Investing

The Future of Personal Finance: Navigating the Evolving Financial Landscape In the rapidly changing world of personal finance, individuals must […]

Sanlam recently published an article about currency performance and it might be of value to have a look at the results. Very few countries on earth, if any, exist in an economic bubble. For as long as we can remember, there has been trade between different regions and this will go on forever. Trade usually happens because you don’t have some specific product in your own region, or you can get something cheaper from another region than by producing it yourself. If we take South Africa as an example, we don’t have sufficient oil and depend on other oil-rich countries to supply us with what we need. We, on the other hand, have a lot of gold, platinum, iron ore and the like, which some other countries have a shortage of.

So why is the currency of one country worth more than another, and why is there a constant change in the exchange rate between different currencies? There are a few things that will determine the value of your currency and one of them is the strength and predictability of your economy. A currency is just a piece of paper issued by a country with a promise to honour a certain value attached to it at any given time. If you don’t trust a government to honour such a promise, you don’t accept their currency, or you demand some other form of insurance. South Africa has a very small economy with a volatile political history, so almost no other country will accept the rand as method of payment. The US$ on the other hand is the complete opposite.

A currency will strengthen or weaken against another due to a change in the level of trust between the countries, as well as the purchasing power of a currency. Inflation plays a big role in the purchasing power of a currency and we can use the following example: If you sell an SA apple worth R1 to the US for $1in year one for $1, you have established a 1/1 exchange rate between the rand and the dollar. If in year two workers demand a 6% increase in wages, the apple will cost you R1.06. If the buyer can get the same apple somewhere else for $1, you will get only $1 for something that cost you R1.06. The buyer is not prepared to pay for your inefficiencies.

If we look at the following spreadsheet, we can see the movement in currencies of different countries against the US$.

Over a five- and ten-year period, only the Swiss franc managed to strengthen against the US$ annually. The rand has weakened by 4.6% annually against the dollar over the last ten years. If we translate that into an investment, you will see that if you bought R100 000 worth of dollars ten years ago, you would now be able to sell the investment for R156 790. It is interesting to note that the average annual inflation rate in South Africa over the last ten years was 4.9%, which is basically the same as the rate of depreciation of the rand.

It is very important for investors to develop the right investment mentality. Some people will always tend to be too aggressive and take unnecessary chances. They have no patience and try to get rich quickly. We could say that this group of investors eat their porridge while it is too hot and get burned. Then we get the investors who never invest because they see a crash around every corner. This type of investor will always remain a spectator and will eventually have to eat their porridge cold, chilled by inflation. Lastly we get the porridge-just-right investor. This investor understands that investing is a battlefield where losing a battle is not important, as long as you win the war.

To win the war in the investment world you have to develop the right strategy and temperament. There are a few things you have to get right and here are three of them:

• Patience: You have to understand that investing is something you do over a lifetime. If you start investing early in life, you don’t have to be clever or lucky. Investing small amounts in a broad range of international companies will be enough to get you where you want to be, owing to the forces of time and compounding returns.
• Manage your fear and greed impulse: The later in life you start investing, the more you will have to rely on skill and luck to get you where you have to be. You will feel the urgency to share in the good times and avoid the bad times and that will increase your chances of emotional investing, with the potential of making big mistakes. For most investors, managing their emotions is the most difficult part of investing and that is where a professional money manager can save you from yourself.
• Match your investment to your cash flow: Understand that equities and cash are both risky, but just over different time periods. Due to the unpredictable nature of equities, they are risky to invest in over short periods of time but essential over longer periods. Due to the predictability of cash, it offers low risk over the shorter time periods but the lower returns will be eroded by costs, taxes and inflation over longer periods. If you always have enough cash available to prevent you from selling equities when equities are down, you will never have to incur a loss on your investments.

As you can see from the points above, very little skill is required. You can go a long way by just doing the basics right, without having to chop and change your portfolio over time. There is, however, one additional fundamental skill you have to learn due to the recent explosion in the availability of information. You have to learn how to cut out the noise. The media loves to make everything as dramatic as possible, resulting in impulsive behaviour that can impact your investments over the shorter term. Equities, especially, gets impacted a lot by news over the shorter term, and that is why you always have to ask yourself one basic question, “Will my equity holdings be worth more or less in seven years’ time if (whatever negative news you hear) comes to pass?” If the news will be immaterial seven years from now, you can ignore it, but if it will cause a fundamental long-term change, you have to do something.

There is something deep within us that wants to stay busy. We want to do something, even if that something doesn’t add any value. Often you will hear people say that they are just too busy to take anything else on. When you ask them what is keeping them so busy, however, it turns out that they are just extremely inefficient at doing whatever they are doing. This doesn’t mean that they will be less busy if you can teach them how to be more efficient, it only means that they will be able to do twice as many things in the same amount of time.

In the work environment, efficient people are the ones at the top of the food chain when it comes to being in demand. How fantastic is the feeling you get when you have to get something done and after dreading the potential struggle, the matter is sorted out in next to no time by a super-efficient person. Although there are some personality traits mixed into being efficient or not, a lot of it must be learned. To be efficient you have to be able to prioritize, delegate, focus and never procrastinate.

Investments can also be efficient or not. Cash is inherently inefficient. Cash will never try to find better ways to increase your returns. It will always be happy to stay on the couch and not run the risk of being run over by a car if it should venture outside, seeking new opportunities.

Equities, on the other hand, is a very efficient asset class. When investing in equities, you basically invest in companies. Companies live in a world where the pace is frantic. There is always a competitor trying to steal your lunch; or a technology making your business redundant; or even a politician forcing some crazy policy down your throat. But all of these potential hazards make the good companies rise to the top and cement a high level of efficiency into their DNA.

Look at it this way: if there is a stream starting high up in the mountain, you will always be able to have a drink in the rainy season, but in the dry season you might have to work harder to find some water. If you do some work and build a dam wall, you will ensure that you will always have some water to drink and that any excess in times of plenty doesn’t just run wastefully into the ocean. It makes sense to work hard, make some money and then work smart and let the money work for you!

A long, long time ago there was a gameshow called “Money or the box”. In this gameshow, contestants had to choose between taking a known amount of money, or choosing a sealed box in which there was a mystery prize of potential great value, or not. Some chose the money and when the box was opened, it showed that they could have won a car or some other high-value item. Other contestants with a higher tolerance for risk chose the box, but when the box was opened they got nothing, losing the guaranteed cash they could have won.

The question here is: what would you do under the same circumstances? We can take an extreme example and do this exercise with Bitcoin. If somebody offered you one Bitcoin today (currently worth $100 000) or $100 000 cash, what would you choose? Take note that analysts think that Bitcoin will range between $150 000 and $300 000 in 2025.

If we apply this train of thought to something closer to your current situation, we can take the returns you have earned on the S&P500 over the last two years. In 2023 the S&P500 returned 26% and for 2024 we stand at 30%. If we do the math, you will notice that your compounded return over two years has been close to 64%. This is exceptional. So now you have to decide weather you want to cash in at year-end, or stay invested hoping for another good year. Most conservative investors will take the cash and most risk takers will stay invested. The question is; what will be the right choice?

The short answer is that we do not know, but if we look at history, the answer may be somewhat surprising. The table below shows that there have been only three previous occasions with two consecutive years of 25%+ returns in the S&P500 since 1928, and in only one of those instances we saw a negative year following the two bumper years.

So if history repeats itself, you should stay invested because your odds are better, but this is not a gameshow and your financial health is on the line so we would consider the following compromise:

• As per our strategic asset allocation planning done for all clients, you will always be advised to have a portion of cash available for shorter term expenses. This would be an ideal time to make sure that that cash portion is topped up if it has been used during the year.
• If you envisage larger ad hoc expenses in the near future, like replacing a motor car or paying for tertiary education, sell some equity and hold the cash for these expenses.
• Get rid of expensive debt like credit cards and consider paying something into your access bond.

We would not advise you to take a binary approach to your longer-term equity investments. Stay invested with longer-term funds as far as possible. Over time, whatever happens in the next year or two, equities will bounce back and provide you with the inflation-beating returns you need to afford your chosen lifestyle. Just look at the longer-term graph of the S&P500, including all the disasters!

For money managers like ourselves, it is very frustrating to see people losing money because they are not heeding our advice. It must be the same for doctors when they see a patient dying of a heart attack after having pleaded with him or her over many years to please change an unhealthy lifestyle.

The opportunity cost of holding on to cash is enormous over time. If we look at the first graph, we can see that on average, you will lose 54% of your potential return if you stay in cash rather than investing it in shares over a five-year period.

If we look at the second graph, it shows us the difference in actual dollars between a cash and equity investment. Over twenty years the equity investment grew to four times the size of a cash investment.

These are stats based on averages. Investing is not a difficult thing to do but we all know what the problem is: procrastination! Here are some excuses for not converting your cash into a proper equity investment:

• I don’t have enough money: Wrong! You only need a few hundred rand per month to start investing into an equity unit trust or retirement fund.
•  It is too risky: Quite the opposite! You are guaranteed to lose money relative to equities over longer periods of time as the graphs above show you.
• It is not the right time, the market is too expensive at the moment: It will never be the right time. If you have a lump sum to invest, at least phase it in over a few months if you are really worried.
• I want to invest overseas but the rand is too weak: Currency is unpredictable. In 90% of the cases, if you get a stronger rand by waiting, you will have to pay more for the share you want to buy overseas.
• I am too young to start: Are you kidding me! Look at the graphs, the miracle of compounding returns will reward you generously for starting at birth.
• I will do it later: No! Just do it now.

The only other sensible thing to do with your excess cash is to pay off your bond. We would be okay with that but would issue the following warning: Don’t get addicted to debt! It is very easy to fall for all the easy credit available from banks and retailers but before you know it you get caught in a debt spiral. It would also be wise to not keep on upgrading your residential property by extending your bond. At some stage you have to either split your savings between bond repayment and equity investment, or be happy with your house the way it is and build your equity portfolio.

On a recent trip to the Goegab Nature Reserve outside Springbok, we were sitting outside around our crackling fire. Through the Namaqualand quiver trees we could see the sun sinking into the horizon while the full moon was rising behind us. Ice clinked in our glasses and the smell of grilling lamb chops filled the air. This was as close to paradise as anyone could imagine and yet the conversation was all about how bad things were.

Why are we like that? If you do even a little research you will find that the world is a better place now than it has been in the past. If you look at the accompanying illustration you will see how things have improved in some key areas of civilization, but you might still not feel happy.

Perhaps it is because there is a big disconnect between happiness and standard of living. It is clear that the average standard of living has improved over the last two centuries but our personal happiness has not necessarily kept up with it. The saying “the more you have, the more you want” springs to mind.

Why is this important? It is important because the knowledge that we have come a long way towards improved living conditions, as well as the notion that our work is worthwhile, forms the basis of our self-respect as individuals and is a necessary condition for improvement. That brings us back to the world of investing and two very important elements thereof, namely consumer and business confidence. If we are not happy with what is happening around us, we tend to become conservative in the way we invest our money. We increase our emergency reserves and businesses decrease their capital expenditure. The irony is that these actions have been proven to result in missing out on better returns and making us even more unhappy.

We often see that people who are very successful, are also very positive by nature. Something they all have is common it that they realized a long time ago that happiness and positivity is a state of mind, whereas the conditions in which you live are a reality; and that the latter should not overshadow the former.

The markets at the moment are at all-time highs. Borrowing a slide from the well-known Morgan Housel we can see this reflected in the S&P500.

If we have legitimate reasons in our personal lives that make us negative, angry and sad, we can only hope and try to sort them out. The world is a better place now than decades ago and our investments are doing well, all of which provide us with a solid foundation for the future.

Can you still remember those times when you did something wrong and your mother said, “Go to your room and wait for your father to come home!”. The worst part was the anticipation. You had no idea what was going to happen and it was impossible to not feel anxious. Sometimes you were lucky and all the worry was for nothing but sometimes you got what you deserved.

Depending on our personalities, we are all impacted by our present situation to some extent. When it comes to investments it is often a blessing to be ignorant of what the future might bring. Those of us who plan ahead and follow the current trends live in a perpetual state of anxiety because we always try to figure out what we need to do now for a positive outcome in the future, but the future is uncertain and there are millions of possible permutations.

If we tell you that the future is so uncertain that there are no financial models that can be run today that will accurately predict where the world economy will be after 2030, will it make you nervous? Or will you just throw up your hands and say, “Who cares!” The reality is that by 2030 machines will have become so intelligent that most of what drives economies today, will be determined by machines then – and we have no idea how that will impact humanity. If you are becoming anxious reading this, don’t. To worry about what might happen is a waste of time. What is not a waste of time, is to think about the future and change your plans as different scenarios unfold.

Just remember how adaptable we’ve always been and still are. In just 260 years we have come from horseback-riding to being astronauts. We have come from drilling for oil to harnessing the sun. We have come from waiting three weeks for a letter to having instant contact with someone anywhere on the globe. If you had not been paying attention as an investor, you might have missed out on superb investment opportunities such as selling your shares in horse saddles and investing in internal combustion engines; or selling your fax machine stocks and buying Apple shares. One of the most important qualities you can have in life is to not worry about things you have no control over, but to act decisively on those things you do have control over.

Things have been happening these past few weeks. In Cape town we have seen heavy rains, wind and snow. An assassin’s bullet grazed Donald Trump’s ear and investors have been selling big tech companies in the USA and buying smaller undervalued companies. To top all of this, Microsoft, banks and airports experienced a massive outage last Friday. The South African Reserve Bank has kept interest rates on hold and it is likely that they will only cut when the USA does so. With all of these things happening around us, it does seem that the core has remained the same. Equities as well as bonds are performing well; the rand is still struggling to get below R18/$; and both gold and Bitcoin have moved up a bit.

People are getting on with their lives and it is good to be in the moment, but as investors we have to always plan for the future. It is very likely that Donald Trump will be the next president of the USA. This will have an impact on all our investments and we can already see people rotating their positions in anticipation. “Make America Great Again” is still his campaign slogan so we don’t have to wonder who will benefit from his presidency. What we do have to wonder about, is whether the markets will react the same as last time, or whether the changes that have taken place since his last term will result in a different, more negative outcome.

If you have been wondering why your offshore equity fund is underperforming the S&P500 index, then consider the following explanation: the S&P500 index represents the 500 largest companies in the USA at any given moment. Currently, three companies are battling it out for the honor of being the largest, with the order changing almost daily depending on their share price. Those companies are Microsoft, Apple and Nvidia. If we add the next two in line, being Amazon and Alphabet (Google), we have five companies that make up almost 30% of the entire index – and therein lies the problem. If the fund you are invested in does not have a very large weighting towards these five stocks, your returns would not have been even close to the performance of the S&P500 index.

But, before you become too upset, please consider the accompanying performance spreadsheet of what we call the “equally weighted S&P index” relative to the usual market cap index.

The equally weighted index is the performance you would see if all the companies were the same size and their share price performance carried the same weight as the bigger companies. It is clear that over the last ten years the bigger companies performed better that the average company in the index and if you were not invested in them, you would have underperformed.

If we analyze this situation we come to the following conclusions:

• If you concentrate your investment into just a handful of stocks, you increase your risk a lot. It is always easy to identify the winners with hindsight.
• There were long periods of time where the smaller companies in the S&P500 did outperform the bigger companies (1974-1979 and 2009-2014).
• The winners over the last two years like Nvidia, Apple and Meta have been very volatile and never cheap. So you never knew when it was a good time to buy them.
• Almost all the offshore equity funds you can invest in are global funds and do not invest just in the USA. The USA has been the best performing market for quite a number of years.

When we invest, we have to consider more than just the maximum return we can generate. We have to consider whether you are at a time in your life when you have to create wealth or preserve the wealth you have created. We have to decide between investment in something with the potential to permanently destroy your capital; or something where any significant loss of capital would be just temporary and the investment would bounce back owing to its quality. We have to consider the fact that the current good performance of an investment might be temporary and not sustainable. At the end of the day it is important for us to know that the funds we invest in will produce consistent longer-term inflation-beating returns; rather than investing in those shooting-star phenomena which burn brightly but fade away rather quickly.

When Warren Buffett went shopping as a young man, he would always take out the dollar he was about to spend and look at it, knowing that he could turn that one dollar into two by the end of the year if he invested it. So by delaying the immediate gratification of a non-essential purchase, he could in reality get it for free. Now we know that there are very few Warren Buffetts around with such investment acumen, but the principle is one of the most important ones for young people to learn. Most of us cannot invest our money and expect to double it every year, and truth be told, we shouldn’t try because that will entail taking some serious risks, but understanding the fact that the power of compounding would make even a modest return turn into something significant if you give it enough time, is priceless.

The catch is that you have to start early in life to get the full benefit of compounding. The other difficulty is that when you are young, especially when you start earning your own money, not spending it on earthly pleasures is very difficult. How can you say no to your friends when they invite you to go to a pub for a few cocktails and then splurge some cash on a good steak dinner? One of the solutions to this problem might be to take the choice of saving versus spending away from the young adult, and to place it in the hands of the parents or grandparents. We all know that presents will be given and support provided by the elders during the year. Perhaps some of the money earmarked for those presents and support payments can be channeled into longer-term investments?

We have recently highlighted the type of returns certain asset classes can provide over time. If we take the past and project it into the future, there is no asset class that will not beat spending money on wasteful items. We don’t have to stop living a good life and treating ourselves to things we value, we only have to look at that rand we are about to spend and think about it for a while.

What would you advise yourself if you had one opportunity to go back 30 years? One thing is for sure, you will be very wealthy today because investing with hindsight is very easy. If we take some examples of what happened over the last 30 years, we see that inflation in South Africa averaged around 8%. That will imply that if you go back 30 years and tell yourself to invest in a 30-year fixed-term deposit at 8% because you didn’t think shares were any good, you would have had an 832% return over the 30 years. That sounds pretty good until you realize that you literally only maintained the purchasing power of your money. To put this into context; something that will cost you R1 million today, cost only R107 000 thirty years ago.

If we look at Gold we see that the price was $817 in 1994 and today it is $2374. This is a 190% return in dollars over the 30 years. If we add to this the depreciation of the rand against the dollar, we get to a 1420% return in rand. Just for interest sake, the rand was at R3.61 to the dollar in 1994. So investing in Gold would have been better than an 8% fixed deposit, but we have to remember that Gold is volatile. It went down to $467 in 2001 and it is only now back at the peak it reached in 2011.

Looking at the S&P500 index, we see an increase of 1092% in dollar. You might say that this is no better than the fixed deposit in South Africa with its 832% return, but you will be forgetting that you have to add the depreciation of the rand back. It is 10 times better than Gold and remember that the average inflation in the USA was only 2.34% which means that over 30 years you only had to double your money to maintain your purchasing power. But, it is also volatile. You had no return in dollars from 2000 till 2013. So if you weren’t patient, you would never have received the returns it offered.

Lastly we can look at the Technology index in the USA. The Nasdaq gained 2243% over the 30 years. It was also a bumpy ride and patience would have been key.

You can argue that there were many other assets to invest in that would have given you a much better return and you would be right. Some people made a fortune in property, and more recently some people made a fortune in crypto and meme stocks, but they all came with a lot of risk. The closer we get to retirement, the bigger the impact on our lives if we should gamble with our savings and fail. If we could go back 30 years, we would all tell ourselves to invest in the Nasdaq and then swop everything and go into Bitcoin in 2009, but what then.

The reality is that we cannot go back, we have to invest today with no certainty as to what will happen tomorrow. What we can learn from the past is that equities will give you inflation-beating returns if you are patient and give them some time to go through the bad patches. It also teaches us that starting early will give us the advantage of compounding returns and that you don’t have to be clever to build a very solid core investment portfolio. The last thing we can take from this is the fact that there will be opportunities to get into something exciting that will boost our overall returns, but because the risk will be greater, those opportunities should rather be taken early in life and not when time is no longer on your side.