In the current precarious economic climate, South African residents over age 55, who invested in retirement annuities (RAs), preservation funds or pensions, are increasingly transferring their investments to living annuities with offshore equity exposure.
Claudia Mendes, international financial planner at Sable International, considers the argument for going offshore.
South African residents find themselves investing in a country that has a concentration of resource stocks and a volatile currency.
With South Africa being 1% of the global stock market sell-offs globally have a habit of hurting both the SA equity market and the currency at the same time, said Mendes.
“This ‘double whammy’ effect has hurt too many retirement accounts for South Africans.”
Most people are not aware that when funds move from a retirement annuity or pension – covered by the Pension Funds Act and pension regulations – into a living annuity, these funds are no longer constrained by Regulation 28.
While your pension funds are accumulating in South Africa, they are bound by this investment restriction, which allows only 30% of the fund to be invested offshore.
Once your pension funds go into the living annuity environment, however, you have “retired” and are no longer bound by Regulation 28, so you can take your living annuity offshore.
Finding the right portfolio solution
The South African equity market had period of time when it has performed well in global terms.
“That hasn’t been the case for well over a decade now. It’s impossible to tell where the fastest growth will come from over the next decade but there’s a 99% chance it’s not going to be in South Africa.
“Therefore in order to generate returns South African investors need offshore assets – preferably in diversified low cost form,” Mendes said.
Holding offshore assets does however, create a ‘liability matching’ problem. i.e. the dividends from offshore companies are in a different currency to the spending being done in local ZAR.
Most portfolios should however, hold a portion of assets in fixed income portfolios. Fixed income reduces the overall portfolio risk and generates income yield needed in retirement, Sable said.
Global fixed income portfolios currency see very low yields as the largest debt issuers in the worlds (The US, UK, Europe and Japan) all have very low interest rate environments.
These low interest rates are likely to stay low in the medium term, said Mendes.
South African fixed income on the other hand (corporate and sovereign) offers a good risk adjusted yield that is matched to the currency being spent by the retiree, she said.
The combination of offshore equity and local fixed income generates a ‘goldilocks’ combination of total return in hard currency and natural yield in local currency.
What does this mean for an SA resident retiree?
Looking at the data
The Covid-19 market panic is in full bloom, said Mendes. The South African market took a knock of -30% and the rand fell 25% against the dollar and 15% against the pound.
The Sable Living Annuity portfolio holding 60% in offshore equity and 40% in local South African bonds rises by 5.62%.
Looking at a five-year return period
The power of compounding hard currency returns becomes even more clear over longer time periods, Mendes further noted.
Below is a view of the performance of this 60% offshore equity 40% local fixed income portfolio in the global market over the past five years.
The table quickly makes stark the underperformance of SA equity vs global equity and even when compared to local rand cash compounded returns.
“This illustrates the importance of building portfolios for a range of possible outcomes rather than a single expectation, which is why our risk-rated model portfolios are built with a mix of
high-risk, high-return global equities and lower-risk, lower return global bonds in mix that’s suitable for each client,” Mendes said.
“The conclusion that can be drawn from the above charts is that with the right portfolio you can have a cost effective, globally diversified solution for your living annuity that also mitigates the volatility of the local currency.”
Who can best benefit from an offshore living annuity?
“If you are a South African resident and over the age of 55 you have the option to transfer your Living Annuity to one that invests directly into offshore funds.
“You just need to ensure that the offshore/onshore portfolio you choose is optimised for both your personal situation and fluctuating market conditions,” said Mendes.