Where can I invest R500k for five years?
Well done for considering putting your money into a better investment option than a money market fund that is likely to generate a negative real return (net inflation return) after tax.
It is important to note that every investor should have a financial plan that takes into account their overall financial context, their goals and objectives, and how they will ultimately achieve those goals and objectives. A financial plan can be half a page or 20 pages long with carefully considered cash flow planning, tax considerations, and various scenarios that can unfold over time. I encourage you to start a financial plan with the help of a freelance holistic financial planner.
Although a Tax Free Savings Account is limited to an annual contribution of Rand 36,000, it is a fantastic investment vehicle that should be used every year. It offers the flexibility to invest in any asset class both locally and abroad.
Considering the fact that you have three rental properties, it is important to have an emergency fund if you need to pay for unscheduled maintenance of the properties or cover deposit refunds in the event of a rental vacancy. Your endowment policy serves as an emergency fund.
Bonds / investment properties
The dilemma of whether one should repay one’s bond (s) or contribute capital to an investment depends on several factors such as interest rates and the value of the bond (s). South Africa finds itself in a low interest rate environment, which allows you to consider investing capital rather than paying down your bond (s).
The graph below shows how low the South African interest rate is compared to what it was in the past.
Offshore investment vs local investment
You might think that you have three substantial future assets in the form of investment property as well as your primary residence, which are valued in Rand and will receive rental income in Rand. It could be argued that these assets are also sensitive to South African risk factors. So it stands to reason that you may want to consider investing the R500,000 directly overseas in order to improve diversification and risk mitigation of your overall investment portfolio.
There are many perspectives on what should be the optimal offshore exposure for a South African investor. The answer can of course be different from one individual to another. The efficient frontier graph shown below suggests that, based on data since 1950, a 30% offshore exposure can help reduce long-term risk while increasing long-term return.
Compared to the 30% foreign exposure mark, the purple dot shows that additional offshore exposure can continue to reduce risk and increase the return of a portfolio. The blue dot shows the point at which even more offshore exposure can generate the same risk with a return above the 30% exposure mark.
A Ninety One article by Paul Hutchinson titled “How to invest overseas” addresses the conundrum of regulation 28. The graph below suggests that an investor looking for a high return over an investment horizon of three years needs a higher exposure to offshore assets. It is no different from the efficient frontier graph.
According to Hutchinson: “Therefore, a high-equity multi-asset fund that complies with Regulation 28, or another domestic fund limited to 30% offshore exposure, may not be the most effective solution. In fact, an unconstrained investment mandate improves the return characteristics of a multi-asset (balanced) portfolio at slightly higher risk.
The downside of increasing offshore exposure beyond the 30% mark is that it can add up to increased volatility due to fluctuations in the rand. This can be a problem for investors who have a more conservative risk profile and need a high level of income in local currency.
In conclusion, you may want to consider investing money overseas as a measure of diversification and risk mitigation. Depending on your risk tolerance, you might consider a foreign multi-asset mutual fund portfolio through which you could gain exposure to stocks, bonds / credit, real estate and commodities, the fund manager making the appropriate asset class allocation calls.