Unlocking the secret of income funds: Get more bang for your short-term savings

Aug. 6, 2023

Unlocking the secret of income funds: Get more bang for your short-term savings

The option for most people when it comes to short-term saving goals is just to use their bank account. For those a bit savvier, they will maybe use a money market fund. The real secret for short-term savings is multi-asset income funds or just income funds. These funds aim to outperform money market funds while providing capital stability and steady growth. 


What is an income fund and what should I use it for? 

Income funds are conservatively managed unit trust funds (can be an ETF) with an aim to generate income. Income funds invest in multiple asset classes such as bonds, fixed deposits, money market instruments, property shares (up to 25%), preference shares, and high-yield stocks (up to 10%). However, the structure of each fund varies based on the underlying investment objective of the fund manager.

Due to the conservative nature of income funds, they can be used for short-term savings goals (0-2 years), such as deposits for houses or investment properties, saving for a vehicle, or a holiday. It can also be used to create certainty for annuitants drawing down from their living annuities.  


How do income funds differ from money market funds

Firstly income funds fall in the ASISA South African Multi-Asset Income sector and money market funds fall into the ASISA South African Interest Bearing Money Market sector. The latter aims to maximise interest income, preserve capital and provide instant liquidity. Money market funds are suitable for emergency fund savings and parking money.

By giving the funds manager a mandate to invest within, the risk should be slightly more than money market funds, but the returns should be better too. Let's delve into the risk and returns of income funds.


Risk and returns of income funds

The fund manager's investment choices can impact the risk profile of an income fund, by the asset classes they choose to invest in. It's important to consider the risk of income funds,which are mentioned below:


Inflation risk: As with all investments, inflation is the enemy. Due to the conservative nature of income funds, it can be tough to beat inflation as there is no big exposure to risky asset classes such as stocks that produce long-term inflation-beating returns. Inflation risk is to protect the value of your money, by not losing purchasing power of your money. 

Interest rate risk: As income funds invest in bonds that are generally not held to maturity, meaning they trade on the secondary market. The secondary market introduces capital volatility depending on the interest rate movement. Bond prices and interest rates have an inverse relationship, meaning if interest rates increase, you will lose some capital value on your bond. 

Credit risk: Credit risk refers to the likelihood of a borrower defaulting on their debt obligations, such as failing to repay a loan or missing a payment on a credit card. It is the risk that a lender or creditor will suffer financial losses due to the borrower's inability or unwillingness to repay the borrowed funds. Nobody likes to lose money. 

Now, let's compare the return expectations: 

In the graph below I'm using two well-known income funds, the Mi-Plan Enhanced Income Fund, and the BCI Income Fund. I'm comparing them to two well-known money market funds, the Prescient Money Market fund and the Allan Gray Money Market Fund. I'll also compare them with inflation, the rate you receive at the bank (STEFI), and the JSE ALSI. Below the graph, I'll discuss the risk and return outcomes. 

Over 1 year, notice that both income funds outperformed the money market funds. Both income funds also outperform inflation, meaning you received real returns (returns after taking inflation into account) and they comfortably outperformed the STEFI rate that you would earn in a bank account. 

On the other hand, both money market funds outperformed the rate that you would earn in a bank account, but neither of these money market funds beat inflation (inflation risk)

As you can see on the graph below you will notice that income funds move a bit more on the graph than money market funds, meaning they are slightly more volatile, but not much. The JSE ASLI is used to show how volatile equities are in comparison to income funds.



We can see that income funds provide steady returns at low risk by generating income from multiple asset classes. These steady, inflation-beating returns can be used as a great short-term savings vehicle or even replace your money market savings. Do your research on available income funds here and unlock the secrets to short-term savings. 


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