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November 4th, 2007 at 11:12 am
Besieged by the non-stop promotion of the consumer life-style everywhere we look and everywhere we go, many people are struggling to cope with consumer debt and the pressure to live a lifestyle that is, to be honest, beyond the means of their available income. However, if you look back at how our grandparents are earlier generations lived, we are currently living in a "golden age". To quote an article in the SMH
"A couple of decades ago, the language of prosperity was almost like a foreign language ... Now, phrases like full employment, stock market highs and the commodities boom roll off the tongue.
Across the board, jobs are plentiful, wages are high and individual wealth continues to rise. There's no doubt this is a golden age of prosperity - possibly the best of economic times Australia has experienced.
And there's no doubt, either, that the economy is surging. The latest figures for the June quarter showed annual growth of 4.4 per cent, the highest for three years. Non-farm GDP growth, which removes the impact of the drought, was at its fastest in almost 13 years at 5.2 per cent."
At the same time, looking forward there are problems with "the limits to growth" that could quite possibly make living conditions much more difficult for our descendants. The apocalyptic prophesies of Malthus and, much more recently, the "club of Rome" turned out to be wrong (or at least premature). But the more recent concerns about climate change (whether or not they are caused by human activity) could mean we run into problems supplying food and water at reasonable cost to everyone. And the commodity boom has some chance of turning out to be a supercycle (or a "peak" in production of many commodities, not just oil) which could lead to ongoing real price increases in resources.
Therefore, there is a least some chance the our current economic situation is just about "as good as it gets". If so, we'd better make the most of this opportunity to build up of families wealth so we have some store of wealth put aside to tide us, or our kids and grandkids, over where the hard times come again. Make hay while the sun shines, for there may be some hard winters ahead for our descendants.
Copyright Enough Wealth
November 2nd, 2007 at 03:28 am
Back on the 12th of August I posted my thought
that it might be a good time to buy some stocks for DS2. At that time the All Ords Index had dropped sharply to 5,965.2 - since then it has rebounded at today was at a new all time high of 6,808.2 (a gain of 14%). Goes to show that you never can tell which way the market will move in the future, but you can be 100% certain where it has been. Looking at a long term plot of the stock market accumulation index, buying when the market had dropped 15% below its recent long-term trend line would almost always turn out to be a good buying opportunity.
However, there are a few problems with this as an investment strategy:
1. When the market has rapidly dropped more than 10-15% you're always worried that it's the start of a bear market that could last several years. As in this case - I delayed buying any stocks for DS1, and could very well never get another opportunity to buy in at those prices.
2. You have to have some spare cash to invest when such opportunities arise - this generally would either mean that you've been sitting on a large cash allocation during a bull market (which would have cost you significant profits), or you'll need to borrow more to invest. And increasing your margin loans when the market has dropped is often very difficult, as it the time when you are most likely to be close to getting a margin call.
Looking at the chart the other thing that comes to mind is that I need to buy some more XAO put options when my current ones expire in December! Although the p/e of the Australian stock isn't out of line with historic averages, and company profits are continuing to grow, the chart does look remarkably similar to previous bubbles - and even just thinking "this time it's different" sends a shudder down my spine.
Copyright Enough Wealth
July 22nd, 2007 at 12:07 pm
In an ideal world my investment asset allocation would be done in the following manner:
1. Determine what initial amount to invest and ongoing savings plan
2. Determine my risk tolerance and any constraints regarding what investment types I choose to invest in (eg. ethical funds, hedge funds etc)
3. Decide my timeframe and investment targets (eg. final amount for retirement, target ROI or whatever)
4. Select an appropriate asset allocation to meet my investment return target with minimal risk (ie. aim for the efficient frontier)
5. Select individual investments to meet my overall asset allocation with consideration of fees, diversification.
6. Rebalance the investments periodically (eg. every year) or when the actual asset allocation differs too much from the target allocation - either by selling investments and reinvesting, or by adjusting what assets new savings are directed into. Bearing in mind transaction costs and capital gains tax effects.
In reality I have a ROI target of 5%-15% for my total networth, excluding annual savings of around $30K. Assuming a CPI of 2%-3% this would mean a real return of around 2% - 12%. But I don't have an overall asset allocation target as I have a large chunk of my net worth tied up in real estate via our home and our rental property, despite preferring to be largely invested in Australian and international shares. The rental property investment was mainly chosen because DW wanted to invest in the property market, and the house - well we both prefer to own our own home rather than rent. I therefore tend to only manage asset allocations within our superannuation account and by having the remainder of my investible assets in stock investments plus some alternative investments (hedge funds, agricultural investments, coins, bullion etc). Given that I have a much larger proportion of my assets in real estate than I would prefer, you'd expect that any additional investments would have been directed towards additional stock purchases, or perhaps some alternative investments. In reality although my personal savings have been directed towards direct stock investments or into my superannuation fund, until recently we had actually been increasing the proportion of our networth tied up in real estate due to our home loan payments reducing the property loan principal over time. We've now got both our home loan and rental property loan setup as "interest only", mainly because DW can't afford her half of the normal P+I loan payments while working part-time, so this will shift our asset allocation
more towards stocks over time.
As you can see, my overall asset allocation is therefore a pretty hit-and-miss affair. So for that reason worrying about fine-tuning asset allocation by rebalancing is a moot point.
Copyright [url=http://enoughwealth.comlEnough Wealth[/url] 2007
June 13th, 2007 at 12:45 pm
An article in today's SMH
shows that the expected boom in superannuation contributions is occuring. Under the rules announced for the introduction of the "Simpler Superannuation" reforms to the Australian retirement savings tax laws, there is a one-off window of opportunuity to contribute up to $1m into your superannuation account before 30 June 2007. This is to "compensate" for the removal of age-based contribution limits with a flat limit of $50K pa of pre-tax (concessional, aka undeducted) contributions and $150K pa of after tax contributions. The new maximum contribution amounts will be indexed to increase in $5K jumps to keep pace with inflation.
This got me thinking about what the maximum amount that can be accumulated during your working life be under the new "Simpler Super" rules. Unlike the model of a minimum wage worker I posted a couple of days ago, this model has to make a few "bold" assumptions:
* the maximum contributions are made each year from age 18 to 65 ie. $50K pa pre-tax contribution via the SGL and salary sacrifice, and $150K pa of undeducted contributions. Although the $50K pre-tax and $150K undeducted contribution limits could easily be reached by a middle-aged, upper-management employee this is unrealistic for the under-30s worker. So this contribution rate would require some outside source of income. For example rich kids with an inheritance or a trust fund. I'm not fussed that very few people would possibly meet this requirement, we're just looking at what the extreme case could be under the new Superannuation rules.
* undeducted contributions aren't taxed on entry into a Superannuation account and pre-tax contributions are taxed at the concessional 15% rate
* the superannuation account is invested in a high-growth asset mix, achieving a real (inflation adjusted) net return (after fees and taxes) of 5% pa average for the 47 year investment period (up to age 65)
So, how much would this theoretical "rich kid" accumulate in their Superannuation account by age 65? Just over $37 million in today's dollars! And this amount can be withdrawn tax-free as a lump sum or a pension after age 60 (when "retired"). And this amount is per person, so a rich couple could accumulate a total of $74 million in this tax-sheltered environment.
As there is no gift tax in Australia, I imagine many rich households will be gifting $150K pa to each of their adult kids each year to put into their SMSF. The main downside of implementing such a strategy would be the legislative risk involved with locking this investment away until age 65. There could easily be further changes to the tax treatment of superannuation in the future.
June 10th, 2007 at 01:35 pm
I've been posting about investment topics that appeal to me, and outlining my current strategies and tactics. But I realise that this may not be terribly relevant to someone just starting out. So, what would I do if I in my early 20s and was just starting out, knowing what I know now?here
1. Draw up a budget and spend less than I earn, so I'm able to put a savings plan into effect. Save up and pay cash for car, holiday etc. than is within my means. Brown bag my lunch, have a 'free' mobile on a $10-$14 a month plan. Don't use SMS, WAP or other services that cost a fortune. Don't waste money on designer clothes or trendy footwear.
2. Have my salary paid directly into an online savings account that pays a high interest rate and allows me to make bill payments via BPay. I have my salary paid into a savings account with Qantas Credit Union which doesn't charge an account keeping fee, provides a free cheque book, provides free ATM access using any bank's ATM machine, provides free online payments via BPay and online transfers to other financial institutions. I can also make a certain number of deposits via Westpac branches for free, which is vital when I receive some income via cheque. The credit union also has a high interest rate online savings account that can be linked to the main savings account. I get all my dividends paid into this account electronically, which makes it easy to keep track of dividends for my annual tax return.
3. Make an undeducted (ie. out of my after tax income) contribution of $1000 pa into my superannuation account (this assumes I'm earning less than $28K so can get the maximum co-contribution of $1500. If I earned more than this, but less than the $58K cut-off, I'd contribute a smaller amount that entitles me to the maximum possible co-contribution. To work this out I use the calculator provided by the ATO
4. Shop around for the best superannuation fund - one with low admin fees, no contribution fees, and suitable investment options. eg. An industry super fund or perhaps a Vanguard Super fund.
5. Invest my super in the high-growth options. With 40 or more years for the investments to grow I'd put 50% in domestic equities, 30% in global equities, and 10% each in real estate and bonds.
6. If investing in real estate I'd save 20% deposit to avoid having to pay mortgage insurance. I'd buy my own home before any investment property so I can qualify for a first owners grant and get stamp duty concessions. I'd check out the property cycle for my city to make sure I'm not buying at the top of a boom phase. A couple of years after prices have dipped in real terms and stabilised is a pretty good time. I'd get a price guide for the suburb I'm looking at (cost around $30) to know what similar properties have sold for in the past year. I'd always inspect a property several times before making an offer. I'd never believe a real estate agent that says he/she has other interested parties coming back later today to make an offer. In fact I'd always check everything that a real estate agent tells me. And I'd make sure I get a building inspection done before exchanging contracts.
7. If investing in stocks, I'd start out investing in index funds. If I wanted to invest in managed funds, I wouldn't pick last years best performers as they seldom stay top for many years in a row. I'd pick ones with low ongoing fees and invest via a discount broker that rebates 100% of the initial fee. If I wanted to invest directly in stocks I'd make sure I diversify by buying 10-12 stocks in different sectors. I'd know that I have to spend time reading and understanding the annual report for each company, comparing basic fundamental ratios to what is reasonable for the sector. I'd be wary of any "bargains" as there's often a reason the market has priced stocks at a discount or a premium. I'd ignore any broker "research", tips, investment newsletters, or investment magazines. But I'd read many investment books, investment magazines and the investment section of newspapers to get an understanding of investment principles and strategies. I'd bear in mind that you can't believe everything you read - be it investment advice in magazines, or the "hard facts" reported in annual reports.
8. I'd read up on asset allocation, the efficient frontier, the history of investing (eg. tulip mania, southsea bubble, UK railway boom, hunt brothers silver corner etc.), and historical average returns and variability of the various asset classes.
9. When my income moved into the higher marginal tax rates I'd look at salary sacrifice into superannuation of any money I wished to invest until retirement age. For shorter investment periods (or to have some money available in case of emergencies or changed life circumstances) I'd use a margin loan (with a modest LVR of less than 50%) to negatively gear a stock portfolio. Where the dividends are less than the tax deductible interest charged on the margin loan balance I'd reduce my taxable income (at the top marginal rate) and 'convert' it into tax-deferred capital gains, that are only taxed at half my marginal tax rate when gains are realised.
10. I'd continue to invest in my education and cross-skill into areas that are in high demand and well remunerated.
May 30th, 2007 at 02:07 pm
I had planned on selling off my portfolio of Australian stocks during the next financial year to reinvest the proceeds within our SMSF, but I've decided against this course of action as the realized capital gains would minimize the benefits of shifting the investment into the tax-sheltered SMSF. Instead I'll just salary sacrifice a large part of my salary into super each year (up to the A$50K deductible contributions limit). Since I'm not planning on selling off my portfolio in the next year I've decided to prepay 12 months interest on the bulk of my margin loan balances, so that I can take the usual tax deduction this financial year. For my Comsec loan I've sent in the paperwork to prepay $100K out of the $116,612.16 loan balance, at an interest rate of 8.75%. If I have any spare income during the year (eg. from takeovers) I'll pay off the remaining $16K of variable rate loan remaining. I'll also prepay $120K of the $150K loan balance on my Leveraged Equities margin loan before the 30th June.
For the next two years I'll be supplementing my salary income with the $34K I withdrew from my superannuation account. This will allow me to salary sacrifice at a high rate for those two years. After that time I'll look at slowly selling some of my Australian stock portfolio each year to allow me to continue salary sacrifice into our SMSF. If I get enough pay rise in the next couple of years to offset the amount I wish to salary sacrifice, I'll retain the existing stock portfolio holdings until I retire, at which time I'll have a very low assessable income (under the new Simpler Super rules pension income isn't taxed after you turn 60) and I could then sell off a portion of my holding each year without accruing much CGT liability. Until 75 I would still be able to contribute the proceeds into super while drawing a pension. After 75 I wouldn't be able to contribute into my own super, but I could start to contribute any excess funds into the super accounts of DS1 and DS2. Under current rules up to $150K a year of undeducted contributions could go into each of their accounts each year. As they will be in their 30s by that time I don't expect that they would be contributing that much into their super accounts yet.
All this planning assumes that the superannuation tax rules don't change much in the next 30 years - a most unrealistic assumption! This plan will obviously have to be updated as the rules and our financial situation changes over time.
Leveraged Equities Account (loan balance $150,000.00, value $316,303.73)
stock qty price mkt value margin
AAN 295 $15.22 $4,489.90 70%
AEO 1,405 $2.04 $2,866.20 65%
AGK 510 $15.32 $7,813.20 70%
AMP 735 $10.01 $7,357.35 75%
ANN 480 $12.00 $5,760.00 70%
ANZ 1,107 $28.78 $31,859.46 75%
BHP 748 $31.06 $23,232.88 75%
BSL 781 $11.27 $8,801.87 70%
CDF 6,943 $2.02 $14,024.86 70%
CHB 118 $51.01 $6,019.18 65%
DJS 2,000 $5.13 $10,260.00 65%
FGL 3,751 $6.27 $23,518.77 75%
LLC 481 $19.82 $9,533.42 70%
NAB 316 $42.40 $13,398.40 75%
QAN 2,175 $5.06 $11,005.50 70%
QBE 983 $31.56 $31,023.48 75%
SGM 830 $27.08 $22,476.40 70%
SUN 963 $21.16 $20,377.08 75%
SYB 2,880 $4.37 $12,585.60 70%
TLS 5,000 $4.78 $23,900.00 80%
TLSCA 3,000 $3.31 $9,930.00 80%
VRL 1,500 $3.20 $4,800.00 60%
WDC 783 $20.77 $16,262.91 75%
Comsec Account (loan balance $116,612.16, value $229,848.59)
stock qty price mkt value margin
AGK 240 $15.32 $3,676.80 70%
AAN 139 $15.23 $2,116.97 70%
APA 4,644 $4.22 $19,597.68 70%
ASX 200 $48.39 $9,678.00 70%
CBA 130 $55.03 $7,153.90 75%
CDF 43,997 $2.02 $88,873.94 70%
IPEO 54,000 $0.019 $1,026.00 0%
IPE 8,000 $0.995 $7,960.00 60%
IFL 1,300 $10.25 $13,325.00 60%
LDW 1,350 $7.81 $10,543.50 0%
NCM 300 $21.68 $6,504.00 60%
OST 2,000 $6.52 $13,040.00 70%
QBE 607 $31.60 $19,181.20 75%
RIO 60 $94.55 $5,673.00 75%
THG 4,000 $1.02 $4,080.00 50%
WBC 300 $26.03 $7,809.00 75%
WPL 220 $43.68 $9,609.60 75%
Changes to portfolio since last update:
I sold my Qantas shares on the market for $5.39 on the last day before the takeover offer closed. I guessed correctly that the APA offer would fail to reach the required acceptances to proceed, and over the next few days the QAN share price dropped, as had been expected. However I had expected the price would drop to under $5.00. In fact the stock price has since increased after the Qantas management released an upbeat assessment of their prospects, and is now trading around $5.60. The proceeds of the sale reduced my loan balance below the $150K I had prepaid interest on for this financial year, so Leveraged Equities automatically moved the surplus amount into the linked Cash Management Account so I'm at least getting some interest on this bit of borrowed money.
My AMP holding increased by 15 shares due to a dividend reinvestment. I no longer enrol in DRP for new stocks I buy as there is little if any price discount and the hassles of keeping records for CGT calculation outweighs the benefits. I simply use dividends to help pay the interest on my margin loans.
My QBE holding increased by 17 shares due to a dividend reinvestment.
My SUN holding increased by 113 shares due to a Share Purchase Plan offer I took up.
My SYB holding increased by 32 shares due to a dividend reinvestment. This company is currently subject to a take over offer, which pushed the price up from $3.70 to $4.37. As the offer is a cash plus stock mix I may decide to sell my holding on the market rather than accept the offer.
May 29th, 2007 at 09:59 am
I happened to come across the website for Shearwater Capital
the other day. Their investment approach seems sensible and their published fees reasonable, but that isn't what caught my eye. I was more interested in their model portfolios and using the data on the 20-year performance to evaluate the effectiveness of gearing as an investment strategy.
Looking at their "Aggressive" portfolio (80% stocks/20% bonds, which is similar to my target asset allocation) you have a Twenty Years Annualized Return of 12.3% with a Thirty Three-Year Model Annualized Standard Deviation 11.8%. The "Very Aggressive" portfolio (100% stocks) has a Twenty Years Annualized Return of 13.7%, but the Thirty Three-Year Model Annualized Standard Deviation shoots up to 14.6%.
This shows that, as can be expected from modeling of the efficient frontier of a portfolio composed mainly of stock and bonds, the optimum return-risk outcome is achieved from a portfolio comprised mostly of stocks, but with some bonds included. The mix within the stock component is usually around 60% domestic:40% foreign, although in various ten-year periods you would have done better with the opposite ratio (so a 50:50 split may be a good bet).
Moving from the "Aggressive" to "Very Aggressive" asset mix boosted returns by 11.38%, but the "risk" (variability of returns, as measured by the Standard Deviation) increased by 23.73%.
For this reason, if you are seeking higher returns over long time periods, it seems a better strategy to use gearing of an "Agressive" portfolio, rather than moving to a "Very Agressive" portfolio.
Taking the Twenty Years Annualized Return of the "Very Conservative" portfolio (100% bonds) as a proxy for the interest rate cost of gearing (via margin loans or a real-estate backed investment loan such as a HELOC), one can make a rough estimate of the Twenty Years Annualized Return and Thirty Three-Year Model Annualized Standard Deviation that would result from a 100% geared (50% LVR) "Aggressive" portfolio:
Return Std Devn
Ungeared "Aggressive" 12.3% 11.8%
Estimated Cost of Loan 5.9% 2.4%
Estimated 100% geared 18.7% 23.6%
Estimated 22% geared 13.7% 14.4%
Ungeared "Very Aggres." 13.7% 14.6%
Using gearing could therefore increase your average returns by 52.03% at the cost of increasing standard deviation by 100%. This is somewhat better than shifting your asset allocation from "Agressive" to "Very Aggressive". However, the absolute "risk" has increased 100% compared to 23.73%, so the strategy of making use of 100% gearing ratios should probably be called "Hyper Aggressive". A more modest use of gearing (say, 22%) would produce similar average return as a "Very Aggressive" asset allocation, but with a slightly lower standard deviation.
It was interesting to see that the returns for the 100% geared "Aggressive" portfolio are very similar to the long-term increase in value of my own investment portfolio. When I started out I didn't use gearing and had a more conservative asset allocation, but this was offset by the relatively large impact my savings had at that stage. These days my savings have a more modest impact on my overall increase.
One final note, when using gearing the cost of funds (interest rate and any annual fees) can have a major impact on the long-term performance of this strategy, so it is worth shopping around.