The first retirement annuity (RA) using only exchange traded funds (ETFs) has been launched, offering a low-cost retirement saving option.
The product is offered by Itransact, part of the Automated Outsourcing Services (AOS) administration platform, on which most South African ETFs are administered and which is used by most ETF product providers to give investors direct access to ETFs, particularly people who can afford to invest only comparatively small amounts.
The minimum you can invest in the Itransact RA is R450 a month or a lump sum of R5 000.
People saving for retirement are being offered a choice of three risk-rated portfolios of ETFs modelled to meet the prudential investment requirements of regulation 28 of the Pension Funds Act.
And for investors who are not saving for retirement and who simply want to invest in a portfolio of ETFs without making the asset allocation decisions about how much to invest in shares, bonds, property or cash for themselves, there are also three risk-adjusted “phantom”portfolios. You, in fact, invest directly in the ETFs in the proportion recommended by the asset manager, Sterling Waterford Securities. You are not investing via a single instrument.
Lance Solms, a director of Itransact, says the platform and asset management cost of the Itransact RA product is about one percent of your investment, depending on how much you have invested. This excludes advice fees, the costs of the underlying ETFs, stockbroker and investor protection fees.
Solms says that ETFs eliminate a great deal of the risks, complexity and costs associated with the active management of investments. He says: “There is overwhelming evidence that passive management strategies outperform most active investment strategies. Research shows that most actively managed, general equity (unit trust) funds have under-performed the FTSE/JSE All Share Index (Alsi) over most reasonable time periods to March 31, 2012. A staggering 80 percent of actively managed general equity funds under-performed the Alsi over a seven-year period.”
The portfolios being offered by Itransact will enable people without investment knowledge to have the different asset classes of shares, bonds, property and cash blended into a single investment in ETFs.
This is the not the first low-cost RA that tracks indices. In 2011, financial services company 10X introduced an RA with an underlying portfolio that tracks a portfolio of indices. The risk-adjusted portfolios are compiled by 10X using different indices which they track – the portfolios are not made up of tracker unit trust funds or ETFs.
Both the Itransact and 10X RA products (as with all RAs, which are tax-incentivised) limit your access to your savings until age 55 and permit you continue saving until your death (with estate planning advantages – see “Definitions”, below). Importantly, both RAs come with:
* Much lower costs than life assurance and unit trust-based RAs.
* No penalties, which are applied to life assurance RA products if you reduce or stop paying contributions. With the two index-tracking RAs you may increase, decrease or stop contributing without being subjected to the type of penalties levied by the life assurance industry.
The main elements of the Itransact RA are:
* The fund is registered with both the Financial Services Board and the South African Revenue Service and is subject to the Pension Funds Act.
* The fund is under the control of a board of trustees who are appointed by Itransact. The trustees have a fiduciary duty in terms of the Pension Funds Act to act with due care and diligence in ensuring that your savings are properly invested and managed.
* AOS is the fund administrator.
* Minimum investment terms: until age 55 for RAs. None for discretionary investments, but Itransact recommends that you should remain invested for at least three years.
* Asset manager Sterling Waterford Securities does the ETF (asset) allocation, which includes meeting the prudential investment requirements of regulation 28 of the Pension Funds Act.
* Investors can switch between the risk-adjusted investment portfolios at no charge, but buy/sell costs of about 0.1 percent apply.
* Fees are:
- A scaled administration fee: it starts at 0.7 percent a year for the first R500 000 you have invested, decreasing to 0.55 percent on amounts between R500 001 and R1 million, and to 0.4 percent on amounts of over R1 million. These are the reduced fees, from July 1 this year.
- The underlying ETF fee. For example, Satrix charges an annual 0.65 percent on the first R500 000 invested, 0.45 percent on the amount between R500 001 and R1 million, and 0.35 percent on the amount exceeding R1 million.
- An annual investment management fee of 0.25 percent paid to Sterling Waterford Securities.
- An administration fee of R3.50 per debit order.
- Stockbroker fee. The fee is 0.1 percent of the value of trades.
- Nominal regulatory and Strate fees.
- VAT on fees and charges.
* Commissions are negotiated with advisers, who may be paid a maximum of three percent of each investment you make and then a maximum of one percent a year of the accumulated value of your investment.
Health warning
Itransact is insisting that you use a financial adviser to invest in its retirement annuity (RA) – and the cost of doing this could double the overall costs.
And despite moves in the collective investment schemes industry and among the regulators to what is called “clean pricing”, Itransact is paying financial advisers a kickback of 18.5 percent of the scaled Itransact administration fee, which starts at 0.7 percent a year for the first R500 000 you have invested. It decreases to 0.55 percent on amounts between R500 001 and R1 million and to 0.4 percent on amounts over R1 million.
This is on top of what you may pay an adviser for advice and for effecting your investment. You should negotiate the amount you pay an adviser. Itransact allows for a maximum of three percent of your initial investment plus one percent a year of your accumulated savings, paid monthly. However, current trends are for no upfront fee and an ongoing fee of 0.5 percent of the annual value of your investment paid monthly.
Clean pricing means that you pay the true cost of each service provider when you invest, without kickbacks being paid by any parties.
Lance Solms, a director of Itransact, says that for a share of the administration fee, financial advisers check Financial Intelligence Centre Act (Fica) requirements and provide a contact centre service, because Itransact does not deal directly with investors.
Solms says: “This helps Itransact tremendously in reducing our costs, since we don’t have to incur the expensive infrastructure to deal directly with investors.
“In this way we can contain our costs to a large degree and focus on reducing overall fees, which we have now done.”
RA invests in gold
The underlying exchange traded funds (ETFs) in the Itransact retirement annuities (RAs) differ slightly from those in the risk-adjusted portfolios for people making non-tax-incentivised investments with discretionary savings.
One of the main differences in the asset allocation in the RAs is the inclusion of a gold ETF. The gold ETF has been omitted from the discretionary savings product to allow more financial advisers to sell the non-tax-incentivised product than would otherwise be the case.
The portfolios are compiled using what is known as quantitative analysis (quants). In simple terms this means that various mathematical calculations are used based on thousands of simulations to test the best historical risk-return outcomes.
The Itransact RA portfolios include small investments (from two to three percent) in the Absa Newgold ETF, which is not registered as a collective investment scheme because it invests in a single commodity (actual bullion) and not in listed shares as required by the Collective Investment Schemes Control Act.
However, the prudential investment regulation 28 of the Pension Funds Act allows retirement funds to invest in commodities.
This means that a financial adviser licensed to sell retirement products can sell an RA with commodities as part of its underlying investments, but cannot, without additional qualifications, sell an ordinary collective investment schemes product if it includes commodities.
DEFINITIONS
Exchange traded fund (ETF)
An ETF is a listed security on a stock exchange that invests in other shares or |in commodities. If the investments are in other listed securities, either here or internationally, they can also be registered as collective investment schemes, offering greater security and tax advantages.
South Africa’s first ETF, the Satrix 40, was launched in 2000.
ETFs range from funds that track commodity prices to those that seek to give enhanced performance (the eRafi) or seek to provide different outcomes, such as the Satrix Divi, which tracks companies expected to provide the best dividend flows. There are also ETFs that allow you to track foreign markets, the property market and bonds.
The big attractions of ETFs are:
* Low costs. ETF costs are normally a fraction of the costs of an actively managed unit trust fund. However, unit trust index funds can be equally cheap, and not all ETFs are cheap: some foreign funds have high charges, and some funds charge performance fees.
* You get the market average. Research has shown that very few fund managers consistently out-perform an index.
* Tax advantages. No tax is paid by the funds. Tax is paid by you only when you receive interest or if you make a capital gain.
Index
An index is a measure of performance of a particular market or market sector. If a company represents 10 percent of the value of a market sector, it will make up 10 percent of the index for that sector. The best-known index locally is the FTSE/JSE All Share Index (Alsi).
Retirement annuity funds (RAs)
RAs are tax-incentivised retirement saving schemes. The basic elements are:
* Contributions are tax deductible (a maximum of 15 percent of your taxable income less your pensionable income);
* There is no income tax, capital gains tax or dividends withholding tax on investment returns in the build-up stage;
* No withdrawals are permitted before age 55 and then only as a retirement benefit;
* At retirement, two-thirds of capital must be used to buy a pension; and
* Any lump-sum withdrawal is subject to lump-sum tax. Your pension is taxed at your marginal rate, but there is no income tax, capital gains tax or dividends tax on the investment growth of the residue, which is invested for ongoing pension payments.