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Saving in a rising interest rate environment

Nov 22 2015 13:30
Carin Smith

Cape Town - The the latest repo rate hike of 25 basis points to 6.25% by the SA Reserve Bank (Sarb) prompts the question as to how South Africans - who are already under financial pressure - are going to deal with this, especially when it comes to their investments and savings, according to Jeanette Marais, director of distribution and client service at Allan Gray.

While inflation remained relatively unchanged in October, SARB's Monetary Policy Committee (MPC) noted that it is likely to trend up, due to the depreciating rand, the worsening drought conditions and its likely impact on food prices, and the possibility of additional electricity price increases.   

"While a higher interest rate environment may ensure a better return on one’s hard-earned rands, inflation, if not taken into account, can have a devastating impact on one’s savings. Rising interest rates must be looked at in conjunction with inflation, to ascertain the real impact on one’s savings," explained Marais.

"Many people think that the cash that they put away will grow by the interest rate. But, they fail to account for the eroding effect that inflation has on their savings."

READ: Sarb increases repo rate by 25 basis points - what it means

Inflation is the rate at which your money depreciates over time, as the cost of living increases. Buying a loaf of bread today and not taking inflation into account means that you will only be able to buy, say, half a loaf for the same price in the future.

The returns on your investment should be at least enough to compensate you for the length of time that you invest so that the value of your money is maintained. So, if your bank offers you an interest rate of 5%, this may sound attractive. But, if inflation is higher than 5%, your money will be losing value.

"Your investments have to grow by more than inflation each year before you achieve any real return. This is an important point for savers today – rising interest rates are not necessarily enough to protect your capital over the long term. You, therefore, cannot be too conservative when saving in this type of environment," said Marais.

READ: 9 money saving tips you may not have thought of

If you want to achieve real capital growth that takes inflation into account, consider alternatives to putting your money in the bank, in her view.

"The only asset class that has been proven to significantly outperform inflation over the long term is equities. However, with the potential for greater returns comes the increased risk of capital loss, as well as increased short-term volatility. If you are saving with long-term goals in mind, you may be better able to tolerate volatility and thus benefit from equity exposure over time," she said.

"Investors who are taken by surprise by a period of short-term underperformance and sell their investments at the wrong time often miss out on a substantial part of the return in our unit trusts. Changes in your personal circumstances and capacity to take risk should encourage you to rethink your investment strategy, not short-term market fluctuations."

In her view, the best bet for most investors is to hand the asset allocation decisions over to an experienced investment manager by picking a unit trust such as a balanced fund. In these unit trusts, the managers vary the asset allocation in response to opportunities.

ALSO READ: Inflation, poor returns eat into savings

sarb  |  interest rates  |  savings  |  money
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