Making offshore investing to fund education less foreign

With the new school year in full swing, South African families may be wondering how to finance the growing cost of quality education.

According to Shaheed Mohamed, Head of Group Savings and Investments at Allan Gray, even though you may be able to afford your child’s primary school fees today, this doesn’t mean you’ll be in the same position when they reach high school or university.

“Whether you're planning to send your child to a local university or abroad, it is important to to plan for the cost of their tuition well as as of the associated costs, for example board and lodging,” says Mohamed.

What to know about the investing for education, today

Allan Gray research shows that you can reduce the impact of high school and tertiary costs by approximately 45% if you start saving when your child is born.

“Many parents plan to cover education costs directly from their salaries when fees are due, but the reality is that the cost of education increases at a rate higher than inflation and salary growth, meaning a larger portion of your income will need to be allocated to education costs over time. This puts significant pressure on parents,” says Mohamed, adding that the sooner you start, the more time you will have to make contributions and to benefit from the magic of compounding.

He says that education investments need to deliver an above-inflation return. “To do this, you will need exposure to some higher-risk assets like equities, which have historically delivered stronger returns than interest-bearing assets.”

However, he cautions that higher-risk assets come with more volatility.

“Returns from equities do not come in a straight line and there will be periods over the short term where the value of your investment may drop. This is only a loss on paper – unless you respond to your emotions and sell, thereby locking in the loss.

“Remember that investing for education is a long-term goal, with time horizons typically ranging from 18 to 25 years. Volatility tends to smooth out over time,” he explains.

Should you invest offshore if you want to send your children to study abroad?

Mohamed says diversifying your portfolio is always a good idea and you need to consider the purchasing power of the rand and the exchange rate.

“For example, by using the Big Mac Index, which compares the prices of Big Mac burgers around the world in local currencies, South Africans pay $2.70 for a burger in South Africa vs $5.70 in the US. So, we get a lot less for our rands in developed markets than what we do back home. The same holds true for education costs abroad.”

He says that research shows the long-term trend of the rand is to weaken against major currencies like the dollar. A 10% weakening of the rand against the dollar will increase bills by 10%. “Therefore, if you invest offshore in the same currency as the costs you will be paying, your purchasing power is better protected. Your investments will grow in dollar / pound terms regardless of how the rand performs.”

He says because you are trying to mitigate against the weakening of the rand, you should aim to invest in strategies that have exposure to offshore assets in the currencies of where you are paying the education costs.

How to invest offshore

Mohamed says there are a number of options to consider when investing offshore for education, including education policies, endowments and unit trusts (known as mutual funds abroad).

Education policies differ between providers and it’s important to do your homework and make sure you understand the structure and the fees.

Local and offshore endowments, such as those offered by Allan Gray, are well suited to long-term goals, like saving for university if your child is still in primary or early high school.

“Endowments are particularly beneficial if you are in a higher tax bracket because the tax rate is fixed at 30%. However, there is a catch — you can only make one withdrawal in the first five years. So, if you’re saving and paying for education costs within that period, it might be challenging. Endowments are better suited for long-term goals.”

He says the most flexible option is a unit trust.

“Unit trusts allow parents to invest as much as they like, whenever they like, with no rigid timelines or penalties for missed contributions. This flexibility makes them suitable for both short- and long-term goals, including saving for education. Additionally, unit trusts provide liquidity, enabling parents to withdraw funds as needed to pay for education expenses,” he explains.

“You can invest in hard currency offshore funds, via for example, Allan Gray’s offshore platform, or you can invest in a global feeder fund, which you can only redeem in rands but have exposure to offshore currencies. What is important is that you invest in a well-diversified portfolio in line with your needs, time frame and risk appetite,” says Mohamed.

The main downside is the need for discipline to ensure you don’t dip into your investment along the way.

“Many investors shy away for investing for education as the amounts required to cover the early years through to university seem out of reach. Remember, however, that every little counts and give your child options when the time comes,” concludes Mohamed, adding that it is worthwhile speaking to an independent financial adviser to get tailored advice to suit your circumstances and your personal goals.