SAVINGS BONDS SOUTH AFRICA

Savings Bonds act as money you lend to the government or any other institution that needs to raise funds to fund its debt or finance a specific project. When you are buying bonds like South African retail bonds, you are offering a loan to the South African government. Your capital is secured and should earn you interest. This money is used by the borrowing institution like the government, the city or any other organisation to reduce its own debt or grow that particular organisation.

Risk
Bonds are viewed as a safe option for investors as the amount of money that is invested is not exposed to the amount of risk that stocks are exposed to. Even investors with stocks and other forms of investments use the savings bonds to balance their portfolios. The older one gets, the lower their exposure to risk should be and thus the higher the bond portion of their portfolio. There is an argument that the savings bonds do carry some risk. I guess because they are attached to some organisation, they are bound to carry part of the risk the bond issuer carries. I would put more trust in the SA government bonds administered by National Treasury. I will do a post on buying them for a few who are not aware.

Returns
The longer the term of the savings bond, the higher the interest it earns. It is now December 2014 and these are the rates for RSA retail Bonds:

Fixed Rate bonds
2 Year Fixed Rate    7.25%
3 Year Fixed Rate    7.75%
5 Year Fixed Rate    8.25%
          
Inflation Linked Rate bonds
3 Year Inflation    1.25%
5 Year Inflation    1.75%
10 Year Inflation    2.00%

The fixed rate will change with the change in interest rates only for the new investment. If you bought at 8%, its fixed until maturity. But if you ladder your investment, you get to buy at different rates for various pieces of your investments. The rates can go much higher. In July and August of 2008 for instance, the investors bought at 10.5% per annum for 2 and 3 year fixed rate and 11.25% for a 5 year term. The challenge is that, you tie your investment to the rate at which you bought when you are on fixed rates. This is where bond laddering becomes important. if you never heard of that concept, do not despair. I will explain it next week.

You will get a higher return in other investment vehicles but they may not be as low risk. That is the reason this kind of investment is recommended as one gets older. One will always need this kind of an investment to balance their portfolio and to reduce the overall risk levels of their wealth. I know that you noticed that the inflation linked rates are much lower. This type of rates is meant to protect you against inflation. They tend to yield much lower returns.

Interest Payment
In the case of the RSA fixed rate retail savings bonds one is paid on set payment dates until the end of the bond term. Investors who don't need passive income immediately choose to reinvest their interest instead of getting it periodically. 60 year olds or older investors can choose to receive their interest payments on a monthly basis. They usually live on their interest anyway. For RSA inflation linked retail savings bonds, interest is payable every 6 months on set payment dates until the end of the bond term.

I am not going to go into the corporate bonds that are issued by companies like banks, sorry.

Next on this "Savings Bonds South Africa" series will be how to invest in bonds in South Africa. I will remember to also do a post on building a bond ladder with examples.

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