Two recent and unrelated events inspired me to write this article. The first was a flat tyre. I went to a tyre shop to have the puncture repaired; thankfully it was an easy fix. When checking my car, the salesperson asked if he could buy it. I drive a 2012 VW Golf which is in decent condition with low mileage, so his question wasn’t too out of line. I thought about his offer later that day, and wondered how the guy would afford the car. What would have to be sacrificed to cover repayments of around R4 000 a month plus insurance, maintenance and fuel, not to mention new tyres every so often.
The second event was reading an article by Shlomo Benartzi who is a professor of behavioural decision making at UCLA Anderson School of Management. The article talked about digital nudges (prompts) to change people’s saving behaviour. It wasn’t the fact that technology was being used to drive savings that got me thinking, but rather the way in which the author tested how changing the way a savings proposition is positioned can result in significant changes to savings behaviour.
In a muddled way, the two events led me to contemplate why it is that so many people battle in retirement when, as I see it, it is relatively straightforward to save something and improve your financial position. We live in a society where appearances are everything, and I believe South Africans are particularly guilty of this. We are bombarded by marketing that pushes us to drive the ‘right’ car, wear the ‘right’ clothes and drink the ‘right’ coffee; never mind peer pressure (which itself might be driven by the same marketing programmes). All of this comes at a cost and, very often, a sacrifice (compromise on your savings so you can buy a pair of Levi’s?). Once you get into the “keeping up with the Jones’s” mindset, I think it’s difficult to step back. It can be easy to (mistakenly) believe that people will see you as a ‘failure’.
Taking some logic out Benartzi’s article, it can seem daunting to save, let’s say R1 000 a month, when you start working and to keep this going until you retire. But you can look at it another way to try make the goal more achievable … what you need to do is save R33.50 a day. As has been said: How do you eat an elephant? One bite at a time! If you cut out your daily takeaway coffee and make your work lunch at home, you will have easily saved R33.50 a day.
Assuming you start doing this at 22 and retire at 70, while increasing your contribution by inflation each year, you will accumulate R2.4 million in today’s terms, which is enough to give you a regular income of around R10 000 a month before tax, with a low risk of running out of money. That is a lot for a very small sacrifice. If you push this concept a little further, think how much you could save by buying a cheaper car and keeping it for 10 years instead of five. I’ve used a car as an example but you can of course stretch this to many other aspects of your life. (It’s critical to consider the value of these sacrifices as most employment-based retirement savings schemes simply won’t accumulate enough value for a comfortable retirement.)
Some people will be able to afford the R33.50 daily saving mentioned above – if not more – but some won’t. If we divide my example by 10 and save just R3.35 a day, it could result in approximately R1 000 of pre-tax income within the parameters described above. For someone who can only afford to save R3.35 a day, an additional R1 000 per month in retirement is likely to make a difference.
I’m not suggesting that you shouldn’t enjoy the rewards of your hard-earned income, but I am suggesting that you think before you spend. I have a friend who, whenever he gets a discount on something, puts the amount saved in an account, and it’s amazing how it has added up over time! There’s a well-known saying along the lines of ‘Spend less than you earn, and buy less than you can afford’. Making the right choices early on in life, and on a day-to-day basis, can make all the difference later.
Once you have decided to sacrifice some of your discretionary cash in favour of savings, it’s important to make those savings work hard for you. One of the biggest risks we see our clients taking is being too cautious. Risk, especially in terms of the different types of investment risk, often isn’t explained well and investors can become paralysed with fear of losing all their money. This can lead to investing in solutions that are too cautious, even to the point of only allocating to ‘cash’. The difference of getting an extra 2% over time is immense. Putting some numbers to this – if your goal is to save R10 million over 40 years, with a return of 8%, you will need to save R2 845 a month; but with a return of 10%, you will only need to save R1 568 per month. It’s more important to get your asset allocation correct than your choice of fund manager correct; the right manager (passive or active) could, however, mean that extra 2%.
Now that we have savings and asset allocation covered, we can touch on product. Often a unit trust or exchange-traded fund (ETF) will suit your needs, although you should seek professional help to guide you. A tax-free savings account (TFSA) is also a fantastic savings product. TFSAs offer the opportunity to enjoy tax-free growth as well as tax-free withdrawals, which are very positive incentives over the long term.
If you can save a little extra money, earn that little bit of extra return, and save a little tax, you will be well on your way to optimising your investments and hopefully improving your financial situation.
Think long term.