Nedbank is running large green adverts in the print media making an offer that seems almost too good to be true: interest of 13 percent a year on its Green Savings Bond.
You need to be mindful of what we say over and over in Personal Finance about “too-good-to-be-true” returns – that if they appear to be so, they probably are. But you would think that, coming from a large, reputable financial institution, the offer would be genuine.
Currently, cash investments, such as bank fixed deposits and money market funds, are, at worst, providing returns well below the Consumer Price Index (CPI) inflation rate (about seven percent) and, at best, just over CPI, with rates of about nine percent on longer-term fixed deposits.
A good indicator of rates in the cash market – and usually offering some of the top rates – are the government’s RSA Retail Bonds. These range from nine percent a year on a two-year fixed deposit to 9.5 percent on a five-year one.
So, tempted to cash in some poorly performing unit trusts to take advantage of this seemingly excellent deal from Nedbank, I did some sums. The advertised rate, 13 percent, represents a real (after-inflation) rate of six percent, which, as any financial adviser will confirm, is very hard to beat, particularly in a minimal-risk investment. Punching a round figure of R100 000 into a financial calculator, I arrived at the impressive sum of R184 243. In other words, I could almost double my money in five years.
What of inflation? I’m no economist, but I couldn’t see it exceeding 10 percent within five years. Even at 10 percent, I’d be clearing three percent a year.
I investigated further: are other banks offering similar returns on five-year deposits? It turns out that Standard Bank has a five-year deposit at 12.44 percent and African Bank has one at 12.9 percent. A condition of all these offerings is that your interest is paid out at maturity, and therein lies the catch.
Then I used Nedbank’s own online calculator to tell me what my R100 000 would earn. The result was R165 035, almost R20 000 below my original calculation.
On closer inspection, the website told me that the 13-percent rate was what the deposit would earn in simple interest.
A related download, titled “Making sense of different interest rates”, explained it further: “The interest rate advertised is a simple, non-compounding rate. This means that you earn 13-percent interest on the original capital amount invested, every year until maturity, at which point you get your capital back with all the interest. There is no interest being compounded. Compounded interest means that you earn interest on interest. This is also sometimes referred to as having your interest ‘capitalised’. The 13 percent we have currently advertised is, therefore, the simple interest rate.”
Well, Nedbank, your big green ads are very misleading. They are not in the spirit of Treating Customers Fairly, nor are they congruent with the Code of Banking Practice, which members of the Banking Association of South Africa must abide by and which states: “We will ensure that all advertising and promotional material is clear, fair, reasonable and not misleading.”
It’s compound, not simple, interest that interests me, and it’s the compound rate I need to make comparisons. When confronted with interest rates in financial marketing material, consumers such as I assume they refer to compound interest. Never have I come across anything that advertises simple interest on an investment. And to make matters worse, the word “simple” is nowhere to be found in Nedbank’s ads.
So, Nedbank is actually giving you a rate of 10.53 percent a year on its five-year Green Bond. (Standard Bank and African Bank’s five-year fixed-deposit rates are also “simple”, but they aren’t trumpeting them loudly in the media.)
Ironically, 10.53 percent is a very good rate and the Green Savings Bonds is a sound product, so why risk the reputation knock?
AN ADVISER’S VIEW
Ian Beere, a Certified Financial Planner and the managing director of financial planning firm Netto Invest in Cape Town, says Nedbank is aiming its advertising at people who don’t read the small print and who are ignorant of the difference between simple and compound interest. He says that, to enable comparison, there is a consistent, standardised way of publishing both interest rates and historical returns on investments: the compound annual growth rate (CAGR). He says grossing what you earn on an investment to simple interest over a five-year period is specifically misleading and is sure to cause a lot of disappointment.
Beere gives the following advice: “When comparing interest-based investment returns, one should always use the CAGR. This means that, however the interest is calculated (see “Effective versus nominal rates”, below), it is reflected as a total annual amount of compound interest.
“You also need to check if the rate applies if you want to spend the interest every month, and what happens if you need your capital in an emergency (you are likely to pay a penalty if you withdraw before the maturity date).”
Thembi Malabi, the senior communications manager at Nedbank, sent Personal Finance the following response:
“Thank you for the opportunity to respond and provide clarification relating to the current Nedbank Green Savings Bond marketing material.
“The rate (13 percent) [is] driven by market conditions.
“The rate quoted is a simple, non-compounding interest rate.
“This approach is new to Nedbank and is in line with competitor positioning. Furthermore, it is informed by client feedback through ongoing interaction.
“Competitor analysis illustrates that the rate offered is the best among [our] competitors.
“As a responsible financial services provider, Nedbank adheres to the banking code of conduct and all regulations, such as the Consumer Protection Act, which is aimed at treating clients and investors fairly across its service and communication channels.
“In keeping with its client-centred approach, Nedbank places greater emphasis on communication through its staff, who bring the bank’s vision to life in their daily interactions with clients, to ensure greater understanding of its offerings and campaigns.
“These efforts are aimed at ensuring that clients are supported in making savvy investment choices and are aware of the different ways in which interest rates are quoted. See the example of an educational article [“Making sense of different interest rates”, quoted above] regarding the different rates and monetary implications thereof, available on the Nedbank website.”
EFFECTIVE VS NOMINAL
The effective interest rate on a bank savings product is typically a little higher than the published, or nominal, rate, because banks calculate interest on a daily or monthly balance. They divide the nominal rate by the number of calculation intervals in a year, and then apply that rate to each interval, resulting in compounding happening from day to day or month to month instead of from year to year. For example, if a nominal annual rate of 10 percent is calculated on daily balance, it means that interest of 10 percent divided by 365, or 0.02739 percent, is added each day of the year, resulting in an effective annual compound rate of 10.52 percent.