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Delay spending, invest and be rewarded

The sooner you save, the more you’ll reap the benefits of compound interest.

We have all read the scary statistics of how few people will be able to retire comfortably in South Africa. If you haven’t, just know that only five out of every 100 people get this right. There are many valid reasons for this, but a large part of the problem is our own behaviour. People don’t like to sacrifice current benefits for the future. Sadly, this trait costs most people their financial freedom.

Consider this

If I told you to sacrifice one cappuccino per week for the next 15 years, so that you could enjoy one cappuccino a week for the next 35 years, you would probably agree that this sounds like a real bargain. However, when we discuss investments and people are offered the opportunity to sacrifice R1 000 per month now for 15 years so that they can have the equivalent of R2 400 per month after the 15 years of saving, most people decide to do other things with their money.

It is all about compounding

Compound interest has often been referred to as the ‘eighth wonder of the world’. However, it is not a wonder if you are in debt and it is working against you. Compound interest results when interest is added to your original contribution, known as the principal. From that moment on, the interest that has been added also earns interest. That is great for you if you are saving, not so great if that is added to your existing debt.

To show the effect of compounding, we look at a 50-year-old person who wants to start saving more for retirement. We worked on the basis that the person retires at the age of 65 and thus contributes to retirement savings for 15 years. At age 65, the person needs an income until age 100, if the person passes away earlier, the heirs will inherit the remaining capital.

 

Source: Author

We assume that the person decides to invest R2 500 per month and increases this amount with inflation annually (we have used 6% per annum in calculations) until 65 years old. In terms of investment, we assumed that R2 500 is invested in a relatively low-cost, well-balanced portfolio, which means that the investor has approximately 50% exposure to foreign assets (25% directly and a further at least 25% indirectly through companies listed overseas or earning a sizable portion of their income overseas) and at least a 60% exposure to growth assets (shares and listed property) so that the portfolio will adjust to among other things, long-term inflation rates. We used long-term average growth of 10% per year after all costs over the 15-year period. This is in line with the long-term goal of such a balanced portfolio.

After 15 years, the total contributions (R2 500 per month raised annually with inflation) will be around R700 000, but due to compound growth, the value of the investment is just over R1.5 million at age 65. The purchasing power of the R1.5 million is equivalent to about R625 000 today (with 6% inflation per year over 15 years). If you withdraw R6 400 each month after 15 years, and increase the amount with inflation each year to maintain purchasing power, your capital should last until you are 100 years old. The question is of course what you can buy with the R6 400 a month to make it relevant. That money is worth R2 600 in today’s purchasing power. So, you invest today’s equivalent of R2 500 per month for 15 years, and get R2 600’s purchasing power for 35 years after retirement.

Start saving as soon as you can, and you will quickly see the huge benefits of compounding.

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There’s no way anybody can live decently on R2600 per month in today’s money.This 50 year old individual needs to save 10 to 20 times the R2500 per month which will be very difficult for most individuals.In reality the 5%(more like 0.5%)who can retire comfortably are the very wealthy but the financial planners don’t tell us this, fearing they would lose 95% of their business!

The point is you should start saving for retirement from the age of 25 or earlier not 50.

“In terms of investment, we assumed that R2 500 is invested in a relatively low-cost, well-balanced portfolio, which means that the investor has approximately 50% exposure to foreign assets (25% directly and a further at least 25% indirectly through companies listed overseas or earning a sizable portion of their income overseas) and at least a 60% exposure to growth assets (shares and listed property) so that the portfolio will adjust to among other things, long-term inflation rates”

In terms of the above spec, can you give one or two examples of investment opportunities that holds this much offshore exposure Warren?

How can you save 75% of your salary for retirement? How ridiculous is this? There are no answers as to how to survive in your old age. You have to be born rich or else you will always be destitute. Take a net salary of R10 000.00. Save R7 500 in order to survive in your old age. What can you do with R 2 500.00 now, never mind later. I am tired of hearing save, invest and control your spending. Can anyone control inflation, corruption and poverty? Most employers are struggling and only prepared to offer salaries under R10 000.00. Are we all living in a dreamworld? Catch a wake up all!!!

This article was written from a Penthouse somewhere in Sandhurst…

No sense at all

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