This year has seen the equity market reach new record highs and finally break out of a channel that has kept it tracking sideways for nearly four years. For the year-to-date, equity fund managers have delivered an average of 10.0% for their investors, while the Sharenet BCI Equity Fund delivered a great return of 14.4% over the same period. Looking at the graph below, we see that the equities achieved their returns with quite a few dips and rallies along the way, while the Income funds, on the other hand, delivered a very consistent return. If an investor feels that the equity market has now delivered most of its expected return for the year, now might be a good time to switch the funds to an income fund like the Sharenet BCI Income Plus Fund. This fund has delivered 7.70% year-to-date and 9.75% over the past year. With an income fund’s consistent month to month performance, there is a high probability that one could expect a return of about 2% until the end of the year. Add this to the average 10.0% you have already received on your equity, and the total expected return for the year could be 12.0%. With inflation running at 5.6%, this is a 6.4% real return for the year, not too shabby by any standards!

The chart below shows a comparison of the year to date return of the Sharenet BCI Equity Fund (red – A), SA Equity – General Sector (black – B) and the Sharenet BCI Income Plus (blue – C).

Source: FE Analytics

The chart shows that the income fund has very consistent and reliable returns with very little surprises. Equity funds, on the other hand, have taken a very bumpy road to where they are now in October and with all the political and economic uncertainty we are currently experiencing, it is not unlikely that we could see another dip before year-end like the ones in March and June.

If you are considering switching into income funds, then there are four possible sectors (as defined by ASISA) that you could consider. One of these is the SA Multi-Asset Income sector where funds mainly invest in bonds, money market, and other interest-bearing instruments, but they may also have a small exposure to property (max 25%) and equity (max 10%). Property is frequently used in income funds, as the income from property arises from rental income. These property companies deliver attractive high yields which tend to grow with inflation as the rentals are increased annually. The equity allocation is mostly invested in preference shares that have a high yield and make regular payments (almost like a bond).

The other three sectors are classified as SA Interest Bearing and they invest exclusively in bonds, money market, and other interest-bearing instruments. They are classified according to the duration of the instruments in the funds, i.e. the time to maturity or how long before the instruments mature. The three sectors are Variable Term, Short Term, and Money Market. The funds in the SA Multi-Asset Income sector have delivered the best performance over the longer term due to the wider range of asset classes they can invest in.

Of the current 223 Income Funds in the four income sectors, 8 out of the Top 10 performing funds in 2017 came from the SA Multi-Asset Income sector. These fund managers got their calls right across the different asset classes. When selecting a fund, investors should not only look at the returns but also consider the consistency of returns. The Sharenet BCI Income Fund is in the top quartile of the income funds since the start of the year and managed a return of 9.75% over the past year with a very low volatility (risk). A great combination of performance and consistency.

In Conclusion. Income funds can deliver inflation-beating returns. Investors sometimes fall into the trap of thinking income funds give returns similar to a savings account at a bank or a fixed deposit. The reality is that there are income funds that consistently deliver attractive returns at low risk with no lock-in period like you get with fixed deposits. It is also a great choice for parking your cash if you think the equity market is starting to look expensive. Knowing when to switch into income funds is a specialised skill and there are balanced fund managers out there who are experts in doing just that. The Sharenet BCI Aggressive FoF is a good example of a balanced fund that actively allocates capital among the various funds.

*All return figures are quoted are as at 9 October 2017. Source: Morningstar.