Retirement can be a very uncertain and unsettling time, with so many options to consider when deciding what to do with one of your biggest assets – your retirement savings or living annuity.
Lump sum investing is the act of placing a large pot of money into the market as soon as possible. As with any investment, there are pros and cons to this. For many, it can be a decision that causes much anxiety and even leads to losses in the short term. Yet, the benefits of lump sum investing can still far outweigh the risks.
In this article, we take a look at lump sum investing for retirement, including various ways to invest retirement lump sums and living annuity payouts. Here’s what you need to know to help you determine which strategy is right for you.
Understanding lump sum investing
With lump sum investing, all your money goes in on day one. If the market goes up from that point, you’ll be glad you got in early because any money added later would purchase shares at a higher price, giving you less bang for your buck.
On the other hand, if the market goes down from day one, your entire investment will go down as well, and you will have missed the opportunity to buy in at a better price.
Of course, it’s impossible to know how the markets will move from day to day or month to month. Individual results will always vary. However, there is a mountain of data showing that markets go up over time. The data suggests it’s better to get in as soon as you can, making a lump sum a smart investing choice no matter what the markets do in the days afterward.
Places to invest your retirement lump sum
Every mutual fund scheme comes with a set of objectives to achieve. Therefore, the risk levels of mutual funds vary across fund plans. You have to assess your requirements and risk tolerance. You may choose to invest in only those funds whose objectives and risk levels match your profile.
Be sure to analyse the fund from various angles such as past performance, expense ratio and financial ratios. Invest in those funds that stand out among others.
Any investment you make should be in line with your investment profile, which includes your income, expenditures, risk profile, and financial goals.
If you choose to invest a lump sum, don’t just put it all in one stock. It’s best to find a handful of individual stocks. If you don’t want to take the time to do the research, consider buying a mutual fund or an exchange-traded fund (ETF) that gives you exposure to a large number of individual stocks.
Most mutual funds fall into one of the following categories: money market funds, bond funds, stock funds, and alternative funds. Each type has different features, risks, and rewards.
1. Money market
If you need to earn regular interest and have your money readily available with a short notice period, then the money market route might be the way to go.
The money market refers to trading in very short-term debt investments. At the wholesale level, it involves large-volume trades between institutions and traders. At the retail level, it includes money market mutual funds bought by individual investors and money market accounts opened by bank customers.
- Low volatility and lower risk in comparison to other options.
- High liquidity.
- One of the most secure investment options available in the market.
- Fixed returns.
2. Fixed rate bonds
This type of bond pays the same level of interest over its entire term. An investor who wants to earn a guaranteed interest rate for a specified term could purchase a fixed rate bond in the form of a Treasury, corporate bond, municipal bond, or certificate of deposit (CD). Because of their constant and level interest rate, these are known broadly as fixed-income securities.
Bond funds have low risk, but also produce relatively low returns. Because there are many different types of bonds, the risks and rewards of bond funds can vary dramatically.
- Provides investors with a stream of fixed periodic interest payments and the eventual return of principal upon its maturity.
- Very low risk, but also relatively low returns.
- Upon maturity of the bond, holders will receive back the initial principal amount in addition to the interest paid.
- Typically, longer-term fixed-rate bonds pay higher interest rates than short-term ones.
3. Stock funds
Stock funds invest in corporate stocks. Not all stock funds are the same, for example:
- Growth funds focus on stocks that may not pay a regular dividend but have potential for above-average financial gains.
- Income funds invest in stocks that pay regular dividends.
- Index funds track a particular market index such as the Standard & Poor’s 500 Index (tracks the performance of 500 companies listed on stock exchanges in the US).
- Sector funds specialise in a particular industry segment.
- Invests in the common stock of a listed company.
- The benefits of stock funds include diversification, simplicity, cost savings, and time savings.
- Types include broad-based funds and index funds.
- Easy diversification, as each fund owns small pieces of many investments.
- Professional management available via actively managed funds.
- Many index funds and ETFs have low ongoing fees.
- Convenient and less time-intensive for the investor.
4. Alternative funds
These are funds that invest in alternative investments such as non-traditional asset classes (such as global real estate or currencies) and illiquid assets (such as private debt), and/or employ non-traditional trading strategies (for example, selling short).
They are sometimes called “hedge funds for the masses” because they are a way to get hedge fund-like exposure in a registered fund. These funds generally seek to produce positive returns that are not closely correlated to traditional investments or benchmarks.
A good example of an alternative investment for retirement is private equity, such as IFSA’s Cornerstone Capital Private Equity Fund.
- Earn a monthly income.
- Typically higher-than-usual return rate.
- Medium term investment period: five to seven years.
- Fund manager determines the risk.
- Lower volatility than traditional asset classes.
- A way to diversify portfolios while retaining liquidity.
- Truly actively managed.
Pre-retirement vs. post-retirement: How much may you invest?
When building alternative investment solutions that cater for both pre-and post-retirement, there are some key distinctions to take note of before deciding how much to invest.
In some instances, the law strictly governs the sum you are legally allowed to allocate to an alternative asset class like private equity. There are also different investment products that apply to both pre- and post-retirement. Below, we unpack the key differences in each stage of retirement:
- Refers to retirement annuities and pension funds
- You may invest 2.5% of the total asset into private equity
- In some cases, in line with Regulation 28, you may invest up to 15% in alternative asset classes
- Refers to living annuities
- You may invest up to 100% of the entire annuity into private equity
- The total amount invested depends on your risk profile
IFSA Can Help with Your Lump Sum Investing for Retirement
There are various avenues to consider when planning where to invest your retirement lump sum or living annuity payout. But as always, diversification and sound guidance by a regulated body like IFSA Private Equity is a good idea before making a decision.
At IFSA, we have seen private equity (PE) graduate from the outer limits of the economy to the mainstream. Private equity’s net asset value has grown approximately 7.5 times since 2002. And it’s not affected by the South African economy – or any market volatility, for that matter.
IFSA is an active alternative investment management firm that follows a long-term investment philosophy. We have over 60 years of combined experience in growing prosperity for high net-worth individuals. Together, we are committed to helping our clients use smart strategies to better invest their hard-earned money for optimal returns.
IFSA (Pty) Ltd Registration No. 2000/005153/07 An Authorised Financial Services Provider Licence No. 43337