential properties. A great number of large commercial buildings in the larger cities are owned and managed by the 14 authorised property trusts.

Despite possible problems regarding valuations and a rather pedestrian income growth compared with other investments in the JSE, good property trusts have all the unique benefits of property in general and investors have these extra benefits which they do not get if buying property directly:

• The opportunity to take part with as little as $50.
• The ability to cash whole or part of their investment almost immediately. Provided there are buyers for your units, you will be paid out almost immediately by the stockbroker who sold your trusts.
• No problems with management such as vacancies, tenant worries or repairs.
• No direct liability for rates and taxes.
• No complicated record
• The prices of property trusts are published daily, making it easy to follow your investment.
• Professional management expertise.
• The ability to take part in multi-million rand commercial, retail and industrial property investments such as shopping centres and city skyscrapers.
• The chance to spread investments over different property types and locations to minimise risk.

Remember that property is a long-term stable investment and is likely to provide predictable conservative gains rather than spectacular highs or lows. Shares will always tend to be volatile but good quality, well-located property with substantial tenants on long leases will continue to provide a reliable income and sound capital growth over the long term.

It is true that the property trust concept can be abused so, when you are considering trusts in which to invest, you need to do a great deal of research to determine which ones will perform best. I believe that this is very difficult for the average person and it is easier to seek out expert advice. Good investment advisers and stockbrokers can provide information from their own research departments. However, good performances in the past do not guarantee good performance in the future, and the adviser should be concentrating on the POTENTIAL of a particular trust and not its past history. This is the real test of good advice.

Ask the following questions:

• What type of property is the trust buying?
• In what geographic area is the trust going to invest? Is the trust going to be borrowing? If so, how much?
• What is the growth pattern in the location of the properties? What track record do the managers have?
• How substantial are the tenants?
• How long are the leases?

An important feature of property trusts is that it pays no income tax on its income. Apart from management fees and other expenses all income is passed on to unit holders. This results in property trusts having a far higher income distribution than other shares or units on the Johannesburg Stock Exchange. Property trusts outperformed the overall market on average dividend yield, yielding an average of 8,6% compared with 5,6% for the JSE overall market.

For investors in lower income-tax brackets this is an important consideration, as the dividend yield will be taxed very favourably, thereby increasing the overall attractiveness of property trusts.

Costs of Buying and Selling Shares

When you buy and sell most investments there are fees involved and shares are no exception. Stockbrokers may offer discounts for large transactions but generally there is a fee (called brokerage) of 1,2% of the purchase value to be paid when shares are bought. When selling there is also a brokerage fee of 1,2% of the selling price which is deducted from the proceeds.

Government tax, called market securities tax (MST), at the rate of 1,5% is also payable when shares are purchased. No MST is payable when shares are sold.

What Type of Shares?

There are various types of shares but they normally fall into the categories of “speculative” and “non-speculative”. Speculative shares are ones in which you may lose the bulk of your money or make a large profit. These type of shares are often in mining companies which are outlaying large sums of money looking for substances such as gold and platinum. They may sell for as little as a few cents each, so that you could double your money with a rise in price as small as from two cents to four cents.

The market lives on rumours and there is no shortage of people to give you “sure winners”. It is common to meet somebody who has a friend who is a friend of a geologist who has just heard that the Ace Mining Company is about to strike a major gold reef. There is nothing wrong with having a flutter on this sort of information if you understand that it is pure speculation and you are likely to lose your money. This sort of “inside knowledge” is about as reliable as racing tips.

The stock market consists of large established companies such as Barlows, Gencor, Anglo American and De Beers, smaller but strong companies like Plate Glass, and aggressive expanding corporations such as the FSI Group. There are also “high technology”‘ shares in companies like Altech where investors who have picked the right company have made huge profits.

1. You want to make money quickly by capital gain.

If this is your goal remember the old saying “The higher the return the greater the risk”. Nobody knows what the price of a share will be tomorrow so, if you are going after quick profits you could be disappointed. On the other hand you might do very well.

2. You need secure income.

Many shares have paid out dividends year after year and can provide a steady income stream. The problem is that the price of the shares may be so high that the dividend yield is inadequate for your needs.

Long-term investors in good quality shares — called blue chips on the stock exchange have generally seen returns on average of 28% per annum over the last 10 years. This is double the average inflation rate of 14% over the same period.

3. You want to make your money grow faster than inflation over the long term.

A sound, expanding company should provide you with a secure growing investment over the long haul. However, in all investments, timing is critical. Investors who bought shares at the peak of a boom may have to wait a long time for any capital gain. When a boom is on everybody starts buying shares and they reach unrealistic prices — that is the time when the wise investors sell.

It is important to remember that the price of a share is made up of the expectations of the thousands of investors who comprise the market place. Prices can rise and fall on rumours about a particular company or on world news in general. For example international terrorism could cause travellers to holiday in their home country and push up the share price of companies involved in local travel. The share market has long cycles of “highs” and “lows” and prices in general will move in line with these trends even though the companies themselves may be doing better or worse than the overall trend shows.

Direct involvement does have some drawbacks. Few people have the time and knowledge to become very involved with the stock market, nor do they have sufficient funds to buy a number of shares for diversification and to minimise risk. The ordinary investor can become emotionally attached to a share and neglect to sell it when the time is right.

By investing in unit trusts an investor can be a part owner of a multi-million rand share portfolio, managed by experts using the latest computer analysis techniques. These managers are experts in their field and have a better chance of picking the right shares than the average investor. Of course the vast spread of shares means that you are unlikely to see the spectacular profits and losses that you may experience doing it on your own.

For those who do not want the problems of storage or management, unit trusts or gold shares can offer another way to have an interest. Unit trusts will endeavour to make profits both on trading gold shares and (hopefully) by capital gain. Obviously this is a speculative investment but free of worry for those who want a bit of gamble without doing too much work themselves.

Prices of gold shares will rise and fall in line with the prices of the metal, but you have the extra excitement of the possibility of your company making a big strike if they are prospecting. Some companies involved in gold have other activities which may produce some income on your investment.

Investing in gold shares can be very profitable if the gold price is rising, as it did during 1979 and the beginning of 1980, for instance, but investors must be prepared for the extreme volatility which accompanies the gold price and gold share investment.

The gold price is traded internationally but the central markets for gold still remain London and Zurich, where South Africa sells most of its gold. (It has often been said that South Africans are a bunch of gold junkies waiting for their next fix — obviously referring to the twice-daily fixes of the gold price in London.)

Despite the emergence of countries like the United States of America, Canada and Australia as major gold producers during the last decade, South Africa still produces roughly 50% of the total free-world production. The other main producer is the USSR but not much is known about its annual production.

The price of gold is extremely important to the South African economy and, in spite of important diversification with regards toe export markets, gold revenue still amounts to about 28% of South Africa’s total foreign exchange earnings per annum, down from about 40% at the beginning of 1980.

A rising gold price boosts economic activity in almost all other sectors of the economy and ultimately affects every individual in the country by means of lower interest rates and a rising national wealth.

During the 1980s the gold price recorded periods of extreme volatility, rising or falling by $100 per ounce within days. For investors in gold shares this could either be a time of rejoicing or of gnashing of the teeth as gold shares on average tend to behave in a similar manner.

The dollar gold price is not the only factor affecting the profitability of South African gold mines. South African gold producers are paid for their gold in rands by the Reserve Bank. As a result of this the dollar exchange rate of the rand is also very important when it comes to making investment decisions. It can happen that a declining dollar gold price can actually be accompanied by a rising rand price per ounce if the rand is depreciating faster than the decline in the dollar price of gold. Conversely, if the rand is strengthening at a faster rate than the dollar price of gold is rising, it could actually depress the price of gold shares as the rand price for gold is dropping.

These, and other factors, make investing in gold shares a very risky and specialised field. Gold shares are definitely not for the faint-hearted. Even the soundest gold mine can suddenly be devastated by an underground fire, explosion or flooding which can severely affect your investment. Particularly in the case of smaller gold mines, these type of risks are very real and it certainly would be very foolish to invest all your money in one small gold mine.

Larger gold mines, of which South Africa has several, would be a better investment as these mines are so big that a fire or explosion in one section of the mine can be counteracted by mining in another area.

Apart from the obvious risks mentioned above other factors to be considered when investing in gold shares include the projected life of the mine, i.e. whether the mine still has many years of production left over, the quality of its ore reserves and, of course, the grades of gold available in those reserves.

A particularly important factor to consider when investing in gold shares is the so-called gearing, or leverage factor. Gearing in this sense applies to the ratio of profitability of gold mines in relation to the gold price. For example: Gold mine A is a large, low-cost producer which is profitable at an average gold price of R700 per ounce. Gold mine B is a high-risk, high-cost producer which is profitable at an average gold price of R900 per ounce. Any rise in the rand gold price from R 1 000 to R1100 would have a powerful profit-generating effect on Gold mine B while in the case of Gold mine A the increase in profitability will be less startling. Gold mine B’s profit will increase by 100% while Gold mine A’s profits will only increase by 50%. This is one of the major reasons why all gold shares do not behave in the same manner.

Perhaps the best way for the average investor who does not have a specialised knowledge of the gold share market to participate in this market would be to invest in one of the many specialised unit trusts, e.g. Old Mutual Mining Fund or Standard Gold Unit Trust Fund, which invest either wholly or partly in gold shares. These unit trusts spread their risks over several high-quality gold mine producers and mining houses. It affords the smaller investor the opportunity to obtain indirect shareholdings in some of the giant gold producers which otherwise would not have been possible.

At the beginning of November 1989 you would have paid over R40 000 for just 100 Vaal Reef shares. Not many individuals can afford this, but by investing in a gold-based specialised unit trust, they can get their share.

Physical Possession

Gold in South Africa can be obtained by purchasing coins or jewellery. South Africans are prohibited by law from owning gold bullion so the most popular form of owning gold is Krugerrands and to a lesser extent other types of gold coins and medallions.

However, Krugerrands retail at a price which is more than their gold content is worth, so you are paying extra for the advantage of owning some gold. Krugerrands are freely traded in South Africa and can be bought and sold almost immediately at the Johannesburg Stock Exchange, or through banks and coin dealers.

The difference between the spot price of gold and Krugerrands — called the premium — is determined by supply and demand. At times the premium on the price of Krugerrands was as high as 35% in politically troubled times as these coins were regarded as a moveable asset.

For a person who wants the benefit of a gold investment, coupled with an object of beauty, a Krugerrand mounted in gold and attached to a gold chain can make a beautiful necklace. I suggest this may be one of the best ways to have an interest in gold for those who like beautiful things.

However, it would be disastrous for an investor to fit a proof Krugerrand — Krugerrands of exceptional beauty and rarity — into such a locket or chain as it would damage the coin at the edges thereby reducing its value.

Silver is normally bought in the form of bars, jewellery or silverware, but there are only a few silver coins available. As silver is worth much less than gold, it is bulkier and requires much greater storage space. A good feature is that silver can be held in bars of lesser value. The extra flexibility of the smaller amounts could be very useful in troubled times.

The special benefits of gold and silver are portability and complete anonymity. You can buy and sell for cash, the price is fixed worldwide and no identification is needed for buyers and sellers. This gives a unique value to these commodities and, despite the fact that they are out of fashion at the moment, we may well see a resurgence of popularity if the world economic climate starts to go bad.

to be continued