June 26, 2010
 By Bruce Cameron
One of the most important judgments you must make on any investment is the risk of the investment relative to the returns you want. Generally, as is oft repeated, the greater the return you require, the greater the risk that you could lose part or all of your money.
No matter how often this simple truth is repeated, people still fall for get-rich-quick schemes, many of which are simply fraudulent or based on exaggerated claims, including very questionable guarantees on returns.
The flip side, however, is that if you do not take some investment risk, you will not receive a real return (a return above inflation and after tax). If you invest in a product that gives you a return equal to inflation, you will be standing still after any tax has been deducted.
And if you have invested for a fixed income, there will be a negative impact even with low, single-digit inflation of, say, 4.5 percent a year. The buying power of a fixed income in an inflation environment of 4.5 percent will decline by 25 percent every six years.
The main objective of any investment is to preserve your capital against investment risk and inflation risk. You need to guard against both these broad categories of risk. Inflation will undermine your capital in the long term as surely as any high-risk investment.
Then there are additional problems: high-return investments are not necessarily risky and lower-return investments are not necessarily low risk.
For example, it would have cost you R4.80 to buy an Old Mutual share on March 9 last year. You could have sold the share for R14.01 a year later. Apart from the wisdom of hindsight, purchasing the Old Mutual share for R4.80 could never, under any circumstances, have been seen as high risk. The only actual risk was a financial markets Armageddon. But the returns were better than most scamsters would have offered you on one of their confidence tricks.
Likewise, lower returns do not always mean there is less risk. In fact, some property syndication companies will offer returns that are only a few percentage points higher than what you can obtain from a bank account - and try to imply this means no or low risk.
History shows that property syndication schemes can be extremely high risk, particularly as most can survive and meet the promised expectations only if there are solid, non-stop increases in property prices.
The best way to assess the risk of an investment is to compare it with investment instruments that provide a virtually risk-free return - both inflation risk and loss-of-capital risk.
Best benchmark
To my mind, the best base instrument you can use to assess risk is the RSA Retail Bond. These bonds are available in two forms: fixed-rate bonds and inflation-linked bonds. The current rates on RSA Retail Bonds are:
Fixed-rate bonds. For a fixed two-year term, the rate is 8.5 percent; for three years, it is 8.75 percent; and for five years, it is nine percent. The rates are adjusted once a month for new investments. The rate that prevails when you invest is what you receive for the full term.
Inflation-linked bonds. The rate of inflation is adjusted every six months and a return on top of inflation is added. For a three-year term, the rate is inflation plus 2.25 percent; for five years, it is inflation plus 2.5 percent; and for 10 years, it is inflation plus three percent.
Regular interest withdrawals are allowed for people who want a monthly income.
The inflation rate year-on-year to April was 4.8 percent. To me, any return of three percent-plus above inflation is pretty good.
It is not that RSA bonds are entirely without risk. There are various risks to your returns. For example, inflation may rise, reducing the real (after-inflation) return on the fixed-rate bonds, or interest rates may rise, reducing your potential upside if you are locked into a lower rate. But you may also gain if inflation or interest rates fall.
But even here, the National Treasury gives you some leeway. After 12 months, you can reset your interest rates on a fixed-rate bond. However, this means that you will have to extend the maturity date. For example, you invested for two years at a rate of six percent. A year later, the rate rises to seven percent. You have the choice of leaving your rate as it is, because you need your money in 12 months, or resetting your rate to seven percent and starting the two-year investment cycle again.
Longer-term cash investments normally pay a better rate, because such investments expose you to the risk of movements in the inflation rate and interest rates over the long term. Conversely, money market investments will pay a lower rate, because you can access your money within 24 hours.
Your capital is absolutely secure with RSA Retail Bonds, because they carry a guarantee from the government. If the government cannot meet its guarantee, it is likely that you will be in trouble with almost any other local investment.
There is a significant advantage for people, such as pensioners, who use fixed-rate RSA Retail Bonds, particularly over the five-year period, for a monthly income. They can keep resetting their investments at the higher rate of interest that may prevail every 12 months and locking into that rate for five years.
Long-term options
However, over longer periods, you are likely to earn a better return from property and the stock market than from retail bonds, particularly if you are looking for capital growth rather than income. On the other hand, if you are looking for low-risk regular and sustainable income, the volatility of stock and property markets is a threat to your capital, particularly if you are not investment savvy.
Incidentally, in saying that you should consider property if you want capital growth over the longer term is not to suggest that you should regard property syndications as an option. A trail of failures and the loss of investors' capital shows that property syndications have exceptionally high risk and should be treated with great caution, particularly by pensioners who cannot afford to lose their capital.
There are far safer ways to invest in property, such as collective investment schemes (unit trusts and the Proptrax exchange traded fund) or shares in JSE-listed property companies.
Property syndication investments are in highly under-regulated unlisted shares.
For people who are seeking an income from property without the hassle of actually owning a property, the better option to property syndications is participation mortgage bonds, which are regulated by the Financial Services Board in terms of the Collective Investment Schemes Control Act.
If you want more information about RSA Retail Bonds or if you want to invest in them, go to your local post office or Pick n Pay, visit www.rsaretailbonds.gov.za or phone 012 315 5888.
Cameron is the author of Retire Right (published by Zebra Press), available at book stores.
NO CGT ON RETAIL BONDS
You are not liable for capital gains tax (CGT) on your investments in either fixed-rate or inflation-linked RSA Retail Bonds, because you earn only interest on these investments, the National Treasury has confirmed.
Confusion sometimes arises for investors over whether or not they are liable for CGT because of the terminology used in relation to inflation-linked retail bonds. Your original investment is referred to as your "capital" and this is adjusted every six months in line with changes to the consumer price index. The treasury has confirmed that this increase is not considered a capital gain but a payment of interest. In addition, you earn interest, at the prevailing rate, on the adjusted capital amount.
For the 2009/10 tax year, you will pay tax once the told interest from all your investments exceeds R21 000 a year if you are under 65 years of age or R30 000 if you are 65 years or older.
  
 
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