Smoothed Bonus Funds– Investing in Uncertain Times

Global uncertainty has increased over the last 20 years or so, which means more than ever, global events impact investment markets.

There is a need to invest for retirement, grow above inflation and maintain one’s purchasing power.

So, what has changed?

We need to look at options that offer protection while still seeking growth.

The reality is if we do not seek real investment growth, we stand a chance of losing the battle against inflation.

This simply means N$100 today will be of less value in the future.

So, what should investors do in these uncertain times? Should we de-risk by moving to ‘safer’ assets such as cash and bonds, or should we wait until equity markets stabilise to invest again?

The simple answer is no.

When investing for retirement, one needs to spend time in the market rather than trying to time the market.

Despite being surrounded by uncertainty, we need to maintain our exposure to growth or risky assets, such as equities, to beat inflation.

What does risk mean to you? Is risk the volatility of investment markets, which means your investment moves up and down in value? Is risk the possibility of not being able to meet a financial goal in the future? Or could risk be when you put N$100 under your mattress or in a piggy bank with the hope of saving for the future without growth?

Technically, all three should be defined as risk, which can be explained as follows:

If you drop from N$100 to N$95, over time this investment will grow back to N$100 or even more. This is called volatility, and although we cannot predict when these drops will occur, or how often they will occur, the result tends to be positive over time.

If you need to have N$1 million at retirement to retire comfortably and this target is not met, the risk would be that your future sustainability would be impacted. This risk will always remain, but can be managed to a certain extent.

Lastly, if inflation is at 5% for the year, this simply means that from N$1 000 last year you would need N$1 050 this year to be able to buy the same goods.

So, if your money does not grow in line with or above inflation, that means you will not be able to afford the same goods in the future.

So, one of the biggest risks we can take is not taking enough of a risk!

Rather than avoiding risk, it needs to be managed.

And this is where solutions such as guaranteed or smoothed bonus funds become quite attractive.

These funds combine risky assets, such as equities, with conservative assets, such a cash and bonds, to create a portfolio which is effectively known as a balanced or multi-asset fund.

However, smoothed bonus funds go two steps further in protecting your money.

Smoothed bonus funds (SBFs) are long-term investment portfolios that use smoothing to provide stable, inflation-beating returns to investors over the longer term, while significantly reducing volatility.

The underlying investment portfolio that SBFs invest in range from conservative to aggressive balanced funds.

These portfolios usually invest in both local and global investment markets, as well as alternative assets.

SBFs aim to provide the investor with smooth returns throughout the journey to retirement by catering for both growth and protection of capital.

The investment returns targeted by SBFs usually range between 2% and 6% above inflation.

As the portfolio grows, excess returns flow into a bonus-smoothing reserve (BSR). These excess returns are used to top up returns allocated to SBF investors when growth assets are recording low/negative returns.

This process is referred to as ‘smoothing’.

It ensures that investors experience consistent growth while their investments are protected from losses. This provides investors with peace of mind.

Most SBFs also provide capital protection. This provides the investor with the assurance that his/her investment will not reduce by more than the guarantee that has been purchased.

An insurance premium, more commonly known as a ‘capital charge’, is levied on the investor to cover the cost of the capital protection.

The higher the level of capital protection, the higher the capital charge will be.

Did you know if you lose 20% on N$1 000 today, which goes to N$800, you need growth of 25% to get back to the original N$1 000.

How long do you believe it will take to recover these funds?

What does it mean to you if a market crash occurs during the month of your resignation or retirement?

• Isaack Veii is head of the distribution and retention corporate segment at Old Mutual Namibia.