Owning a share in a company means that you own a tiny slice of that company. Unit Trusts are similar to this: you can own a slice of an investment that consists of a number of different company shares and bonds. Your “unit” or slice might also include some property ownership, as well as cash.

Unit Trusts are very tightly regulated in South Africa, and are considered to be a very safe form of investment*. Each Unit Trust Fund is managed by a group of trustees, who have a legal responsibility to oversee how your money is invested. Every Unit Trust investment is managed according to a mandate, which prescribes how the money in the fund will be managed. For example, the mandate will dictate what percentage of the money in the fund can be invested in shares (equities).

Each month, a Unit Trust Fund is required to publish a document which gives you a clear view of how your investment has performed. You can buy and sell your units in the trust, and the price of the units is determined by the value of the underlying assets in the fund on the day you buy or sell the units. The value of these units changes on a day-to-day basis, depending on market movements.

*by “safe”, we mean that the high level of regulation of Collective Investment Schemes protects investors from the misuse of their funds. Your initial investment capital is not guaranteed, as it is subject to market volatility.

A Fund-of-Funds is essentially a Unit Trust Investment that consists of a bundle of other Unit Trust funds. Investing in a Fund-of-Funds is like buying a share in a plantation, rather than buying an individual tree. In this example, an individual tree is an individual Unit Trust fund.

Each individual Unit Trust fund in the Fund-of-Funds is managed by an Asset Manager, and different Asset Managers have different styles of investing. For example, a Value Manager seeks out under-priced shares, whereas a Growth Manager seeks out shares with high-growth potential. These different investment styles thrive under different market conditions. A Fund-of-Funds provides you with an additional layer of diversification, diluting your exposure to a single investment style.

Each Fund-of-Funds is as tightly regulated as the Unit Trusts within the fund. The reporting requirements are similar to a Unit Trust Investment, and the Fund-of-Funds is managed by a portfolio manager (or committee) who makes decisions about which Unit Trusts should be included in the fund according to the fund’s mandate. A major benefit of a Fund-of-Funds is that the portfolio manager can decide to change the underlying Unit Trust funds within your investment, without the investor incurring Capital Gains Tax.

The manager of a fund-of-funds is also able to carefully construct a portfolio that maximises diversification. For example, you would not necessarily be enhancing your level of diversification by investing in five different Unit Trust Funds, if each of these funds had the same companies in their list of top share holdings. A fund-of-funds can reduce this type of duplication by selecting Unit Trusts with different underlying assets and which do not have a history of close performance correlation.

Starting an investment portfolio can be likened to opening a bank account. Once you have opened the account, you then select which Unit Trust funds you would like to be included in your account. You can add money to your investment account, and you can also withdraw money from your account.

The account is held with an investment platform company, such as Ninety One, Glacier or Allan Gray. These administrators help you transact on your account. The Unit Trust funds within your investment portfolio can span multiple asset managers, irrespective of which company (platform) is administering your account. For example, you can have an Allan Gray Investment Portfolio, which includes Unit Trusts managed by Coronation, Ninety One and Allan Gray.

We call this a “discretionary” account as you are investing money that has already been taxed by the government. This is to differentiate these types of portfolios from other investment products, such as Retirement Annuities and Living Annuities. These “non-discretionary” investments include funds that have not yet been taxed by the government, and so they are subject to stricter rules and government regulations.

A Retirement Annuity is a type of investment product which allows you to save for your retirement in a tax-efficient way. The government allows for some tax benefits when you use a Retirement Annuity, as it wants to encourage South Africans to save more for retirement.

A Retirement Annuity can also be thought of as a type of investment account, as you get to choose which Unit Trusts you would like to include in the account. But unlike a discretionary investment portfolio, you cannot access your funds until you reach retirement age (currently set at 55). You are also subject to certain restrictions about how much of your money can be invested in company shares (equities), as well as how much of your money can be invested offshore. These rules have been put in place by government.

While some of these rules (there are many more) might seem very restrictive, they can work to your advantage. Many investors struggle to be disciplined about saving money, and so an RA removes the temptation to access your savings ahead of retirement.

A Living Annuity is a type of investment product that is typically used in your retirement years. It is subject to strict rules, because the government allows for certain tax advantages in an LA. These rules are designed to ensure that you do not use your retirement savings too quickly.

A Living Annuity is similar to an investment account, in that you can choose which Unit Trusts you want to include in the account. But you are required to draw an amount of money from the investment account on a regular basis (at least once a year). In other words, you start to use your investment capital to pay yourself a regular income (typically on a monthly basis, much like earning a salary). The amount of income you can draw in a year is limited by law to a certain minimum and maximum percentage. This income is then taxed as per the personal income tax tables. Most retirees fall into a lower income tax bracket when they start drawing down on their retirement savings, which is one of the reasons why an LA is considered to have tax benefits.

This is an extremely important concept in financial planning. A person’s risk profile is usually expressed as a point along a spectrum, starting at “Very Cautious”, with “Moderate” in the middle, and “Very Aggressive” on the far end.

A person’s risk profile should be aligned to the investments in their portfolio. An Aggressive portfolio typically sees greater volatility and greater returns in the longer term. A Cautious portfolio is typically more stable, but at the cost of lower returns.

Your individual risk profile is determined by a number of factors, including your life stage, age, personal circumstances (including your capacity to take financial risks) and your personal risk preference. An advisor will take all these factors into account when making a recommendation about the risk profile that is appropriate for you.

A person with an Aggressive risk profile will usually have more equities (stocks) in their portfolio when compared to someone with a Cautious risk profile. Someone with a Cautious risk profile will likely have more bonds and cash in their investment portfolio. The value of equities changes on a daily basis, depending on what’s happening in the markets. This drives greater volatility in a more Aggressive portfolio.