NFB FINANCIAL UPDATE Issue 76 October 2014
FROM THE CEO’s DESK S ince we last chatted we have seen global equities move broadly forward, in some cases testing new highs. Where these markets go next is anyone's guess, and trying to call them is simply a waste of time. Part of NFB's mantra is that we are old, experienced and humble enough not to try to forecast. This, we believe, is an important part of the provision of great advice, and will most likely deliver sustainable real returns to our investors. We are all pretty fickle as humans. Eager to gain, but twice as averse to loss, we travel in a universe so oversupplied with information and noise, I am surprised that we find time to reflect and make savvy decisions. I don't know about how you feel, but I sometimes feel quite intimidated by the simple volume of “stuff”, printed and electronic, poked at me from the markets, partners, family members, friends and the like! My boys regularly chastise me for not responding to the latest “tweet” or Facebook chirp, not realizing that I cannot seem to remember the appropriate password, never mind
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Mike Estment CFP professional BA / CEO - NFB Financial Services Group
financial services group
each one's unique protocol. Then there is the critical aspect of time as well as relaxation. Trying to outfox the rest all the time is futile. There is, or will be, someone more informed, luckier, and perhaps just dumb enough, to put all their eggs in the same basket, which is with more than a little serendipity, timed to perfection. We will hear from these types about their good fortune too! Funny thing, but I always seem to meet winners at casinos. Where on earth do the losers go? I think part of Sol's amazing psychology is a back door through which all of these poor folk are ushered. My experience on walking in to one of these establishments has always been to the sound of coins dropping, bells ringing, corks popping and lights flashing. Perhaps like cigarette advertising, things should change where the consumer should see their credit card balances live on screen, and a clear percentage probability of losing their bread money. However, I digress, so lets get back to our reality. The JSE (or a short list of some extraordinary companies on the JSE) continues to test remarkable levels. This, however, is beginning to display quite some volatility. Together with this, we get regular explanations from pundits referencing Ukraine/Russia tension, the Middle East or some hawkish sentiment expressed in the USA. The very next day or week, the tension has abated, some shocking employment numbers are published, and the march to new highs resumes. As noted previously this is not a call by NFB to disinvest. It is, however, a further reminder that markets, securities, currency views and the like are destined to change trend, sometimes remarkably quickly and the markets do not offer an obviously inexpensive entry point right now. We also note an increasing trend of new listings and IPO's as they are called. These typically occur in the advanced stages of bull markets. As always, we suggest regular growth investments should continue unabated. Large new investments might benefit by smart deployment using a phasing in approach. The most key determinant of potential disinvestment would be where one has achieved returns beyond reason, and where the newly enhanced capital value needs protection, as the investor is either already needing to draw
income (perhaps in the form of a pension) or this change is imminent. Interest rates have begun to increase. This trend, likely to continue for the foreseeable future, does not support asset prices. These assets are typically equities and property. This represents a further reason to advise against speculative investment. Growth assets have always delivered superior results over the longer term. In any shorter period, history is littered with those gamblers whose stories are seldom, if ever, shared. NFB will be publishing a few distinct notes on a few important issues I would like to make readers aware of. Firstly, the fact that STC credits will become redundant at the end of the current tax year. The second issue concerns fairly important changes to the approach and rules governing retirement savings. Next March, interesting terms like P-Day and T-Day become very relevant. These are part of National Treasury's efforts to, firstly, standardize an industry fraught with confusion, and secondly, to promote a savings culture in a country where our national savings psyche is simply absent. All of this whilst not wanting to make the obvious political and social mistake of taking away peoples' (read voters') rights to spend their provident fund savings now! (A vested mistake in the old rules.) On both counts, I would advise clients to engage with accountants, your NFB advisors or your HR team to ensure these changes filter through to your organizations or personal plans, avoiding last minute stress. As noted, we have information and will be putting out a few understandable bulletins in the next while. Lastly, much has been said in previous editorials regarding the advantage of pension drawings being set off against what are called Disallowed Contributions to retirement savings. This little, but important development, was put into effect in March this year. Please ensure that should you have retirement savings (Pension and Retirement Annuity contributions), which haven't been deducted from taxable income, that this be noted in your tax record (E-file). The little piece of legislation is called Section 10C, and will prove very advantageous where applicable.
fortune favours the well advised
Risk in a post-Abil World Diversification in a well-balanced portfolio will help mitigate associated investment risk. However - it is important to understand one's own tolerance of risk before coming to an expectation of return.
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avvy investors would do well to reconsider what risk means in a world post-Abil's curatorship. Rational investors seek the greatest return for the least risk, as illustrated on the Securities Market Line (SML) below where risk is plotted along the horizontal axis and where return is plotted along the vertical axis. Theoretically, investors are rewarded the most where they take the greatest risk, equity and alternatives, on the chart below and the least where they take the least risk, cash on the far left below.
considered investment grade debt and was a top 50 company on the JSE. This would have given most investors the reassurance that this was a sound company. The interesting element of the “SML” above in the context of Abil is that fixed income securities, or cash and bonds, are generally considered to be safer. Abil was investment grade debt and most investment houses were comfortable to hold the company's various debt instruments. What made Abil particularly attractive was that the company was offering an enhanced yield in an environment where interest rates were low. This has rattled the investment cage, so to speak, with Moody's downgrading all South African banks on the back of this. This has had the following knock-on effects:
age credit: 123RF Stock Photo
Funding rates for unsecured lending have gone
This illustration is important in the context of Abil's failure, in that investors have received a stark reminder that wherever they are on the SML curve they are still exposed to some form of risk. This is particularly relevant in that African Bank was
up. This has an impact on the economy as Abil , Capitec and other small loan lenders lend to the majority of South Africa's lower income consumer base. Further down grades of South African banks may lead them to being reduced from investment grade to junk status, though the probabilities here are low.
At this stage many of you may be asking about Capitec; they are similar in who they target for loans, but the points below , which come from an Investec Asset Management review, illustrates Capitec's position:
Positive outcomes from Abil's curatorship:
The South African Reserve Bank stepped in swiftly and with an effective plan of bailing in and bailing out African Bank.
A bailout is where a central bank pays money
Very strong balance sheet. The bank carries very
high capital and liquidity buffers. A core tier-1 capital adequacy ratio of 30.4%, together with the high provisions, zero non-performing loans held on balance sheet (as per the traditional definition of 3months in arrears) and a diversified revenue stream means that Capitec can absorb a 52% write-off on its advances book in one year. To re-iterate, Capitec can absorb a loss of 52% on its advance book out of its existing capital resources. With liquid assets of more than R15bn and significant long-term funding, Capitec is able to repay all liabilities as they come due – there is no roll-over risk. The bank's net stable funding ratio of 132% and liquidity coverage ratio of 1 689% meaningfully exceed the 100% regulatory capital requirement.
Robust and diversified business model. In the last
financial year, Capitec's fee income from retail transactional banking covered 59% of the bank's cost base, and has grown at a compound annual growth rate of 60% per year. It has 5.4m transactional banking clients and continues to add more than 100 000 per month. Capitec is not simply an unsecured lender. With 56% of the bank's borrowers also using Capitec for their transactional banking needs, the bank has access to superior information regarding the cash flows and repayment ability of its clients. This enables the bank to select appropriate, lower-risk clients to whom to lend. This is a key differentiator between Capitec's and African Bank's lending operations.
Conservative lending practices. Acutely aware
of the potential risks associated with unsecured consumer lending, Capitec has adopted especially conservative lending policies since its inception. While market practice is to consider loans to be nonperforming after three missed instalments, Capitec begins to raise provisions against loans from the day the loan is issued – well before any sign of borrower weakness. As a result Capitec completely writes-off all loans that are more than three months in arrears (the industry definition of a non-performing loan) and carries a provision of 10% to absorb any future losses on the existing book. In essence, it appears that Capitec has a more conservative approach to providing for their nonperforming loans. The one question we cannot answer is whether the economy will remain resilient enough to ensure the end borrower is able to meet their obligations - this affects all unsecured lending by all banks.
in to protect investors.
A bail in is where investors lose the whole or a part of their investment.
In Abil's instance the South African Reserve
Bank and a consortium bailed out the retail depositors, but the shareholders and certain debt holders lost a portion or all of their investment.
This shows that the Reserve Bank will protect depositors which is important to investors, and also ensures a healthy and liquid banking system.
This reminds investors that investing comes with risk, i.e. reintroduces the market in general to moral hazard. It is important to understand these risks and adjust one's expectation of investment returns.
The Reserve Bank has created a commission of enquiry lead by Advocate John Myburgh to look into the collapse of African Bank to see if there was any wrong doing by the board. This shows that South Africa has strong corporate governance standards.
A follow-on from the reminder to investors that investing comes with certain risks, is that a good balanced portfolio with diversification will help mitigate these, but most of all it is important to understand one's own tolerance of risk before coming to an expectation of return. Discussing this with a well-qualified wealth manager will ensure you understand your risk and he may even encourage you to increase them at some stage. Should you wish to discuss or revisit your personal risk profile, please do not hesitate to contact a financial advisor at any one of the NFB offices in Johannesburg, East London, Port Elizabeth, Stellenbosch or Cape Town.
Article by Jeremy Diviani CFP
® professional B.Com Adv PDFP, Private Wealth Manager - NFB Gauteng
Reference: Investec Asset management, Investment Review – Capitec our Debt Investment View, dated 18 August 2014
RETIREMENT REFORM MAKING SENSE OF ALL THE NOISE
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lot has been said and written about the new changes to South Africa's retirement landscape, spear-headed by our National Treasury. In coming to terms with new changes proposed, it is important to first understand the root of the problem facing most South African's at retirement. It is said that at reaching retirement age 65, less than 10% of the retirement population can afford to retire comfortably. Take this into account, and the fact that 21% of people changing employers are said to withdraw from their retirement fund on resignation, the shortfall in provisions at retirement becomes gaping. It is often then left to government and relatives alike to carry the financial burden of the retiree - a vicious cycle which tends to replicate itself over the generations. So how does government break the chain, and promote more saving towards retirement, and the preservation of capital thereafter? The answer, they hope, lies in the reform proposals issued through National Treasury.
What is retirement reform? Retirement reform is a process whereby government, through policies, seeks to: = Encourage employees to save and provide adequately for retirement. = Encourage employers to provide retirement saving plans to their employees as part of the employment contract. = Ensure that employees receive good value for money for their retirement savings and are treated fairly. = Improve standards of retirement fund governance, including trustee knowledge and conduct, and the protection of members' interests.
How will they attempt to do this you may ask? Pre retirement: As from 1 March 2015, all retirement saving products will be aligned, allowing for individuals to make tax deductible contributions of up to a maximum of 27.5% of remuneration or taxable income (higher of), limited to an annual cap of R350 000. This rate applies to the aggregate of contributions made to an individual's Pension, Provident and Retirement Annuity Funds. Individuals who contribute more in any one year can carry forward any unclaimed amounts and deduct these from tax in subsequent years, subject to the deduction limits in those years. Any unclaimed contributions are returned untaxed at withdrawal or retirement.
In addition to this, government is also expected to introduce tax-friendly discretionary (after-tax) savings products, designed to encourage additional savings, over and above compulsory retirement savings. The intention is that these savings vehicles will not attract capital gains tax or tax on income and dividends. However, there will be an initial annual contribution limit of R30 000 and a lifetime limit of R500 000. These amounts will be inflation-adjusted on a regular basis. Once this product has been launched, the current interest exemption (R23 800 for persons under 65, and R34 500 for persons 65 years and older) will no longer be adjusted for inflation.
Post retirement: Access to retirement fund capital will be standardised to the normal 1/3rd cash, 2/3rds annuity rule currently applied to members of Pension and RA Funds. Provident Fund members will now have to play by the same rules mentioned at retirement, although accumulated savings prior to the date of change will be protected and the limitations will only apply on the new contributions made after 1 March 2015. So, what might retirement reform mean for you, the client? = Simplicity and transparency of fees, advice, disclosure and reporting, = Equalisation and consolidation of retirement savings vehicles, = High net worth clients: tax deductible amounts will be capped, = Limited access will increase savings and mean a better income and lifestyle in retirement, = Tax friendly savings products should further enhance savings.
Call to action: The tax year ending February 2015 is an opportune time to make additional RA contributions in order to benefit from the tax relief on contributions of more than R350 000. So, = Be informed. = Plan for change. = Be equipped, and, = Position yourself to take advantage! Please do not hesitate to contact a financial advisor at any one of the NFB offices in Johannesburg, East London, Port Elizabeth, Stellenbosch or Cape Town should you wish to discuss your retirement savings.
Article written by Lunga Nkonki, B.Com (Financial Planning) Paraplanner - NFB East London
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