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Advice for a young investor

I am truly sorry to hear of the loss of your father. Taking responsibility for the family’s finances at 22 is no small task. I trust that over time, the pressure of managing your family’s financial matters and completing your studies holds you in good stead in the future.

As you embark on this new journey in the investment world, I want to stress the importance of staying anchored in your financial goals and the investment strategy you choose to use in order to achieve them. If you do not believe in your investment philosophy, your prospects for success diminish and you are at the mercy of emotion.

You should also remain mindful of the following principles: risk and return are related, diversification is the antidote to uncertainty, asset allocation determines the rate of return in a diversified portfolio, and emotion undermines the best investment strategy.

I will address your question pertaining to your investment strategy but I am unable to offer further guidance as I have limited information as to the capital invested as well as your monthly income needs and future goals. You will also need to talk to a professional with regards to the potential tax implications of your decisions.

The main purpose of the MSCI World Index ETF is to track the MSCI World Index. The fund follows a buy and hold strategy, commonly known as passive investing, which results in lower management costs compared to most actively managed funds.

Tracker funds typically offer long term capital growth. If you want to achieve maximum capital growth over the long term, however, re-investing dividends is essential in order to maximise the compounding effect.

That said, there are a number of reasons why I agree on the approach you have described as the launch pad for your investments:

  • By choosing to invest directly offshore via tax clearance, you avoid annual asset swap fees charged when investing in South African-registered foreign investments.
  • At a later stage, being invested directly offshore will give you access to a much wider range of investment options, should you wish to diversify your portfolio.
  • Another advantage of being directly invested offshore is that you will be disinclined to cash in your investment should the need arise.
  • Your choice of an ETF is both simple and very cost-effective. Vanguard in particular is considered to be the leader of index tracking investment options worldwide.
  • You automatically achieve a very wide level of diversification within the asset class you have chosen, which in this case is global equities. The ETF you have selected contains over 1 700 underlying shares spread across the globe.

However, given that you mention that you wish to use the dividends for monthly expenses, you do need to consider that

  • The investment you have chosen is not designed to maximise dividends. If income is therefore your primary goal, this may not be the most effective way of achieving that.
  • The Vanguard MSCI World ETF also does not pay out dividends every month. Distributions are only made quarterly. On top of this it is administratively clumsy and expensive to repatriate dividends every few months to South Africa.
  • Withdrawing dividends is also potentially in conflict with the long term nature of the investment. The reinvestment and compounding effect of the dividends within the investment are important factors in achieving a healthy positive real return over time.
  • Index investments can never take advantage of specific opportunities that present themselves. The return of the investment will always be similar to the index.
  • While the employment of an index-based investment may form part of an overall investment strategy, it should not comprise the sum total of your strategy. Once your portfolio has achieved a certain level of growth, you should diversify into various growth asset classes and sub-classes such as equities in emerging markets, property, bonds and possibly even hedge funds. Within such a strategy, you should employ both passive (index) strategies as well as active strategies in order to achieve maximum returns.