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Equities gallop ahead in race for high returns
Your choice of investment can dramatically affect your financial wellbeing, writes LEIGH ROBERTS
WHERE'S the best place to invest your savings: in shares, property, fixed deposits, or should you top up your bond? Fleming Martin's latest investment comparisons research report shows that equities remain streets ahead in the long-term performance race. Had you invested R1 000 each year since 1960 in the stock market - that's 37 years - you would have a golden nest egg of R3.9-million today (assuming dividends were re-invested). On the other hand, had you invested the money in bank one-year fixed deposits, your nest egg would be worth a paltry R441 000. The accompanying graph shows the performance of different types of investments over the shorter 20-year period from 1977. First consider the before-tax columns. In this race, equities' power surge is clear - the average total return is nearly 27% a year (this is the growth in the JSE's all-share index with the dividend yield re-invested). Second across the finishing line is an investment in property trusts (funds which hold a diversified property portfolio) with an average annual return of 17%. An investment in your mortgage bond would have come a close third at 16.2%. (that is, you put an extra R1 000 into your bond each year to reduce your debt and, in the process, slash the interest charged). An investment in Krugerrands would have finished fourth in the pre-tax race, followed by participation bonds (a secure interest-bearing investment) and gilts (government stocks with a 20-year term). An investment in one-year fixed deposits would have trailed the field. Now consider the after-tax returns reflected in the table. It's quite a different line-up, and highlights the enormous threat income tax poses to investors. Equities still cross the finishing line first, with 25.4%, because they hold the privileged position of (usually) being tax-free investments. Dividend income is not taxed and the profit you make when you sell your shares also escapes tax, provided the shares are held for more than five years (as a general rule). On the other hand, investments which give interest income to their investors are hit hard by high tax rates, and this depresses their after-tax investment returns. In the after-tax race, second place goes to investing in your own mortgage bond. Property trusts are third, followed by Krugerrands, participation bonds, gilts and fixed deposits. Investing in your own mortgage bond is regarded as a tax-free investment. The rationale is that in so doing you avoid receiving interest income, and this saves you the tax you would have paid had you invested that money in an interest-bearing asset. The table highlights another threat to investors: inflation. The average annual rate over the 20-year period is 13%. Disturbingly, only two investments stayed ahead of inflation in their after-tax returns - equities and an investment in your bond. The third threat is risk - indicated in the table as the standard deviation of returns (the volatility in the performance returns over the period). Krugerrands, shadowed closely by equities, carry the highest risk, followed by property trusts and gilts. The low-risk investments are fixed deposits, participation bonds and topping up your own bond. Risk is of real significance because if you're invested in, say, equities, and are forced to sell in a hurry it could cost you dearly if the stock market is in one of its downward cycles. The golden rule of investing is that if an asset carries a high risk, then the investor needs to be compensated with a high return. Equities bear this out with a high risk and a high return, but the investor in Krugerrands carries the highest risk and all for a poor return! Equities are high-risk investments but this can be diminished to an acceptable level if they are seen as a long-term hold. Winston Floquet, the author of the Fleming Martin report, says: "As the investment period lengthens, the variation in returns is significantly narrowed. Beyond the 10-year horizon, the risk is reduced to modest, and I believe, wholly acceptable levels." So should you be investing all your long-term savings into equities? The answer is no. The reason being the other golden rule of investing - diversify your assets. How you spread your assets between equities, your bond and property trusts, depends on factors like your age and your risk tolerance level. But as Floquet concludes, there's compelling logic for equities to comprise a substantial portion of your long-term investments.
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