| Globally the trend is lower interest rates, and South Africa is is on that train, even to the extent that the SARB dropped our rates before the Fed did. (A move often called ‘front running’ The Fed, not usually a good idea for a minnow like us to do, but the US have a unique set of (US-made) issues, especially around inflation, that we luckily don’t have (but have plenty of problems of our own!) Lower interest rates are a blessing to anyone who has debt or a mortgage, but not so much for anyone invested in money markets or fixed income, especially if they rely on this income for retirement.  Taking advantage of lower rates: If you just look at the math, the ‘best’ time to bring down debt is when rates are high, but we all know that life happens. Not everyone can afford to shoulder the increased payments and more, so inevitably, it is when interest rates drop that one might be able to ‘afford’ to pay more than the minimum. Just sticking to the previous (higher) repayments can shave years off your mortgage. As interest rates come down and you have a little more disposable income, look at bringing your rolling debt on the credit card down to zero. Use your credit card, don’t let it use you. Credit card interest rates are among the highest out there, but swipes are ‘free’ and if you pay off the balance in 55 days, then no interest is applied. Having a credit card with a good limit is great for emergencies, too. (Another tip – if you want to cap your spending, and also put your limit out of sight from potential fraudsters, put the portion you don’t need into budget – you can move the limits if you need it.) Putting your ‘savings’ from the lowering interest rates to good use prevents the inevitable ‘lifestyle creep’. Remember that spending it on something else, when rates go up again, it is more difficult to cut back your lifestyle. Let’s look at it ecologically – most plants and animals out there, who have managed to stave off extinction, make provisions for the hard times. Some hibernate over winter, preserving their energy for a time when provisions are more readily available. Others store their harvest for leaner times or even migrate to better climes.  How can you mitigate interest/yield/income lost? When interest rates drop, anyone who tops up their income from a money market investment is going to feel it, especially retirees who have far less wriggle room to ‘tighten their belts’ – let alone find additional sources of income. But… money market is not the only game in town.Because savings accounts are one of the first places we invest, it is often a safe place to store cash, even in later years. I have found that boomers or late Gen-Xers who have lived long enough to have their fingers burned more than once, are more inclined to use this as their default – but bear with me as I remind you of some (not-so-obvious) downsides to this approach.If you are using call-accounts (say 60,90 days), then when that rolls over and interest rates are dropping, your next tranche of interest is going to be lower, even though you have left yourself with some flexibility. You can lock in a much higher interest rate for 5 years (and hope the interest rate cycle will be climbing back up by the time it takes to roll over the investment), but then you have removed the flexibility. (This is not a train smash if you have an emergency fund.) In both the above, if you are not leaving at least half of the interest behind to reinvest, the capital is going to steadily erode in purchasing power, thanks to inflation. Maybe it is not a problem if you do it once or twice, but at our current rate of inflation, in around 14 years, the value of that capital will have halved.  What are the other ways to generate income? What you need is assets that ‘yield’. Think of it like a farmer’s crop – that harvest is the yield. Just like crops, some assets yield more than others, and they go through their good and bad years, and you can have complete crop failure too. The yield we are looking for is cash. The real folding stuff that appears in our bank account. In investments, this can come from money market, sure, but it can also come from Government and Corporate bonds, Pref shares, Participation Bonds, Dividends, REIT income and others besides. Let me give you a real case study: When COVID hit, Rexsolom portfolios made use of both corporate and government bonds to produce the yield which investors lived off. We structure our funds so that we can ‘milk’ them for the yield to pay our client’s their income, and to reinvest so that the capital retains its purchasing power. (Perhaps a little different to using Unit Trusts, where parts of the portfolio are sacrificed to generate that income, in the hope that it will regenerate – and properly structured it usually does. Starfish regenerate arms if they fall off (it takes at least 6 months to a year) so why not your Unit Trust.) We prefer to milk our cows/assets for yield and keep some back to grow them. Anyway, back to Covid. Suddenly interest rates dropped right down to 4,5% (repo rate) as shown in the graph below.  The effect on Government bonds were immediate with yields rising rapidly and the values of these bonds plummeting. Corporate bonds, even though they are less liquid, only reset their yield once a quarter at their reset dates. So corporate bonds were able to produce income for portfolios as normal but with other assets having now sold down, this provided an ideal opportunity to reposition and buy assets at cheaper prices. Most property companies were very hard hit, impacting income from REITS (Real Estate Investment Trusts) and companies suspended dividends. In that 18-month period at the depths of the Covid outbreak, we were able to purchase high yielding assets to supplement corporate bonds. We used high dividend yielding stocks (which usually don’t have a good growth trajectory, but as ‘cash cows’ they rarely miss dividends), , and government bonds for a time offered amazing yields.  Graph generated by Perplexity.AI RSA has not defaulted on sovereign debt since 1994 (and did so 3 times before that). You can see from the above graph that even from the early days of Covid, the government bonds were giving us a great yield – if you ignored all the ‘Chicken Littles’ and Doomsayers online and used these to prop up your income needs. We certainly did, and we still have some of those bonds yielding a fat circa 12% in our clients’ income portfolios. In summary then, in a climate of lower interest rates, perhaps diversify your sources of ‘yield’. It’s important that a portion of that yield is reinvested so that you don’t lose the purchasing/yielding power of the investment over time – especially in retirement. If tax on interest is a real problem, there are solutions that can bring it down (a bit) but your financial planner should be able to put a holistic solution together for you. Preserving the purchasing power of your yield is key – nobody wants financial stress of living on less and less in their twilight years. |
| Articles and Blogs: Difficult Financial Conversations NEW Kick Start your own Retirement Plan NEW You matter more than your kids – in retirement To catch a falling knife Income at retirement 2025 Budget Apportioning blame for your financial state Tempering fear and greed New Year’s resolutions over? Try a Wealth Bingo Card instead. Wills and Estate Planning (comprehensive 3 in one post) Pre-retirement – The make-or-break moments Some unconventional thoughts on wealth and risk management Wealth creation is a balancing act over time Wealth traps waiting for unsuspecting entrepreneurs Two Pot pension system demystified Keeping your legacy shining bright Financial well-being when dealing with Dementia and Alzheimers Weathering the storm Pruning your wealth farm Should you change your investments with changing politics? Taking a holistic view of your wealth Why do I need a financial advisor? Costs Fees and Commissions The NHI and what to do about it New-Normal for Retirement? Locking-In Interest rates – The inflation story Situs – The Myths and Reality Tax Residency – New Rules new headaches Are retirement annuities dead A new look at retirement Offshore investing – an unpopular opinion Cobie Legrange and Dawn Ridler, Rexsolom Invest, Licensed FSP 45521. Email: cobie@rexsolom.co.za, dawn@rexsolom.co.za Website: rexsolom.co.za, wealthecology.co.za |