The Fat Wallet Show with Kristia van Heerden

Podcast: How to use bond ETFs

In Latest, The Fat Walletby Kristia van Heerden

FW_190819Bonds are wonderful, magical things, but they can be tricky. Pool them all together into an ETF, and it gets even more complex. First of all, the tax on a bond ETF is tough to figure out. Coupons are taxed at your marginal rate, after an exemption. 

When your coupons are reinvested, as in the case with our total return bond ETFs, do you also pay capital gains? The answer is surely no, but when SARS comes knocking for an audit, would you be able to strip out the coupons reinvested for the period? 

What about inflation-linked bonds, where your capital amount increases by inflation with a coupon on top? You’d pay capital gains on the inflation-adjustment and income tax on the coupon. Will you be able to show which is which for the period?

I love thinking about bonds and bond ETFs. On the one hand, they’re incredibly simple, but once you start thinking about the tax implications, the simplicity leaves the building. 

This week, we approach bond ETFs from two angles. As a short-term investment vehicle, bonds make a lot of sense. However, once you start delving into the tax aspect, a bond ETF seems less appealing than an ordinary government retail bond.

The role of bonds in a retirement portfolio automatically limits you to bond ETFs, but why are the inflation-linked bond ETFs underperforming the all-bond index?


Beeped version is below.


Victor

I am required to travel to Mozambique and Zambia for work. 

I require a car that would be able to get me there and back reliably. I currently drive a 1992 Nissan Sentra which breaks down about once every few months. 

Luckily my father lives nearby and he can frequently provide me with assistance (this would not be the case when travelling for work).

I was looking at a second-hand Honda Jazz as they seem to be reliable and provide a good fuel efficiency. The current cost of this car is about R150k. Ideally I would like to buy this car cash in about three years.

I have received an offer of 13k for my car. I think it would be best to sell this car and invest the money, then use my partner’s slightly more reliable 2004 Ford Fiesta in the interim (she lives close to work and does not use her car very often – also she is aware of this arrangement, i.e. I won’t be stealing her car). 

Considering my budget and still contributing to my TFSA, I estimate that I would be able to contribute about 3.5k per month to savings for the car (increased annually by 15-20%). Taking into account inflation of an assumed 5% p.a., and low average market return of 1% above inflation, I should be able to achieve my goal within the specified time frame.

My question however pertains to the best investment vehicle for short-term investments. I have looked at cash/cash-equivalent, income investments, money-market, and bonds. 

Firstly, understanding the difference between the first three is fucking difficult. Bonds I kind of get and I agree with you, they are cool to think about. Should I invest all of my money (13k lump sum + monthly contributions in the same investment vehicle? Or should the lumpsum be in a different place, say fixed deposit or a notice account or one of these weird products which banks offer? While the monthly contributions go elsewhere like a bond ETF or into the NewFunds TRACI or perhaps even a combination of the two?)

Furthermore, I consulted your guide to bond ETFs. I prefer the bond ETFs which reinvest your money, so I would have to choose between NFILBI and STXILB. Satrix have a lower TER and most of their bonds are long term thus providing better rates. Therefore, I believe STXILB is the better product? In terms of cash investments I like products which I can access through my broker (such as TRACI) rather than my bank.

Please assist me as I am very confused about which investment strategy would provide me with the best returns. Does my investment horizon allow me to look into bonds? Or should I only be looking at cash/income/money-market things?


Win of the week: Cindy

What have you done to me? I have turned into that obnoxious person telling people to keep their cost of living low and to invest in ETFs. And I blame the Fat Wallet. 🙂

I wrote to you a little while ago with plans of tackling my debt like a rugby player after some much needed Fat-Wallet-encouragement. Since then, I have paid off my debt but got back into debt thanks to a shitty emergency fund. Now, I am hella close to paying it off again with the backing of a pretty sexy emergency fund.

Fat Wallet and Just One Lap have been educational, motivational and just damn inspiring. I am so ridiculously into personal finance that I am on a serious mission to change my work environment to the financial sector. As a graphic designer I want my job to fit my values – to design in order to educate people about their finances and not to design to make people buy more crap.


Chris

I’m currently doing an ETF based retirement annuity on the Sygnia platform using the following split:

Local Equity – Coreshares Top50 – 45%

International Equity – Satrix MSCI World – 25%

Local Property – Satrix Property – 15%

Bonds – Satrix ILBI – 15%

Cash – 0%

I’m unsure if I have chosen the correct bond ETF to complete my Reg 28 compliance.

Initially I thought an inflation linked bond would return inflation + 2%, however looking at the historical performance, inflation linked bonds seem to have underperformed inflation over the last 5 years (ILBI index returned 4.37% from 2014-2019). In contrast, the GOVI index has  returned 8.18% over the same period.

How can there be such a huge discrepancy between the two indices, particularly as one of them is linked to inflation and should therefore be returning greater than inflation? 

I still have 20 years to retirement so my goal is to set my RA up as aggressively as possible – I.E. I don’t mind short term fluctuations. Do you think the GOVI or the ILBI is the more aggressive fund (hopefully returning better long term returns)?


Willem

My basic fee sits at 1%, but then they add a performance fee clause which is pretty unclear.

I’ve looked at the other options. The only passive investment which I can select is the Satrix Enhanced Balanced tracker with a flat fee of 0.36%, which sounds much better. Do you have any comments on this ETF? 

I’d like to make this change, but I just feel that I don’t really have much of a choice with regards to passive funds.


Ashley

I am looking for the lowest cost provider to put together a bespoke share portfolio (chosen by me) in a retirement wrapper, for part of my retirement investments. PSG offer the service but it requires that you appoint a PSG advisor at an additional cost of 1,15% per annum. You’ve made me allergic to fees that don’t add the required value. I’m quite happy to pay handsomely for the professional services rendered but am battling to rationalise a fee based on a % of assets under management – especially given the size of the underlying portfolio.

I don’t drive a particularly fancy car, but the fee I will end up paying to the advisor would allow me to pay off two more similar cars. I’m looking to invest – without having to buy the investment manager two cars that could be mine.

 I understand that you may be reticent to recommend a particular provider – but could you guide me in my search by suggesting a couple of places where to start.


Brenda

I have just turned 60 and have unfortunately made many disastrous money decisions in the past.   

I have only been permanently employed, and contributing to a pension fund, for the past five years.  

Needless to say, the thought of retirement (age 65) fills me dread and until now I have just stuck my head in the sand and tried not to think about it.   

I have two properties (both currently with big bonds) but on retirement the proceeds from selling one will pay off the bond on the other, so I will have a paid up house and a roof over my head. 

With only a few years to go, what is the best way of investing if one doesn’t have the benefit of time in the market?   RA? or TFSA?

I am contributing a total of 20.5% of my current salary into my pension fund (company contribution and mine together).


Matthew 

My parents have asked me if it is a good idea to put a some portion of their investment portfolio in the DCX10 index. They are not computer literate so I recommended they just stick to ETFs as crypto currency is more complicated to trade, hold, and a great way to lose your investment if you do not know what you are doing. 

Having access to crypto though this index takes out the complications above. So is it an option or is it too good to be true?

Can I view this index as an ETF? By that I imply,

Self healing and removing bad performing currencies.

Gives diversification and a weighting based on some predetermined method[1].

Tokens are generated or issued like ETFs.

Are you protected in some way? (e.g. Trade insurance, compliance as an a financial service provider, etc.) Can DCX10 be trusted to some degree?

Taking past experience into account, will the token still be around even if the crypto market retraces? Remember that the previous BTC retrace in 2018 was over 80%from all time high and subsequently majority of altcoins retraced over 90% from all time high. Can DCX10 cancel the token due to bad performance?


Chris

I have a share portfolio of R1m . I also have a Unit trust portfolio of R1.5m from which I live.

I am considering investing in a foreign ETF.   Will probably start off with R1,000.

Any suggestions?


The Fat Wallet Show with Kristia van HeerdenThe Fat Wallet Show is a no-nonsense personal finance and investment podcast hosted by Kristia van Heerden and Simon Brown. Every week we answer questions by a growing audience of finance enthusiasts. Submit your pressing money and investment questions to ask@justonelap.com.

Subscribe on iTunes


Upcoming webinars

Click here to meet the Just One Lap team at one of our live, free events.

Subscribe to Just One Lap