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What would you do if someone pointed out that your petrol tank was leaking?

The first thing I’d do is plant a big fat wet kiss on their cheek and then I’d run to my mechanic (Actually on second thoughts I’d drive my car to my mechanic!). And all the way I’d be thinking two things:

  • Will I make it to his garage before I run out of fuel, and
  • How much has the lost fuel cost me?

So what if someone pointed out you’re leaking money from your retirement annuity?

How is it possible for your retirement annuity to leak money?

It’s all hidden in the funds you invest in.

Here’s how an investor typically thinks:
“I’m going to invest a R1, 000 a month towards my retirement. My advisor is going to take 1% as their fee, so that’s R10; which leaves me with R990 a month going to investment. I’m okay with that.”

But it’s much more complicated than just that.
In fact, the question that needs to be asked is: “Am I invested in active or passively managed funds?”

The debate goes like this.

  • Active fund managers tell you they can beat the market by buying shares at a discount and selling them at a profit. So how do they do that? By employing a team of experts who research the various shares, and attempting to forecast what will happen in the market. Some investment houses are very good at this, but even they don’t get it right all of the time.
  • Index fund managers tell us that after all costs have been deducted, the index beats 80% of professionally managed funds anyway, so why pay for all those costs? Index managers attempt to mirror the components of a market index. This means they don’t need a large team of experts analysing which shares to buy and which to sell.

 So what exactly is this market index?

This is the standard against which the performance of your investment is measured. I mean, imagine if there was no criteria for them to meet in order to justify their fee?

So let’s assume you’re invested in a local property fund.
That fund’s performance might be compared to the SA Listed Property Index which is made up of the top 20 liquid companies in the real estate sector. Your fund will then be compared to see whether it’s out or under performing that index.

So how does an index fund manager mirror the market index?

Here’s an example:

  • Let’s assume that 5 companies make up an index, and that each of those 5 companies makes up an equal portion of that index, in other words 20% each.
  • The index manager will then invest 20% of the capital they have available into each of those companies, and in so doing, make up the index.

According to 10X Investments – an index manager – only 1 in 5 active fund managers has managed to beat the market index in the five years ending March 2014.
Now if that’s true, why are you paying extra unless you’re with the 1 fund manager who did? 

On the 10X Investments website they mention that it’s like:

playing Russian roulette – not with one chamber loaded, but with one chamber empty!

But how does 10X Investments make money?

They charge fees like everyone else, but according to them, their fees are less than half of what the industry average is.

On the 10X Investments website they give the following example:
A long term investor should expect a real return (after inflation has been deducted, in other words) of 5% per annum. A 1% cost factor makes up 20% of that 5% return.
Then they go on to say that costs are closer to 3%, or 60% of your return.

So the question is:
Do you give 60% of your return away in the hope of a better return, or do you settle for a lower return at least as good as the average return of the market, but with much lower costs?”

Or to put it in simple terms:
Why spend R800 to fill up your petrol tank, when you can spend R400 and get the same distance?

So what could you expect to pay in fees at 10X Investments?

Investment Value 10X Fee (excluding VAT)
First R1 million 0.90%
Next R4 million 0.70%
Next R5 million 0.50%
Above R10 million 0.35%

When would an active fund manager make sense?

I’d say that an active fund manager makes sense when they can offer you an ‘in your pocket’ return better than the benchmark average. Unfortunately, you’d have to base your decision on the past performance of that company, since no-one can foretell the future (Or those who can, aren’t telling!)

Companies like 10X Investments aren’t striving to give you anything better than average market returns, which is fine considering they charge reasonable rates.
If your fund can prove that they consistently outperform the benchmark, then by all means, invest with them. But if they can’t, then you need to ask questions.

An easy way to compare, is by downloading a fund fact sheet from your investment company, and then studying:

  • fund net performance over 5 years (We’re looking for the percentage after costs have been deducted. It doesn’t help if they show the percentage before they’ve deducted their fee)
  • Benchmark over the same 5 years, and
  • Total Expense Ratio which is the actual costs incurred in managing the fund over a certain time period expressed as a percentage.

If they’re not matching benchmark, then start asking questions.

Let’s wrap this up

If saving for retirement at the lowest possible cost is important to you, then consider a company like 10X Investments. The one issue I foresee for many out there, is that 10X Investments has a minimum investment amount of R1, 000 a month.

But here’s what we do like about 10X Investments:

    • They’re not implying that they can outperform the market – “We will match the index for you”
    • Low costs – “We only need a small team of highly skilled investment experts to do this.”

Until next time.

The InsuranceFundi Team