Investors urged to consider income funds

Fixed interest securities are likely to get a major boost from the implementation of the Regulation 28 of the Pension Funds Act on a member level, which stipulates that a maximum of 75% of a retirement fund can be invested in equities, the rest has to be invested in fixed interest instruments, property and foreign investments. However, investors and intermediaries should make sure they do not fall into the trap of only investing this money into money market funds.

According to Nico Coetzee, Head of Sales at PPS Investments, income funds have a wider mandate than money market funds meaning they can generate a higher return, whilst still at a low level of risk. “In a low interest environment, many investors are looking at single digit returns from money market funds. However, with an income fund, while the risk is marginally higher, one gets a much better yield than a money market fund.

“An intermediary who can generate an additional couple of percent p.a. by advising clients to invest in an income fund is correctly servicing their clients. The difference between an investment generating a return of 6% or a return of 9% over a 20 year period is significant and this often balances out the risk that one takes on by investing in an income fund.”

Coetzee says the nature of income funds have evolved in recent years from funds with a specific mandate to invest solely in cash and bonds, to the more modern managed income funds. “Managed income funds have wider mandates enabling them to invest in other securities such as preference shares, property and in some cases even offshore. So, the fixed interest managers have a greater range of tools at their disposal with which to generate income and capital growth.”

He says that this flexibility allows income funds to actively move up and down the yield curve, meaning that an income fund may look very different in different interest rate cycles. “When the fund manager expects interest rates to increase, the fund will resemble a money market whereas with an expected decrease in the interest rate these funds will look more like bond funds.”

“An intermediary should be able to see the underlying holdings of the fund when looking at the fund’s fact sheet which will show the allocation between cash, bonds or any other asset class. It is important to bear in mind that the higher the allocation to longer term bonds, the more risky the portfolio will be.”

Coetzee says that while an income fund will generate a higher return than a money market fund, both vehicles are really only suitable for conservative investors. “An income fund is for the investor who does not wish to have any exposure to volatile asset classes such as equities. It is most commonly used in post retirement, specifically living annuity investors who require an income.”

“As a result, neither income funds nor money market funds are appropriate investment vehicles for a young investor with a 30 year time horizon. However, statistics show that many investors with long investment horizons are investing all of their money into money market or income funds, when they should be buying as much equity and offshore assets as possible.”

“Income funds are not right for everyone, which is why we offer a selection of quality funds in the other asset classes to choose from on our platform. However, for the right investor, an income fund is the perfect vehicle to generate a decent return whilst keeping your cash relatively risk-free,” concludes Coetzee.