But investors should not expect a repeat of the spectacular returns of the past year.
Thanks to the phenomenal recovery of the local share market, investors in domestic equity unit trust funds had reason to smile at the end of the year to March 31.
The outlook for equities in the year ahead is more subdued, so don't expect a re-run of returns of between 30 and 60 percent. But you could still earn a return of anything from 10 to 20 percent on your investment.
Currently, share prices are not expensive, fund managers say, and they expect equities to show good growth in the year ahead.
At the end of the first quarter last year, the average price-to-earnings ratio (p:e) of the market was about nine or 10 times. Now, the average p:e of the local market is about 14.5 times, Tim Allsop, the manager of the top-performing general equity fund over three years, the Nedbank Rainmaker fund, says.
The p:e of a market compares the price of shares to their earnings. A low price gives a low p:e, and a low p:e means it will take less time for you to recoup what you spent on shares from their earnings.
Allsop says a p:e of 14.5 times is not expensive, but it does mean that returns will be more modest than they have been in the past year.
Allsop says he is optimistic, but cautious about the outlook for local equities. His main concern, he says, is interest rates, which now appear to be on an upward trend globally.
Pieter Koekemoer, the head of retail for Coronation Fund Managers, says the market's current p:e is in line with its long-term average, and so shares are fairly priced.
He says the returns of the past year will not be repeated, because they were not the result of an increase in companies' earnings, but reflected an increase in what the market was prepared to pay for shares.
Koekemoer says if the rand remains stable or weakens slightly, returns on equity funds should be at least in the 10-to-15 percent range.
Gail Daniel, the head of equities and a director of Investec Asset Management (IAM), says IAM is expecting returns of about 20 percent for the year ahead.
Daniel says local equity funds are still an investor's best bet, because the valuations of shares on our market are cheaper than those of shares on overseas markets. And investors can get more from the dividend yield of most local shares than they can from cash investments, she says. In addition, shares have the potential to give you capital appreciation.
The ranking of the domestic equity funds (see tables) on their average returns, reflects, to some extent, the effect of the stronger rand on the local economy. Industrial funds, on average, were the best performers over one year, followed by smaller companies funds, which are still the best performers over three years.
Industrial funds have benefited from being invested in retail shares. Daniel says retail shares have done well as a result of low interest rates and an increase in real (after-inflation) wages.
Smaller companies shares are dominated by industrial shares and they typically benefit when the rand strengthens, Ricco Friedrich, the fund manager of the Sanlam Small Cap fund, says. Sanlam's Small Cap fund was the top-performing fund out of all the unit trust funds for the year to March 31, 2004, returning 64.07 percent (after costs).
Friedrich says when the rand strengthens, investors who are underweight in rand-sensitive stocks usually favour the small cap sector, which is biased towards the local economy. He says the strong position of the consumer has supported economic growth, which has benefited the small cap sector.
Looking ahead, Friedrich says the valuations of small cap shares are still attractive and these shares should deliver good returns, albeit not as strong as that of the past year.
However, if the rand weakens significantly against other major currencies, the smaller companies sector will suffer, Friedrich says.
Large cap funds have, on average, performed less well over the past year, because large caps are to some extent exposed to the bigger companies that export or have offshore earnings, and are thus negatively affected by the strength of the rand.
Resources and basic industries funds have under-performed other domestic equity funds, but still delivered an average return of 21.9 percent for the year. And over three years, resources funds are one of the better-performing sectors.
Generally, the shorter-term decline in these funds' fortunes can be attributed to the effect of the strong rand on mining companies, which are often big exporters. Nevertheless, a global demand for commodities has kept them from doing really badly.
Looking at the average returns over one year, after the small companies and industrial funds, the next best-performing categories are the value and growth funds. Both value and growth funds have had a good year because the market was cheap and shares had good growth, Daniel says.
Value investors typically look for shares that are undervalued, while growth investors look for shares that are likely to grow their earnings.
Looking ahead, Daniel says, the market is not as cheap as it was a year ago and so value shares will be scarce. Growth shares on the other hand will be more abundant, because a number of local companies are expected to have good earnings.
As a result, Daniel says, value funds are likely to perform better because investors on the stock market will pay more for value counters.
Over one year, the domestic asset allocation funds (which can invest in equities, bonds or cash and change their exposure to these classes) are ranked much in line with their exposure to equities. The funds that in terms of their mandates can invest more in equities, such as the prudential high equity funds, have generally done, better than those that invest less in equities, such as the prudential low equity funds.
Flexible property funds, which move between listed property and cash investments, have moved down in the performance rankings from the fifth best-performing category, on average, over three years, to a much more modest position over one year.
Koekemoer says investors should not expect the same returns from property funds that they have enjoyed over the past three to five years, because this sector has re-rated significantly over this period. Expect returns in the low teens in the year ahead, he says, because there will be lower capital appreciation despite an improvement in the demand for commercial and retail property.
Money market funds have out-performed bond and income funds over one year. Koekemoer says this is a result of an expected increase in interest rates later this year or early next year. He says an expected increase in interest rates does not affect the value of shorter-term instruments in which money market funds invest, but it does affect the longer-term instruments in which bond and income funds invest.
Over the three-year period, however, bonds and income funds have still out-performed money market investments, a reflection of the good returns that funds invested in longer-term instruments had when interest rates were falling.
Koekemoer says Coronation expects bonds to remain under pressure in the short term. However, this does not mean you should sell all the bonds in your portfolio just because the short-term outlook is not good.
He says it is likely that the upward movement of interest rates will be temporary, in line with a temporary increase in inflation beyond the targeted three to six percent range.
Attempting to increase your short-term returns could expose you to more risk, Koekemoer says.
Most of the rand-denominated foreign and worldwide funds, have on average, over one year, produced lower returns than the other categories thanks to the strengthening of the rand over this period. The top-performing category among them is the worldwide asset allocation flexible fund category.
Coronation's Optimum Growth fund is the top performer in this category over three years with a return, after costs, of 13.77 percent a year.
Koekemoer says the worldwide flexible funds have out-performed other offshore rand-denominated funds because these funds have had less exposure to offshore markets than other foreign funds. Typically, he says, they have had about 40 percent in local equities.
Worldwide funds only have to invest 30 percent of their assets offshore at all times, whereas foreign funds must invest at least 85 percent outside of South Africa at all times.