The basic reason for investing is to get a decent return — to make your money work for you. It is the only way to increase your wealth, especially if you are on a fixed salary. You want to be rewarded for not spending the money today and putting it away for the future. Probably the most powerful tool for savings is compound growth. This is when your money really starts to work for you and simply by leaving it to grow, your asset base increases.
For example, you invest R10 000 in a fixed-income account and receive a 5% return in year one. After that year, you will have R10 000 plus the 5% return of R500. So the following year you are now investing R10 500. This grows at 5% and, by the end of the following year, your return is R525. Now you have R11 025 invested without having added a cent.
So why don’t we all just leave our money in the bank, which is 100% guaranteed and provides the compound interest effect, rather than take risks with shares? The reason is that inflation also has a compounding affect. Even if inflation is growing at 4%, the compounding affect means that, after five years, your buying power has depreciated by 22%.
There would be no point in saving if the money you invest today will only purchase you the same goods 10 years hence. Even worse, what if your investment failed to keep up with inflation and 10 years on your buying power is less than what you put away?
What a lot of people don’t realise is that if they are too conservative with their savings and keep it all in a “safe” investment that fails to keep up with inflation they are actually taking a really big risk and will find that they have lost buying power.
Whenever you invest you need to understand the risk you are taking. Inflation makes leaving your money in the bank a risky option. With shares you should be compensated for any risk you take. Because your capital is not guaranteed you should receive a return greater than that of cash and certainly far higher than inflation.
Because shares are a higher risk investment, over the longer term they have consistently outperformed all other asset classes.
If you had invested R10 000 in shares 20 years ago, it would be worth a massive R363 418 today. The same investment in government bonds would now be worth only R92 720, and if you left it in a fixed-deposit account, it would now be worth R42 869, nearly a tenth less than you would have received from shares.
Although investing in shares is a long-term approach, individual shares can perform way above the market average and make you multiple returns in a short period of time. For example, Telkom listed in February 2003 at R28. Today it is worth R140 a share.
But it is not as simple as “the higher the risk, the higher the return” because our logic would suggest that you should take the maximum amount of risk because you will get the maximum amount of return.
The reality is that you need to take calculated risks that lower the downside without limiting the potential return. For this reason, when investing in shares you need to do your homework and understand the companies you are investing in. Not only do you need to understand the company and its prospects but you need to look at things like liquidity — how quickly can you exit the share. You also need to adopt a strategy of diversification and build up a portfolio that spreads your risk across different shares and sectors, and know when to exit the market.
The Investing on the JSE column will provide you with a step-by-step guide on how to get started, what you need to know, understanding the jargon and how to select shares
Market update: Shares for 2006
In the past year, the market appreciated by 47,3% overall, even after a strong 35% growth in equities in 2004.
But while fund managers agree that it will be a hard act to follow, that does not mean it is time to sell your shares as equities still offer the best growth opportunities.
With average earnings growth from JSE-listed companies expected to be in the region of 20%, analysts are prediction a 15% return from equities in 2006.
Daryll Owen, chief investment officer of BoE Private Clients, says his investment team believes there is still good value in the market, with interesting opportunities across all the sectors, from retail to resources.
“We don’t really favour any one sector, given the gains of the past year — especially that of resource shares, which did very well on the back of strong commodity prices. Platinum mining was up by 109,9%, oil and gas shares (such as Sasol) rose by 92,9% and even gold shares rose by 68% over the year,” says Owen.
He adds: “Although growth is set to slow down in the United States, in a climate of benign inflation, this will be compensated by good growth in other major regions, particularly from the Far East and China.
“China’s voracious appetite for raw materials is expected to continue, which will assist with the ongoing positive sentiment of the stock markets of countries that export commodities, like South Africa. Major shares to be invested in to help you share this growth are Anglo, Billiton and Impala.
“We believe there is also still some value in the retail sector, given the increased domestic consumer spending as evidenced in the latest retail and new vehicle sales figures.
“Retail trading has been reinforced by a strong, stable rand and low interest rates. We favour a number of shares in this sector including Bidvest, Imperial, Pick ‘n Pay, Edgars, Spar, Woolworths and Truworths.”
Owen says gold is being favoured as an asset class, and the current price, at a 25-year high, could trade even higher this year. Some analysts predict the possibility of gold reaching $600 an ounce (from $513 an ounce at the end of 2005) before the end of the current year. BoE’s gold pick is Goldfields.
Owen says BoE also sees the ongoing investment in infrastructural development continuing throughout the country over the next five years, and suggests investors would do well to enjoy the growth that this will create for the likes of Murray & Roberts, Barloworld, Aveng and Reunert.
Other sectors and shares the company favours are telecoms (Telkom and MTN) and banks — Standard and FirstRand are the best picks from a valuation perspective.
“In general, foreign investment flows into South Africa have been increasing on the better growth prospects and we have seen the start of some serious foreign direct investments — most notably in the Barclays/Absa and Venfin/ Vodaphone deals.
“We predict that this trend will continue, which will be good for the country and the markets as a whole. The retail sector, in particular, could well be the next area that foreigners target in the near term,” says Owen.