"Eat up" part of your cap­i­tal

Finweek English Edition - - FRONT PAGE -

ONE OF AN AS­SET MAN­AGER’S most im­por­tant ar­gu­ments when he puts to­gether a port­fo­lio – they call it as­set al­lo­ca­tion, es­pe­cially for those on the point of re­tir­ing – is you can’t eat up part of your cap­i­tal gain ev­ery month. That’s why you have to in­vest a large share of your as­sets in an in­ter­est-bear­ing as­set, such as SA re­tail bonds, with an an­nual in­ter­est in­come of 8%. No, there’s an­other – much bet­ter – way one of my men­tors in the days of yore, Harry de G Laurie, the first GM of in­vest­ments at San­lam, of­ten wrote in Fi­nan­sies & Teg­niek, one of Finweek’s pre­de­ces­sors, in years gone by.

For years Laurie wrote an in­vest­ment col­umn loaded with wis­dom. Laurie’s ar­gu­ment (or ev­i­dence) he al­ways looked for was in the then big Rem­brandt Group, which still in­cluded to­bacco and Richemont. The share was al­ways one of the best buy-and-hold in­vest­ments avail­able on the JSE. But its div­i­dend yield was in­evitably so low wi­d­ows and or­phans couldn’t live off it. At any rate, that was the ar­gu­ment by us young­sters at the time who were al­ways search­ing for rea­sons to sell Rem­brandt and look for bet­ter div­i­dends else­where.

Laurie said no. Buy or­di­nary Rem­brandt shares – even for the poor­est widow who needed ev­ery cent of in­come ev­ery month. If the div­i­dend was too low, you could sell some of the shares ev­ery month or ev­ery quar­ter. The price of those re­main­ing shares would rise enough so you’d never lose cap­i­tal and your in­come would keep in­creas­ing. In fact, Rem­brandt’s cap­i­tal growth plus div­i­dends were al­ways higher than even the high in­ter­est rates at the time.

I re­cently wrote we pen­sion­ers would be ad­vised to take a bit more risk and should es­pe­cially make a point of not lis­ten­ing to the in­vest­ment ad­vice that says, for ex­am­ple, at the age of 65 you should keep 65% of your as­sets safely in in­ter­est in­vest­ments. The ad­vis­ers are ap­par­ently com­pelled to do so, but for­tu­nately you still have con­trol over your own as­sets, even if you are older than 65.

We took Laurie’s pro­posal – “You should eat some of your cap­i­tal gain if the div­i­dend is too low” – and tested it on San­lam’s or­di­nary shares. Af­ter all, San­lam is the place where we’ve been sav­ing for our re­tire­ment for many years. Let’s start with a R1m in­vest­ment in RSA re­tail bonds. The State guar­an­tees a min­i­mum in­ter­est of 8%/year over the next five years. That’s a to­tal in­come of R400 000. And you’re guar­an­teed your R1m back – that’s a guar­an­tee by the State.

Al­ter­na­tively, you can use the R1m to buy 36 000 or­di­nary San­lam shares at their cur­rent price of 2760c. For the fi­nan­cial year to year-end De­cem­ber 2010 San­lam earned a profit of 203c/share and out of that a div­i­dend of 115c/share was de­clared. The share is there­fore trad­ing at 13,6 times its his­tor­i­cal profit and its his­tor­i­cal div­i­dend yield is 4,1%/year.

The an­a­lysts’ views as col­lected by McGre­gor BFA state San­lam will achieve a profit of 242c/share this year and that a div­i­dend of 125c will be de­clared. That al­ready im­proves its div­i­dend yield to 4,5% on its cur­rent price. They go on to pre­dict San­lam will earn 280c/share for its fi­nan­cial year to 31 De­cem­ber 2013 and from that a div­i­dend of 144c/share could be de­clared. We took the lib­erty of us­ing the rate the an­a­lysts pre­dicted for the next three years and ap­plied it to San­lam’s profit up to De­cem­ber 2015, which co­in­cides roughly with when the al­ter­nate in­vest­ment in re­tail bonds will be­come payable.

Ac­cord­ing to that cal­cu­la­tion, San­lam will achieve a profit of 325c/share by De­cem­ber 2015 and, if the same pol­icy is fol­lowed as in the past, a div­i­dend of 165c/ share should be de­clared for 2015. That


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