HANNA ZIADY: We are talking about how to become wealthier on the show this evening. What determines your wealth, in fact, in financial terms over the course of your life? I must actually perhaps underline financial terms – we are not taking about other types of wealth of which there are certainly many. But how do you increase your financial wealth and manage various factors that contribute to that?
We are joined by Paul Leonard, regional head of the Eastern Cape at Citadel, a wealth-management business. Paul also is a certified financial planner. He joins us on the line. A very good evening to you, Paul, and welcome.
PAUL LEONARD: Thanks, Hanna. Good to be here.
HANNA ZIADY: Good to have you with us. Now, Paul, you argue that there are three factors to determine what your future wealth will be. I’ll go through those very briefly.
One is your ability to increase your income in real terms, so to earn more over the course of your life.
Then there is the amount that you can save and invest really from that income.
And finally there is the real return you can achieve on those investments.
I’d like to focus on numbers two and three of those – really the amount that you save and invest from the money that you earn and the real return that you achieve on your investments. I think many of us are guilty of increasing our salaries but then really forget to manage that money once we’ve got it.
PAUL LEONARD: Yes. Quite right. We spend tens or hundreds of thousands learning how to earn an income, and then earning that income during our lifetime we spend precious little time learning how to manage that income. You might be interested that the author of the book Stop Acting Rich…And Start Living Like A Real Millionaire, Thomas J Stanley, also wrote a book called The Millionaire Next Door. In those studies it shows that the size of your pay check is only responsible for 30% of the reason that people accumulate wealth or not; 70% of the reason that people accumulate wealth is based on their ability to spend less than they earn, regardless of what their income is.
HANNA ZIADY: Then I suppose the million-dollar question – because that’s quite a staggering bit of research that 70% is based on your ability to spend less, save more – is how do you increase the amount that you are able to save?
PAUL LEONARD: Well, you’ve got to plan for it. One of the questions you ask yourself is how much is enough for you? I’ve been in this industry for more than 20 years now and there are not many people that I’ve come across – and neither have my colleagues at Citadel – but most people are living with too much month left at the end of their money. So the handful of people whom I have come across who have kind of bucked the trend, have decided: this is actually a lifestyle that I am happy with. Any more than that I’m going to save.
And something else that you can do, Hanna, is start at the beginning of your career and create the habit then of saving 10-15% of your income. So the best time to start thinking about retirement is the time that you are least likely to think about it, which is when you earn your very first salary cheque. That’s the best time to put a little slice into your income pie that represents your long-term savings towards retirement.
And interestingly a year or two ago one of my colleagues at our office was sitting with a client who needed to play catch-up. They are middle-aged and they need to save a large amount, a few tens of thousands. The wife was complaining bitterly about how this was going to affect their net income. Clearly they were high-income earners. So nonetheless they signed the debit order and they invested into a diversified unit trust, I think it was. She complained about this large debit order. A year later they got together for the annual review of their financial plan and during the meeting she said: by the way, didn’t we sign a big debit order to save last year? She forgot she’d become used to it. And so she had become sort of acclimatised to saving that money.
That’s the suggestion. If you can acclimatise yourself to saving right at the beginning of your career then it’s not a problem. It becomes a problem once all of your income is accounted for, it’s all spent on commitments and loans and contracts. Then it’s very difficult to create a savings wedge in your income pie.
HANNA ZIADY: You’ve almost got to, as you say, do it up front and then forget about it. Just put the debit order in so that you don’t even get your hand on that money at all in the first place.
We also do have Wayne McCurrie here from Momentum Wealth in the studio. Last week Wayne was with us. We touched on having an emergency fund for these unexpected expenses so that you don’t have to get into debt to pay for these. Wayne, I’d like to hear your thoughts on insurance – particularly car and household insurance, medical aid, disability income protection – is that a form of saving?
WAYNE McCURRIE: It is to a certain extent. But I actually have a very different view on insurance. I think insurance should be pure insurance. In other words you must not insure for a likely event. You must insure for an unlikely event. So it’s likely that you are going to bump your car’s bumper and scratch the side and ding the headlight. You just pay for it out of you own running expenses. But for a big emergency you insure for that. I’m insured with a very large excess so my monthly premiums are actually quite low. So I meet the first part of that expense. So to me I’m doing the saving by not actually paying insurance on something that’s likely to happen.
HANNA ZIADY: Which you should just be saving for.
WAYNE McCURRIE: It’s actually very expensive to take out insurance for something that is likely to happen. So I insure for unlikely events.
HANNA ZIADY: I think that’s a very interesting point, because especially on South African roads we know that our accident rate is exceptionally high, and insurance companies know that too and charge us accordingly. So of the unlikely events, for example, the one that springs to my mind is perhaps coming down with a dread disease such as cancer springing on you. To take on insurance for that where you actually get a payout on such an event does seem to make sense.
Paul, do you agree with Wayne’s view?
PAUL LEONARD: That’s a very interesting view Yes, I do. I do agree that one should take out pure insurance. Wayne, I’m interested to hear that if you’ve got a larger excess – Hanna, your question was about emergency funds – I guess that means you have to be a lot more liquid.
WAYNE McCURRIE: Yes.
HANNA ZIADY: So perhaps you need to earn a larger salary or just be very disciplined about putting money away for emergencies such as a bumper-bashing?
PAUL LEONARD: I guess, Wayne, what you’ve done is you’ve created a bit of a buffer by self-insuring the lower bit.
WAYNE McCURRIE: I think the key to anything of this – a lot of people say pay back your bond, put all your money into paying back the bond. Whatever you do – like my insurance is less because I’ve got a high excess – don’t spend that saving. That’s the key. You’ve got to save that saving.
PAUL LEONARD: Very important.
HANNA ZIADY: Now we are going to look at how to get the best return on your investments. Paul, what is the single-biggest factor determining the types of returns that you’ll earn on your investments? How do you get those big returns?
PAUL LEONARD: Well, Hanna, there is a lot of research that says one of the largest contributing factors is your asset allocation, where you are placing your money. Is your money exposed to equities or property or cash bonds, the portion onshore, offshore? So there is a lot of research that says to us that that’s one of the most important things you’ve got to get right. Of course we know, and I’m sure Wayne would agree, that historically equities have given us the best returns over time. That’s where you plug into the engine of the economy and you actually own companies. So rather than buy the company’s products, buy the company. That comes of course with the volatility involved in that. But risk isn’t bad. Risk is what you need. That’s the reason you get your returns.
HANNA ZIADY: And we are seeing quite massive volatility obviously at the moment. But, as you say, equities have historically outperformed. You mentioned offshore investments and that of course speaks to diversification within an investment portfolio. A lot of South Africans I think are concerned around what the weakness in the rand is going to do to the value of their investments over time. So do you think we should all be trying to get some hard currency investments, such as in dollars or pounds directly, and how do we go about doing that?
PAUL LEONARD: That’s a very good question. When you speak to the guys at the asset management teams like my colleagues there are varying opinions. Not about whether you should have offshore exposure, but whether it should be direct – and also the expense of your offshore exposure. Opinions range from you should have 35% of your portfolio offshore through an asset swap, right up to some people believing you should have about 60%. And if you look around the world, in developed worlds as well, the States, the UK, Australia, they even tell their citizens there don’t have all your money locally. So absolutely the principle is, if you look at the money in the planet, only 1% of the money in the planet sits here in South Africa.
HANNA ZIADY: We are a small economy, to be fair.
PAUL LEONARD: Yes. So it kind of makes the point in favour of you definitely have to diversify offshore. Now there is a strong school of thought that says you need to be benchmarking your investments against the inflation rate of the currency in which you live, because that’s where you are spending your money. Most South Africans are not in a position where they have what we call surplus money. In fact, most South Africans, as you probably are aware, have under-funded retirement. So they don’t even have enough core wealth, as we call it at Citadel. The core wealth is the wealth you need to generate your income and sustain you for the rest of your life. One of your biggest goals is to build up that asset base. So definitely a portion of that should be there.
One of the simplest ways for the average South Africa to get exposure offshore is through a diversified portfolio that has a component of offshore in it, like now the linked investment services can have about 25% of their funds exposed offshore. Many in fact have maxed out there. Right now many guys’ diversified funds are overweight offshore relative to their strategic benchmark.
HANNA ZIADY: We are going to have to leave it there. Thanks to Paul Leonard of Citadel and Wayne McCurrie.