Introduction to Unit Trusts

Unit Trusts offer you the ability to invest in a mix of the major asset classes - equities (shares), bonds and short-term money market instruments. When you invest in a unit trust you are effectively lumping in your money with other investors and paying a fund manager to invest it wisely according to a specific mandate.  And each fund manager has his own mandate.

Investors can invest much smaller sums of money in a unit trust and thus achieve a greater level of diversification than is usually practical when buying shares through a broker.

There is a broad choice of funds offering different combinations of capital growth and income across different market sectors. Some funds are now designed specifically to benefit from market timing and sector rotation.

Unit Trusts though, should generally be viewed as medium-to-long term investments, reducing your exposure to short-term volatility and risk and allowing you to take advantage of underlying trends in market sectors.

Many of the attractively named investment products offered in South Africa are based largely on a managed basket of unit trusts. In theory the extra layers of cost you incur are justified by increased returns at decreased risk. However, with your investment returns often measured in a few percentages above inflation, the effect of often insignificant looking percentage-based fees compounded over a few years can have a major impact on your wealth.

Large institutional investments from pension funds and packaged investment products have tended to dominate SA unit trusts, promoting a culture whereby it has often been difficult for the individual investor to access reliable information and transparent service. At Equinox.co.za we believe the times are changing - our up-to-date and comprehensive profiling of unit trusts and 24hr trading system allow the individual investor to successfully manage their own investments and enhance their returns directly through compounded cost savings.

The thirty unit trust Management Companies in South Africa offer over 400 different unit trusts. Each unit trust advertises a specific objective and investment guidelines within which the fund manager may use discretion. Often a market index (such as the JSE All-share Index) will be targeted, which the fund will attempt to track and outperform.

Who should invest in unit trusts?

Anyone who has little or no debt, wants to accumulate wealth in the medium to long term and is prepared to accept a certain level of risk to achieve this.

With the advent of Equinox.co.za, unit trusts are a much more attractive investment than was the case previously. The high initial fees have deterred many investors, causing them to invest directly in shares or through using private portfolio managers (where the effective fees are actually very high). It is also the current practice (which could change) of the Receiver of Revenue to not tax unit trusts on their share trading profits nor to tax individual investors on the profits made from investing in unit trusts. On the other hand, the Receiver is getting increasingly aggressive on taxing individual investors’ share trading profits.

The combination of Equinox.co.za, the current tax advantages, and the inherent advantages of unit trusts may be the catalyst for the next growth phase in unit trusts.

Can a Financial Sense advisor advise on a suitable investment?

Yes.

Many investors and their financial advisors base their decision on which unit trusts to purchase on their recent performance. However, we do things a little differently here. Buying the top performing equity unit trust for example, of the previous quarter has proven to be a poor investment over time (Because the share prices in that unit trust may already be over priced as compared to other shares.)  We base our investment recommendations on the expected future performance of the market as a whole and also which sectors we think will outperform.

Financial Sense tips

Successfully meeting your long-term investment goals should not be a matter of luck! A sensible and well-informed investment approach will always reap long-term rewards. Below are 11 sound pieces of advice that Equinox believes every personal investor should heed.

Take Responsibility for Your Own Wealth

Taking responsibility means that you need to know how much you should save/invest and being pro-active to ensure that your investment portfolio achieves adequate returns to meet your financial security and retirement needs. Discuss this with your financial advisor.  This does not mean that you need to be an expert on every aspect of planning and investing, although being better informed is likely to increase your sense of security. No one cares as much about your financial security as you do. Remember, this is your investment.  You need to be as involved as your advisor is.  There is no sure buy and forget investment.  Being responsible includes deciding on which asset classes you ought to invest in and ensuring that the people entrusted to look after those investments are performing.  If not, switch your investment out to a fund that is, at no additional cost.  By moving your money out of a fund, you essentially inform the fund manager that you've lost confidence in him.  This is good.   Because he must adjust his strategy if he wants to keep his remaining clients.

Now, in order to take responsibility you need information (product information and the performance of your investments) and the means to carry out your investment decisions.

Understand How Much You Need To Save – How much will you need at retirement to live comfortably? Bear in mind that "Save" includes additional amounts used to repay interest bearing debt. Check out the Retirement Calculator on the front page under the user menu to help you assess.

Assess Your Assets and Liabilities – What kind of growth do you expect from your assets? Can you afford very appealing large investments, such as a holiday home, that may yield relatively low returns? And what about that dream car? The monthly repayments you make on an expensive car do not contribute in any way to your future wealth. Perhaps you should rather invest that money - and reward yourself after some years of good returns when you can actually afford the car?

Pay Off Your Interest Bearing Debt First – If your bond rate is 10%, any investment has to go up at least 13% per annum after tax in order to justify not selling the asset to pay off the bond. It is generally not a good idea to have any money market deposits, shares or unit trusts until your interest bearing debt has been repaid. While shares and unit trusts can increase by more than 10% a year, this is not certain. You will be reducing your risk profile and increasing your long term returns (after adjusting for tax and risk) by paying off your debt. It is even more important that any credit card debt or overdraft is paid off owing to the higher rates of interest. As an interim step, consider combining them with your home loan, which carries a lower rate of interest.

Assess Your Retirement Savings – Your pension fund often accounts for a major part of your planned retirement assets and income. Despite its importance, most people know very little about it (who the manager is, the performance of the fund, the fees charged, whether brokers were or are used and what their fees are). With the switch from defined benefit to defined contribution, you have both the right and the responsibility to have a say in the management of your pension assets.

Most people are shocked when they realise how poor their pension fund investment performance has been and how high the various fees are. If you are dissatisfied, investigate the alternatives to your current pension fund.  Remember, you usually get lumped into an investment with other investors with limited fund choices.  And there's usually a committee that gets together ever so often, to decide if they should move money to other funds.  These people often have very little experience.  In fear of making a mistake, they often stay invested in the same fund, which may not be approprieate for the economic climate.  The blind leading the blind I'm afraid.  So a pension fund can often be costly, in so many ways.

Financial Advisors – It is a good idea to use a financial advisor to personally assess your financial needs and guide you towards appropriate investments.

Favour Growth Assets – Many financial journalists and financial advisors advocate that retirees (and those approaching retirement) should not take any financial risk, i.e. they should put all their money in the money market and not invest in shares. Given that an increasing number of retirees will live another 30 years, some believe that this advice is no longer appropriate. If you are then using all the interest to live off, this interest will steadily decline in what it can buy over time. It is essential that at least some of your assets grow in order to keep up with the effects of inflation.

Certainly equities have performed relatively poorly over periods of time. Equities are certainly higher risk and periods of under performance should be expected. However, over periods of five and ten years, equities have generally outperformed all other asset classes. This implies that under performance increases the chances that the market will do relatively well in the following periods.

Investment Decisions - Many people would like to stay involved and informed but do not want to do the actual share picking. Unit trusts are the natural starting point for such people. They can then either make their own decision on which unit trusts to invest in or use a wrap fund (in which case the wrap fund manager will decide which unit trusts to invest in).

Tax Planning - Tax can have a significant effect on investment returns over time. Interest is taxable as is trading in shares. In order to avoid paying tax on share profits requires holding the shares for long periods, typically five years or more. In these volatile times, five years can be a very long time in the life of a share. It is the current practice of the Receiver of Revenue to not tax the equity component of equity unit trusts. Until this changes (it may never change), unit trusts are a very tax effective investment mechanism.

The Effects of Fees and their purpose - Fees are usually charged both when you make an investment as well as an ongoing annual fee. The annual fee is there, to make sure that your advisor is sitting down with you once a year, to make sure that your investment portfolio is being monitored and tweaked when neccessary.  For instance an investment fund change may be appropriate, because the current one isn't performing as well as it should have been.  In that case, you need to switch funds to one that is.  Your financial advisor will suggest this.   So it's about your financial advisor remaining up to date on the markets and funds, so that you don't have too.   It's about him making fund recommendations in order to keep you from losing money, or to put you in a place where you're making more money.  This kind of service can make or break your investment over it's lifetime.   So the tiny service fee involved, usually 0.57% a year, paid to your advisor, to keep your portfolio up to date and positioned correctly, can make the world of difference.   You pay him, to educate himself, so that you don't have too.   Now, if there's no annual service fee, what kind of motivation is there for him to keep your portfolio on track and making more money?   There isn't.  Don't be too obsessive about costs.  There's a good reason for it.   The fees are there to make sure that your advisor performs and delivers a service vital to your success.   Without that fee, it's a buy and forget investment - And that can be dangerous.   So if your portfolio isn't performing and you're paying a fee to your advisor and he's non responsive - Say to him, "You're fired!"  And go get another advisor.

If you'd like to discuss this further, please contact me on the details at the bottom of the page.