People tend to think they are less relatively wealthy than they are. You can check out your perceptions against reality for a number of countries here. I'm not surprised. According to the official statistics we are in the top 4% of households in Australia by wealth. But looking around, it certainly doesn't feel like that could be true.
Our house is only valued a few percent above the median for our city. Our car is a 15 year old Ford when it feels like the roads are full of luxury vehicles. But it's not like we are saving like crazy. In 2018, we spent almost all of what we earned from salaries. Apparently, a lot of people feel the same way.
Monday, February 04, 2019
Friday, February 01, 2019
January 2019 Report
In January stock markets rebounded but because the Australian Dollar rose, we didn't gain a lot in Australian Dollar terms. The Australian Dollar rose from USD 0.7049 to USD 0.7274 The MSCI World Index rose 7.93% and the S&P 500 8.01%. The ASX 200 rose 3.87%. All these are total returns including dividends. We gained 0.49% in Australian Dollar terms and 3.79% in US Dollar terms. So, we underperformed the markets. This is not surprising given the weight of cash and bonds in our portfolio. Our currency neutral rate of return was 1.89%. I estimate that the target portfolio gained 1.57% in Australian Dollar terms.
Here again is a detailed report on the performance of all investments:
The table also shows the shares of these investments in net worth. At the bottom of the table I also included the Australian Dollars return from foreign currency movements and other net investment gains and losses - net interest and fees. The loss on the apartment is the estimated sale costs.
Things that worked very well this month:
The main driver is continued movement of cash from my US bank account to Interactive Brokers where I am buying bonds before eventually transferring some of the money to our Australian bank accounts when the broker allows. Also, we sold the apartment we inherited.
On a regular basis, we also invest AUD 2k monthly in a set of managed funds, and there are also retirement contributions. Then there are distributions from funds and dividends. Other moves this month:
Here again is a detailed report on the performance of all investments:
Things that worked very well this month:
- The China Fund - the fund has announced a tender for 30% of outstanding shares at 99% of NAV. The share price is rising towards NAV as a result. I tendered my shares into the buyback. At least it will probably realise a small capital loss.
- Pershing Square Holdings. This bounced back nicely from December losses and we are now up in this investment.
- Unisuper. This is after a steep fall in previous months. I continue to be surprised how much higher the beta of Unisuper is compared to PSS(AP). Both are public sector superannuation funds and we supposedly have a similarly aggressive stance in each.
- US Dollars - The Australian Dollar rose, especially after the statement from Jerome Powell.
- Cadence Capital - It continues to lose money and is now our third worst investment ever in terms of dollars lost. The fund manager explained that they focus heavily on value stocks and those got trashed.
- Yellowbrickroad...
On a regular basis, we also invest AUD 2k monthly in a set of managed funds, and there are also retirement contributions. Then there are distributions from funds and dividends. Other moves this month:
- I moved AUD 30k from the CFS Geared Share Fund back to the CFS Conservative Fund in my CFS superannuation account. I originally moved this money in October to CFS Geared Share Fund. I made a small profit on the roundtrip trade, but the main motivation for closing the trade was to reduce risk.
- I bought 1558 shares in OCP.AX at AUD 2.07 a share just because they were being offered so low.
- I sold 15,000 shares in PMC.AX and bought 5000 shares in PIXX.AX as the PMC premium to NAV was still high.
- I bought AUD 24k during the "flash crash" and sold them after the Australian Dollar recovered a few cents.
- I bought 1000 shares of PERLS XI as I can't move the Australian Dollars I bought in December to our Australian bank account yet.
- I bought USD 100k of treasury bills maturing in February.
- I bought USD 100k of Santander UK bonds maturing in March.
- I bought 1000 shares of the gold ETF, IAU.
Wednesday, January 30, 2019
Understanding Increase in Spending Better
I wanted to understand why spending in the 2018 calendar year was up 28% on 2017. The first step was computing a spending breakdown for the 2017-18 financial year. The period is different and the definitions of income and spending are different than in my usual accounts to make it more comparable with other income and spending breakdowns on the web. I now computed the spending breakdown for the second half of 2018 and we can compare monthly spending in this period to that in 2017-18:
Spending was up by 7.5%. So not as dramatic a growth rate. The biggest difference between the two periods, is that in the first period we spent a lot on travel and in the second on health. In fact, the travel spending was mainly in the second half of 2017-18 - i.e. in the first half of 2018. So, 2018 had high spending because of both travel and health spending being up strongly on 2017. The way I usually compute spending and income is to include any refunds for medical spending as income rather than reducing spending by the amount of the refund, which I am doing here. So, that pushed up spending even more. I'm glad I now understand why our spending increased so much.
Another major change is that cash spending was down in the second half of 2018. That was because I had access to the statement for my Qantas Cash card – only the last 13 months is online. In the previous period, I treated all spending on the card as cash spending.
Going forward, I expect medical expenses to be lower this half year and travel expenses to be much lower than in the first half of 2018. Given that, 2019 calendar year spending might be lower than 2018 spending.
Spending was up by 7.5%. So not as dramatic a growth rate. The biggest difference between the two periods, is that in the first period we spent a lot on travel and in the second on health. In fact, the travel spending was mainly in the second half of 2017-18 - i.e. in the first half of 2018. So, 2018 had high spending because of both travel and health spending being up strongly on 2017. The way I usually compute spending and income is to include any refunds for medical spending as income rather than reducing spending by the amount of the refund, which I am doing here. So, that pushed up spending even more. I'm glad I now understand why our spending increased so much.
Another major change is that cash spending was down in the second half of 2018. That was because I had access to the statement for my Qantas Cash card – only the last 13 months is online. In the previous period, I treated all spending on the card as cash spending.
Going forward, I expect medical expenses to be lower this half year and travel expenses to be much lower than in the first half of 2018. Given that, 2019 calendar year spending might be lower than 2018 spending.
Tuesday, January 29, 2019
Gold
Put my toes into the water by buying a small 0.5% position using the IAU ETF. I've posted about gold previously and it is in our long-term allocation to allocate 6% to gold.
Saturday, January 26, 2019
Spending Breakdown
After a discussion with friends at lunch yesterday and some blogposts I read recently, I decided to try to find out what we are spending on. I haven't done this in more than two decades I think. I looked at the 2017-18 financial year so that I can also easily include official income and tax figures in the total. It's all in Australian Dollars of course:
Income is gross income from our tax returns plus employer superannuation contributions which which don't enter taxable income. Income includes salaries and investment income etc.
Next we deduct taxes. As franking credits – tax credits for corporation tax paid by Australian companies are included in taxable income, they need to be deducted as we don't actually get the cash. Then there is 15% tax on superannuation (retirement) contributions. In total tax is 26% of gross income. Next I deduct some financial costs that are deducted from gross income to get to taxable income. There are more of these deductions actually, but some I have included in our spending.
Of the AUD 216k of net income half was spent and half saved.
The big spending items are mortgage interest, supermarkets etc, cash spending, mail order, childcare etc, and travel (flights, accomodation etc). Cash spending includes both spending actual cash and spending using our Qantas cash cards. I haven't gone into the accounts for the latter, though maybe I should. Some of the other spending categories very low compared to the actual amount spent on these because a lot of the spending is in cash. Possibly the most important of these is restaurants. Yes, there is a lot of fuzziness in these numbers because we don't budget and spend a lot in cash.
Am happy to get feedback on how we can save money, though I'm not really into "frugality" for it's own sake. Or maybe you would just like to compare the differences with other posted spending breakdowns.
P.S.
Qantas only provide online statements for the last 13 months. So, I can't now do a breakdown of those accounts for 2017-18. Maybe next year.
Income is gross income from our tax returns plus employer superannuation contributions which which don't enter taxable income. Income includes salaries and investment income etc.
Next we deduct taxes. As franking credits – tax credits for corporation tax paid by Australian companies are included in taxable income, they need to be deducted as we don't actually get the cash. Then there is 15% tax on superannuation (retirement) contributions. In total tax is 26% of gross income. Next I deduct some financial costs that are deducted from gross income to get to taxable income. There are more of these deductions actually, but some I have included in our spending.
Of the AUD 216k of net income half was spent and half saved.
The big spending items are mortgage interest, supermarkets etc, cash spending, mail order, childcare etc, and travel (flights, accomodation etc). Cash spending includes both spending actual cash and spending using our Qantas cash cards. I haven't gone into the accounts for the latter, though maybe I should. Some of the other spending categories very low compared to the actual amount spent on these because a lot of the spending is in cash. Possibly the most important of these is restaurants. Yes, there is a lot of fuzziness in these numbers because we don't budget and spend a lot in cash.
Am happy to get feedback on how we can save money, though I'm not really into "frugality" for it's own sake. Or maybe you would just like to compare the differences with other posted spending breakdowns.
P.S.
Qantas only provide online statements for the last 13 months. So, I can't now do a breakdown of those accounts for 2017-18. Maybe next year.
Friday, January 25, 2019
New Investment: Santander UK
Bought my first US corporate bond - a Santander UK bond maturing on 14 March. This supposedly gives a yield per annum of about 2.85%, which is more than treasuries of the same maturity. The original coupon on the bond is 4.2575%, so it is trading at a price of above 100. It pays quarterly interest. Fees for trading corporate bonds are higher than for treasury bonds at Interactive Brokers, but I still figured it was worth it.
Santander UK is the result of the merger of three former UK "building societies" - a bit like credit unions. It is owned by Spain's Banco Santander group but is managed separately. The maturity date is before the scheduled Brexit date on 29 March, so I figure Brexit shouldn't affect getting paid when the bond matures. The bonds are denominated in US Dollars not Sterling.
Tuesday, January 22, 2019
Interesting Paper from GMO on Bursting Stock Market Bubbles and Anti-Bubbles
Here is the paper. Yes, they think that we were in a bubble in 2017 and much of 2018 and the last quarter of 2018 was the beginning of the bursting of the bubble. The problem with the CAPE measure of valuation they use is that it is so backward-looking. If profits are growing fast, CAPE will be high because it uses the average profits of the last 10 years. It has the built-in assumption that profits growth is very strongly mean-reverting.
Monday, January 21, 2019
Likely Political and Economic Scenario for Australia
A couple of days ago I posted a list of all 12 of Labor's proposed tax increases. How likely is it that these will actually be enacted? Labor is unlikely to gain control of the Senate. So, they will need the support of minor parties and independents to push through their program. A quite likely scenario is that there will be a recession in 2020 and the minor parties will be very resistant to raising taxes in those conditions, especially on housing. Or Labor will decide to postpone some of the proposals in reaction to a recession. Then Labor is likely to not be re-elected in 3 years if unemployment is rising etc. So, at this point I would put even odds on most of this agenda being enacted.
Sunday, January 20, 2019
How Has Yale Done Since the Financial Crisis?
Just following up on Financial Independence's comment on my post linking David Svensen's 2008 lecture. How has Yale done since Svensen's lecture? It is easy to find out by checking the endowment's annual reports. Yale's financial year is from July 1st to June 30th. The graph shows Yale's total return index against the MSCI, S&P 500, and HFRI, where the others are all calculated on a July to June basis too.
Yale has performed quite well, eventually outperforming the MSCI World Index, but underperforming the S&P 500. Yale's diversification didn't help in the financial crisis. Their returns were just as negative as those of the MSCI and the S&P 500 in 2008-9. By contrast, the HFRI suffered only small losses in 2008-9. The bottom line is that Yale's returns are quite similar to an equity index.
Here is their asset allocation over the years:
Prior to 2013 they didn't report venture capital separately from buyout funds and so "Leveraged Buyouts" represents all private equity in the earlier years. Also, prior to 2009 they didn't report real estate and natural resources separately and so "natural resources" covers both. Over the years they have increased private equity and foreign stocks and reduced real estate and domestic stocks.
Yale has performed quite well, eventually outperforming the MSCI World Index, but underperforming the S&P 500. Yale's diversification didn't help in the financial crisis. Their returns were just as negative as those of the MSCI and the S&P 500 in 2008-9. By contrast, the HFRI suffered only small losses in 2008-9. The bottom line is that Yale's returns are quite similar to an equity index.
Here is their asset allocation over the years:
Prior to 2013 they didn't report venture capital separately from buyout funds and so "Leveraged Buyouts" represents all private equity in the earlier years. Also, prior to 2009 they didn't report real estate and natural resources separately and so "natural resources" covers both. Over the years they have increased private equity and foreign stocks and reduced real estate and domestic stocks.
The Average Hedge Fund No Longer Produces Alpha
I regressed the excess (above risk free rate) monthly returns of the HFRI fund-weighted hedge fund index on the excess returns of the MSCI All Country World Index (gross returns):
Back at the turn of the century, the hedge fund index had alpha between 5 and 10%. But it collapsed going into the financial crisis and in the most recent 5 year period alpha is -0.17% p.a. Beta is 0.34. The r-squared between the MSCI and HFRI excess returns is 0.86, which is high. So, you might as well invest 34% of your money in global stocks and the rest in cash to replicate the index. Interestingly, a linear trend line rather than an exponential trend line fits the index:
So, it doesn't make sense to invest in hedge funds recently unless you can select an above average fund.
Back at the turn of the century, the hedge fund index had alpha between 5 and 10%. But it collapsed going into the financial crisis and in the most recent 5 year period alpha is -0.17% p.a. Beta is 0.34. The r-squared between the MSCI and HFRI excess returns is 0.86, which is high. So, you might as well invest 34% of your money in global stocks and the rest in cash to replicate the index. Interestingly, a linear trend line rather than an exponential trend line fits the index:
So, it doesn't make sense to invest in hedge funds recently unless you can select an above average fund.
Friday, January 18, 2019
All of Labor's Tax Increases
- Abolish Liberal plan to raise the top tax threshold to $200k: This was supposed to happen in 2024. The top tax bracket will still cut in at $180k (about USD130k) where it has been for many years. Bracket creep is pushing more and more taxpayers into the top bracket. This will affect us if I am still working then. If I'm not, probably my taxable income will be lower.
- Raise the top tax rate: Add 2% to the top rate to raise it to 47%. With Medicare that is 49%. This will immediately raise our taxes.
- Abolish plan to eliminate 37% tax bracket: This also was supposed to happen in 2024, so may not affect us except to the extent of how many franking credits will get used up offsetting our taxes, if I retire by then.
- Repeal already-legislated tax cuts for companies with turnovers of between $10 million and $50 million: Small businesses pay 27.5% corporation tax and larger companies 30%. The government wanted to extend the low rate to larger companies. This is unlikely to directly affect us.
- Reduce the long-term capital gains tax discount to 25%: The discount is now 50%. This will have an immediate impact on us as we have run out of accumulated tax losses. OTOH existing investments will be grandfathered. It makes it more attractive to incorporate and pay CGT of 27.5% instead of 37.5%.
- Abolish refundability of franking credits: Since 2000, if you have excess tax credits from Australian companies beyond those that offset the taxes you need to pay you can get a cash refund. I did benefit from this once or twice soon after we moved to Australia and my income was low. This will have a big impact on superannuation funds in pension phase that have zero tax to pay and possibly even in accumulation phase if they have a lot of franked dividends. It will affect lower income self-funded retirees with money outside superannuation too. Some listed investment companies (closed end funds) are already paying out special dividends to get franking credits out of the fund and to investors before the end of the financial year. On the other hand, I don't think these funds will radically restructure due to this proposal. I don't think it will have a big impact on us as I've planned to put the least tax advantaged investments like managed futures into our planned SMSF. And I expect we would be in the 32.5% tax bracket when retired. If I retire at 60 say and start a superannuation pension we could use franking credits inside our SMSF to offset Moominmama's superannuation earnings tax liability as she is 10 years younger. And then maybe we could add Moomin to the superannuation fund :)
- Abolish negative gearing: This is the ability to deduct investment costs beyond the earnings of an investment from other income. This mainly applies to property investors who mostly lose money in Australia in the short run, hoping for a long-run capital gain. We don't negative gear so it shouldn't affect us. Wealthier property investors who also own shares or other investments will be able to offset their losses in property against dividend and other income. So, like many of the Labor measures they mainly hit lower income investors...
- Tax discretionary trusts as companies: These are trusts that have multiple beneficiaries and can alter what earnings they stream to which beneficiary on a year by year basis. Actually, they are proposing to tax trust distributions at a minimum of 30%. So, it's not like a company which pays 27.5% tax in the case of a small business and then distributes franking credits. I don't see any justification for allowing this kind of tax dodging. However, I think they should just require all trusts to be unit trusts with defined shares and everyone sharing in all income. These operate just like unlisted managed funds (mutual funds). I think most discretionary trusts will just do this if it's allowed.
- Reduce annual non-concessional superannuation contributions to $75k: This would mean it would take us more years to make all the non-concessional contributions we want to make and means I probably should already get one in this financial year.
- Reduce the threshold for 30% superannuation contributions tax to $200k: Currently the threshold is $250k. The threshold includes employer superannuation contributions, so this will definitely affect me.
- Remove the right, already legislated by the government, of
superannuants to make catch-up contributions when their super balance is
less than $500,000: I don't think this is probably a big deal. It will mean stretching contributions over more years.
- Reduce ability to take tax deductions for additional concessional superannuation contributions: People will need to have 90% of their income or more from sources other than employment to do this. I don't understand why concessional contributions for employees are limited to salary-sacrificed contributions and you can't make more concessional contributions unless you really aren't an employee. The Liberals tried to fix this anomaly.
- Limit tax free pensions to $75k per year: Currently you can transfer up to $1.6 million into an account to fund a tax free superannuation pension. At a 4% initial withdrawal rate (required rate for under 65s) that is $64k per year. At 5% (65-74 y.o.) it is $80k per year. So, Labor's proposal is not that restrictive. However, if the $1.6 million earns a lot more than that a year, it will be taxed a lot more than at present.
- Limit deductions for tax advice to $3,000 per year: I am assuming that this won't apply to companies or superannuation funds, just to individuals. In which case, it isn't a big deal.
Thursday, January 17, 2019
David Svensen Lecture at Yale
Svensen is the manager of Yale's endowment. He also gives occasional lectures at Yale.
My investment strategy is strongly influenced by endowment investors like Svensen.
My investment strategy is strongly influenced by endowment investors like Svensen.
Wednesday, January 16, 2019
Moomin Needs a Tax File Number
That's what the bank in Falafelland says... So, I will look today at applying for one for him. I think they should just give them out when you apply for a birth certificate. I don't know if the bank wants it because they just want a permanent ID for him or because it will affect the tax he pays as a foreign beneficiary of a local trust account. Up till now we have been using his passport number as an ID number. But passport numbers aren't permanent. You get assigned a new one every time you renew your passport, which is every 5 years for children.
Saturday, January 12, 2019
Portfolio Charts
Portfolio Charts is a really interesting website where you can do simulations of safe and permanent withdrawal rates and many other things for a range of investment portfolios. These include predefined portfolios and you can also build your own portfolio using a range of ETFs. Here for example is Tony Robbins' version of Ray Dalio's All Weather portfolio:
The orange line gives the withdrawal rate which means that you wouldn't have run out of money if you retired in any year since 1970 and retired for the length of time on the x-axis. The green line is the withdrawal rate that means that you will have at least as much money as you started with in real terms. It's interesting how these go in opposite directions as the length of retirement increases. If you retired for 30 years the permanent withdrawal rate is 3.8%. This portfolio had an average real return of 5.5%. The best performing portfolio in terms of withdrawal rates is the site creator's own "Golden Butterfly" which has 40% stocks, 40% bonds, and 20% gold:
This portfolio had a real return of 6.5%.
An interesting point is that safe and permanent withdrawal rates vary a lot by country. The site allows you to choose the US, UK, Canada, and Germany as home countries. The linked article also includes Australia, but unfortunately the site itself doesn't allow you to do analysis for Australia. A big caveat is, of course, that all this depends on historical returns. If bonds, for example, don't do as well going forward as they did from 1980 till recently then, withdrawal rates are going to be lower. Choice of alternative investments is also limited to gold, a commodities ETF, and a REIT ETF.
The orange line gives the withdrawal rate which means that you wouldn't have run out of money if you retired in any year since 1970 and retired for the length of time on the x-axis. The green line is the withdrawal rate that means that you will have at least as much money as you started with in real terms. It's interesting how these go in opposite directions as the length of retirement increases. If you retired for 30 years the permanent withdrawal rate is 3.8%. This portfolio had an average real return of 5.5%. The best performing portfolio in terms of withdrawal rates is the site creator's own "Golden Butterfly" which has 40% stocks, 40% bonds, and 20% gold:
This portfolio had a real return of 6.5%.
An interesting point is that safe and permanent withdrawal rates vary a lot by country. The site allows you to choose the US, UK, Canada, and Germany as home countries. The linked article also includes Australia, but unfortunately the site itself doesn't allow you to do analysis for Australia. A big caveat is, of course, that all this depends on historical returns. If bonds, for example, don't do as well going forward as they did from 1980 till recently then, withdrawal rates are going to be lower. Choice of alternative investments is also limited to gold, a commodities ETF, and a REIT ETF.
Annual Report 2018
Investment Returns
In Australian Dollar terms we gained 2.3% for the year while the MSCI gained 0.9% and the ASX200 lost 1.1% (all pre-tax including dividends). In USD terms we lost 7.7%, while the MSCI lost 8.9% and the S&P500 lost 4.4%. So we beat Australian and international markets but not the US market. In the longer term perspective, our returns and market returns were closely aligned this year:
Here are returns over various standard periods (not annualized):
We have done well compared to the ASX 200 over the last 5 years. Not as great over 10 years. In USD terms we have done well compared to the MSCI over the last three years and underperformed over longer time periods.
Investment Allocation
The main change in allocation over the year is the large increase in cash and real estate when we received the inheritance:
I also reduced my allocation to Australian large cap stocks around the same time, in early October. Earlier in the year, the allocation to cash falls as we increased trading and invested more in the Winton Global Alpha Fund (commodities) and subscribed to some IPOs. Private equity also increased with investment in Aura and IPE and then decreased with the takeover of IPE.
Accounts
I stopped reporting monthly accounts this year, but I've still been computing them. Here are our annual accounts in Australian Dollars without including the inheritance:
We earned $170k after tax in salary, business related refunds, medical payment refunds, tax refunds etc. We earned (pre-tax including unrealised capital gains) $35k on non-retirement account investments. Both of those numbers were down strongly from last year. I stepped down from an admin role that paid extra salary and earned less in consulting etc. The investment numbers would have been worse without trading and the fall in the Australian Dollar ($31k in "forex" gain). Total current after tax income was $204k. Not including mortgage interest we spent $117k – Total actual spending including mortgage interest was $133k.
$9k of the current pre-tax investment income was tax credits – we don't actually get that money so we need to deduct it. Finally, we transferred $45k in mortgage payments (and virtual saved interest) to the housing account. The change in current net worth, was therefore $34k. Looking at just saving from non-investment income, we saved $8k. Both these numbers are down steeply from last year.
The retirement account is a bit simpler. We made $38k in contributions (after the 15% contribution tax) and the value fell by an estimated $23k in pre tax returns. $4k in "tax credits" is an adjustment needed to get from the number I calculate as a pre-tax return to the after tax number. Taxe on returns are just estimated because all we get to see is the after tax returns. I do this exercise to make retirement and non-retirement returns comparable. Net worth of retirement accounts increased by $19k.
Finally, the housing account. We spent $16k on mortgage interest. We would have paid $24k in mortgage interest if we didn't have an offset account. I estimate our house is worth $24k more than I did last year based on recent sales in our neighbourhood. After counting the transfer of $45k into the housing account housing equity increased $46k of which $23k was due to paying off principal on our mortgage.
Total net worth increased by $99k, $69k of which was saving from non-investment sources. Comparing 2018's accounts with 2017's, we saved 49% less and net worth increased by 79% less. Total after tax income was almost $230k, down 60% on last year. This number feels a lot more "reasonable" than last year.
Though our saving is down sharply on last year, we still saved in total 33% of our after tax non-investment income. Of course, this is less than last year's 50%. Including investment income our savings rate was 43%.
Here are the same accounts expressed in US Dollars:
How Does This Compare to My Projection for This Year?
At the beginning of the year, I projected a gain in net worth of $250k based on an 8% return on investments and a 6% increase in spending. As you can see, spending rose 25% and return on investments was only 2%. As a result net worth increased by only $99k.
Looking to 2019, I think we will be lucky if our investment return is 0%, as I am quite bearish about the world economy and stockmarket. If I pencil in a 6% rise in spending, then we would only increase net worth by $60k.
In Australian Dollar terms we gained 2.3% for the year while the MSCI gained 0.9% and the ASX200 lost 1.1% (all pre-tax including dividends). In USD terms we lost 7.7%, while the MSCI lost 8.9% and the S&P500 lost 4.4%. So we beat Australian and international markets but not the US market. In the longer term perspective, our returns and market returns were closely aligned this year:
Australian Dollar Returns
Here are returns over various standard periods (not annualized):
We have done well compared to the ASX 200 over the last 5 years. Not as great over 10 years. In USD terms we have done well compared to the MSCI over the last three years and underperformed over longer time periods.
Investment Allocation
The main change in allocation over the year is the large increase in cash and real estate when we received the inheritance:
Accounts
I stopped reporting monthly accounts this year, but I've still been computing them. Here are our annual accounts in Australian Dollars without including the inheritance:
Annual Accounts
There are lots of quirks in the way I compute the accounts, which have gradually evolved over time. Here is an explanation:
Current account is all
non-retirement accounts and housing account income and spending. Then
the other two are fairly self-explanatory. But housing spending only
includes mortgage interest. Property taxes etc. are included in the
current account. There is not a lot of logic to this except the
"transfer to housing" is measured using the transfer from our checking
account to our mortgage account. Current other income is reported after
tax, while investment income is reported pre-tax. Net tax on investment
income then gets subtracted from current income as our annual tax refund
or extra payment gets included there. Retirement investment income gets
reported pre-tax too while retirement contributions are after tax. For
retirement accounts, "tax credits" is the imputed tax on investment
earnings which is used to compute pre-tax earnings from the actual
received amounts. For non-retirement accounts, "tax credits" are actual franking credits
received on Australian dividends and the tax withheld on foreign
investment income. Both of these are included in the pre-tax earning but
are not actually received month to month as cash.... Finally, "core
expenditure" for housing is the actual mortgage interest we paid.
"Expenditure" adds back how much interest we saved by keeping money in
our offset account.
We include that saved interest in the current account as the earnings
of that pile of cash. That virtual earning needs to be spent somewhere
to balance the accounts... It is also included in the "transfer to
housing". Our actual mortgage payments were less than the number
reported by the $6k in saved interest. For current accounts "core
expenditure" takes out business expenses that will be refunded by our
employers and some one-off expenditures. This year, I think there are
none of those one-off expenditures. "Saving" is the difference
between "other income" net of transfers to other columns and spending in
that column, while "change in net worth" also includes the investment
income.
We earned $170k after tax in salary, business related refunds, medical payment refunds, tax refunds etc. We earned (pre-tax including unrealised capital gains) $35k on non-retirement account investments. Both of those numbers were down strongly from last year. I stepped down from an admin role that paid extra salary and earned less in consulting etc. The investment numbers would have been worse without trading and the fall in the Australian Dollar ($31k in "forex" gain). Total current after tax income was $204k. Not including mortgage interest we spent $117k – Total actual spending including mortgage interest was $133k.
$9k of the current pre-tax investment income was tax credits – we don't actually get that money so we need to deduct it. Finally, we transferred $45k in mortgage payments (and virtual saved interest) to the housing account. The change in current net worth, was therefore $34k. Looking at just saving from non-investment income, we saved $8k. Both these numbers are down steeply from last year.
The retirement account is a bit simpler. We made $38k in contributions (after the 15% contribution tax) and the value fell by an estimated $23k in pre tax returns. $4k in "tax credits" is an adjustment needed to get from the number I calculate as a pre-tax return to the after tax number. Taxe on returns are just estimated because all we get to see is the after tax returns. I do this exercise to make retirement and non-retirement returns comparable. Net worth of retirement accounts increased by $19k.
Finally, the housing account. We spent $16k on mortgage interest. We would have paid $24k in mortgage interest if we didn't have an offset account. I estimate our house is worth $24k more than I did last year based on recent sales in our neighbourhood. After counting the transfer of $45k into the housing account housing equity increased $46k of which $23k was due to paying off principal on our mortgage.
Total net worth increased by $99k, $69k of which was saving from non-investment sources. Comparing 2018's accounts with 2017's, we saved 49% less and net worth increased by 79% less. Total after tax income was almost $230k, down 60% on last year. This number feels a lot more "reasonable" than last year.
Though our saving is down sharply on last year, we still saved in total 33% of our after tax non-investment income. Of course, this is less than last year's 50%. Including investment income our savings rate was 43%.
Here are the same accounts expressed in US Dollars:
How Does This Compare to My Projection for This Year?
At the beginning of the year, I projected a gain in net worth of $250k based on an 8% return on investments and a 6% increase in spending. As you can see, spending rose 25% and return on investments was only 2%. As a result net worth increased by only $99k.
Looking to 2019, I think we will be lucky if our investment return is 0%, as I am quite bearish about the world economy and stockmarket. If I pencil in a 6% rise in spending, then we would only increase net worth by $60k.
New Investment: U.S. Treasury Bills
Interactive Brokers currently pays 1.7% interest on U.S. Dollars. But U.S. government bonds pay more than that and are supposedly risk free, so I thought I would give it a try. I am concerned that U.S. interest rates could still rise and so I don't want longer term bonds. So, I just bought a U.S. Treasury Bill expiring on 12 February. My idea is when that matures, I'll put part of the proceeds towards buying Australian Dollars. I plan to build a ladder of these and so force myself to buy Australian Dollars slowly.
At IB the commission for buying bonds is $5 and it turns out that the minimum trade size for treasuries is $100k. This isn't stated anywhere, but when I tried buying $50k last week, I got a message that my trade size was too small, whereas this trade went through. I'm gradually moving U.S. Dollars to my IB account - I can move up to $100k every 7 business days using the ACH method.
I've thought about municipal and corporate bonds too, but these can be illiquid. For example, for the nearest term Berkshire Hathaway bond, only $1000 is currently being offered.
At IB the commission for buying bonds is $5 and it turns out that the minimum trade size for treasuries is $100k. This isn't stated anywhere, but when I tried buying $50k last week, I got a message that my trade size was too small, whereas this trade went through. I'm gradually moving U.S. Dollars to my IB account - I can move up to $100k every 7 business days using the ACH method.
I've thought about municipal and corporate bonds too, but these can be illiquid. For example, for the nearest term Berkshire Hathaway bond, only $1000 is currently being offered.
Wednesday, January 09, 2019
Investment Policy for Trust Accounts
My brother is opening the trust accounts. They will be invested in local mutual funds. Unlike Australian or US managed or mutual funds these do not make distributions but like an Australian listed investment company (closed end fund) they pay tax on their earnings. The tax though is the relevant investment rate not the corporation tax. This is 25% of the inflation adjusted gain. Also, if you sell a mutual fund in Falafelland 25% capital gains tax is withheld. Looks like we can't really avoid this tax. Foreign tax paid is not refundable as cash in Australia – it can only be deducted against Australian tax liable.* Because my son's earnings would be way below the tax free threshold (initially each of these accounts will have about AUD 44k in them) he wouldn't need to pay tax if the investment funds were based in Australia.
My brother suggested investing 70% in bonds and 30% in stocks. As a long-term investment policy – we will be investing for the next 20 years for my son – I think this is too conservative.
This is both because in the long run stocks have performed better than bonds in most countries but also because interest rates are now low. This chart shows the real returns on US investments over the last century:
Since 1980, bonds did well as interest rates fell from historic highs. But in the 40 years up to 1980 bonds lost money in real terms as interest rates rose. So, I told him if we are adopting a "set and forget" investment policy then we should go for 60% stocks and 40% bonds. The mix between local and international investments should be 50/50. The local market is one of the cheaper ones globally.
OTOH the local currency is quite strong currently. If we can revisit investment policy periodically then 70% bonds is OK for now. If there is a future larger decline in stock markets we would then switch to a more aggressive stance.
My brother's children are much older and so their trust accounts will exist for less time. If they intend to spend the money when they get it then I guess a more conservative stance might make sense. The youngest though will still need to wait 9 years to get her money so I think she can be more aggressive.
* Labor wants to make franking credits from Australian companies non-refundable as well. This would bring back symmetry in the way these credits are treated. Of course, I think we should go in the other direction and make foreign tax refundable :)
My brother suggested investing 70% in bonds and 30% in stocks. As a long-term investment policy – we will be investing for the next 20 years for my son – I think this is too conservative.
This is both because in the long run stocks have performed better than bonds in most countries but also because interest rates are now low. This chart shows the real returns on US investments over the last century:
OTOH the local currency is quite strong currently. If we can revisit investment policy periodically then 70% bonds is OK for now. If there is a future larger decline in stock markets we would then switch to a more aggressive stance.
My brother's children are much older and so their trust accounts will exist for less time. If they intend to spend the money when they get it then I guess a more conservative stance might make sense. The youngest though will still need to wait 9 years to get her money so I think she can be more aggressive.
* Labor wants to make franking credits from Australian companies non-refundable as well. This would bring back symmetry in the way these credits are treated. Of course, I think we should go in the other direction and make foreign tax refundable :)
Target Portfoilo Performance December 2018
In AUD terms the target portfolio lost 1.85% in December, gaining 0.3% for 2018 as a whole. The MSCI gained 0.9% for the year and I gained 2.3%. The graph shows the returns for the each month in 2018 for the target portfolio, the MSCI World Index in AUD terms, and the target portfolio:
The target has lower volatility but is more correlated to the MSCI than I was. So the target portfolio wouldn't have provided very useful diversification in 2018.
The target has lower volatility but is more correlated to the MSCI than I was. So the target portfolio wouldn't have provided very useful diversification in 2018.
Friday, January 04, 2019
Crowdfunded Real Estate
A relatively new investment concept is crowdfunding real estate investments. The idea is that an individual could directly invest small amounts in a range of properties or development opportunities thus reducing their risk. Rather than a fund manager picking the properties, investors could evaluate deals themselves.
I read about Fundrise on Financial Samurai. It seems to actually be closer to a traditional unlisted real estate managed fund, except there is more of a property development angle. They allow investments in both real estate debt and equity. They claim very high historical rates of return. I find it hard to understand how they could be so high. Equity investments could have leverage but debt investments must return the interest rate on the mortgage minus costs? I didn't feel that there was enough transparency around how returns are generated. In any case, unfortunately, it is not open to non-US investors.
So, I looked for crowdfunded real estate opportunities in Australia. This is what I found:
Crowdfundup – I only found one active project on the site.
Estatebaron – This website has more active deals. It focuses exclusively on property development. There seems to be very little information about each project and the site is much less polished.
Brickraise – The link seems to be dead.
Domacom – This is an ASX listed company. The company looked like they were heading to bankruptcy before a recent fundraising. The new money will only last just over half a year as their burn rate is AUD 5 million a year. They will need more than AUD 0.5 billion assets under management to break even given a 0.8% of NAV management fee. However, they have the largest number of deals on their site and have high quality information. Deals include a wide range of projects including solar farms and bioenergy as well as more conventional real estate. This is something I might consider when we have an SMSF up and running if it looks like the company will survive.
Based on this, real estate crowdfunding is not well developed in Australia. Do you know of other better websites?
Thursday, January 03, 2019
New Investment: PERLS XI
As a place to park Australian Dollars cash until I can move it out of Interactive Brokers, I bought some PERLS XI hybrid bank securities. These are Commonwealth Bank bonds that instead of paying interest pay franked dividends. The "grossed up" rate is 5.7% p.a. roughly. At some point the bonds should convert into Commonwealth Bank shares. However, the conversion rate isn't pre-determined. Instead, $100 of bonds will convert to $100 of shares at whatever the share price is at that time. I thought this was better than earning only 1.4% interest on my money, though there is a risk that the capital value will fall if interest rates rise in Australia. That doesn't look very likely at the moment to me. They are in theory less safe than bank deposits, but the risk of Commonwealth Bank getting into bad enough financial trouble in the next few months to reduce the value seems extremely low to me.
I think this is the first time I have ever bought bonds directly for my own account.
Insane Moves in Australian Dollar and Yen This Morning
Moves this big never happen in currencies. It's like one month's worth of moves in 5 minutes. Yen did the same thing in the other direction, other currencies not so much. No idea what sparked this. I managed to buy AUD24k...
This is being called a "flash crash".
Wednesday, January 02, 2019
December 2018 Report
You'll probably have heard that this was the worst December for US stocks since 1931. December is seasonally a positive month for stocks. Things weren't quite that bad in Australia and because the Australian Dollar fell, our returns for the month in AUD terms ended up being positive.
The Australian Dollar fell from USD 0.7302 to AUD 0.7049 The MSCI World Index fell 7.00% and the S&P 500 9.03%. The ASX 200 fell only 0.01%. All these are total returns including dividends. We gained 0.24% in Australian Dollar terms and lost 3.24% in US Dollar terms. So, we outperformed the Australian and international markets. This is not surprising given the weight of US Dollar cash in our portfolio. Our currency neutral rate of return was -1.74%.
Here again is a detailed report on the performance of all investments:
Things that worked quite well this month:
- US Dollars cash
- Gold
- Property, including:
- My jointly owned apartment with my brother. We got an offer for the apartment near the end of the month and I raised the carrying value in line with that.
- TIAA (direct US investments) and Pendal (REITS) real estate funds.
- On the other hand BlueSky lost a lot...
- Our direct share holdings in Medibank and Yellowbrickroad.
- Again, the PSS(AP) superannuation fund did relatively well (though losing) compared to Unisuper. But on the way up it gained just as much as Unisuper. It has both lower beta and higher alpha... At least based on the investment choices I have made within the fund.
What really didn't work:
- Cadence Capital, again fell sharply. It's performance in the last three months has been very bad. It's not surprising that they have cancelled their IPO of the Cadence Opportunities Fund. They received only AUD 8 million of subscriptions. It will still go ahead as an unlisted public company, whatever that is. Overall, we have lost money investing in Cadence.
- BlueSky fell back too. We still have made some money on this investment.
- 3i, China Fund, Pershing Square, and CFS Geared Global Shares all fell in line with global stock markets. The latter would have benefited from the fall in the Australian Dollar, which for an investment denominated in Australian Dollars is included in the return on that investment, but is separated out for the investments denominated in foreign currency...
We also invest AUD 2k monthly in a set of managed funds, and there are also retirement contributions. Then there are distributions from funds and dividends. Other moves this month:
- I bought 400 shares of the China Fund (CHN) early in the month. Not a good idea.
- I bought 25,000 shares of Bluesky Alternatives in the middle of the month (BAF.AX). Another bad idea.
- I bought 500 shares of Pershing Square Holdings (PSH.L) at the end of the month. So far, not a bad idea.
- I received cash from UBS in my US bank account and started moving it to Interactive Brokers and from there to our Australian bank account. After this first transfer, most of this money will go into buying a US Treasury Bills ladder in the short run. Today, I discovered that I have to keep the cash at IB for 2 months before I can move it to another bank account. So I am looking to buy some Australian bonds (probably bank hybrid securities) in the interim.
Tuesday, December 25, 2018
What's Your Forecast for the Stock Market?
My brother asked me what my forecast for the stock market was. Here is what I wrote to him:
"Well, I’ve been surprised how weak it has been recently, particularly in December, which you may have heard is so far the worst December in US stock markets since 1931. December is a seasonally strong month as is January. The US economy has been strong though house prices have been falling in many places, presumably due to the Fed raising interest rates and this seems to have been the main reason why the market is down. House prices have been falling in Sydney and Melbourne without any increase in interest rates here. Some indicators though show that the global economy could already be in recession, but I don’t know how reliable that is. The reason I was a bit surprised was it has been very predictable that before recessions the yield curve would invert (short term interest rates higher than long term). This hasn’t happened yet in the US. However, the Fed is signalling that they are going to raise interest rates by another 0.5% in 2019 which would reach an inversion probably. Stock markets tend to be leading indicators and so looks like this time it is more leading than usual. The US economic expansion is the 2nd longest in history and so presumably would come to an end some time soon (Australia hasn’t had a recession since the early 90s though…). Now we can say that the bull market ended as stocks have fallen 20%. If we look at the last two recessions and stock market crashes in the US, the stock market bottomed near the end or after the actual recession – in March 2003 and 2009. At that point the Fed will have slashed interest rates dramatically and unemployment will be high. OTOH in the 1990s the US market bottomed in October 1990, which was when the recession was only just getting underway. The Gulf War turned that around.
I did reduce my exposure to the stock market in early October, but not by enough. So, I’d probably use rallies in the market to reduce exposure more at this point. I was planning to use trading as a hedge, but I stopped trading soon after that as backtests weren’t good and I got ill and didn’t have time to work on it.
Of course, I could be completely wrong about all of this. In the last cycle I got out too early and got back in too early. Probably this time I’ll be late :)
I’m not planning on buying Australian Dollars in a hurry either, even though the current price is quite good. I’ll buy them gradually."
"Well, I’ve been surprised how weak it has been recently, particularly in December, which you may have heard is so far the worst December in US stock markets since 1931. December is a seasonally strong month as is January. The US economy has been strong though house prices have been falling in many places, presumably due to the Fed raising interest rates and this seems to have been the main reason why the market is down. House prices have been falling in Sydney and Melbourne without any increase in interest rates here. Some indicators though show that the global economy could already be in recession, but I don’t know how reliable that is. The reason I was a bit surprised was it has been very predictable that before recessions the yield curve would invert (short term interest rates higher than long term). This hasn’t happened yet in the US. However, the Fed is signalling that they are going to raise interest rates by another 0.5% in 2019 which would reach an inversion probably. Stock markets tend to be leading indicators and so looks like this time it is more leading than usual. The US economic expansion is the 2nd longest in history and so presumably would come to an end some time soon (Australia hasn’t had a recession since the early 90s though…). Now we can say that the bull market ended as stocks have fallen 20%. If we look at the last two recessions and stock market crashes in the US, the stock market bottomed near the end or after the actual recession – in March 2003 and 2009. At that point the Fed will have slashed interest rates dramatically and unemployment will be high. OTOH in the 1990s the US market bottomed in October 1990, which was when the recession was only just getting underway. The Gulf War turned that around.
I did reduce my exposure to the stock market in early October, but not by enough. So, I’d probably use rallies in the market to reduce exposure more at this point. I was planning to use trading as a hedge, but I stopped trading soon after that as backtests weren’t good and I got ill and didn’t have time to work on it.
Of course, I could be completely wrong about all of this. In the last cycle I got out too early and got back in too early. Probably this time I’ll be late :)
I’m not planning on buying Australian Dollars in a hurry either, even though the current price is quite good. I’ll buy them gradually."
Friday, December 21, 2018
No Interest on More Than $2 Million Deposit?
My brother and I have between us more than USD 2 million in cash in an account at UBS – most of the money we inherited – that we have been jumping through hoops to get out of there. In the meantime the bank seems to be paying no interest on the money and in the last two weeks it actually the account went down by USD 800 for no clear reason – online I can't find any info on fees the bank has charged. How is that possible?
Looks like we have everything in place now to close the account but have been told it'll take about 2 weeks still given the coming holidays etc. However, the client manager told my brother that she could transfer the majority of the money to us right away, while keeping some for unspecified fees and sending us the remainder not spent on fees later. My brother told her that he was happy to wait to get the money in one lump when they close the account. I was shocked and told him to accept her offer. It's hard for me to imagine that the extra fees for a second transfer could be more than the interest we could potentially earn on the money in two weeks (c. USD 2,000 if investing in US Treasury bills).
Update: We missed the client manager leaving for the Christmas break, so likely won't be till mid-January that we'll get the money out...
Another update: Actually, we now got about 90% of the money transferred to us. Why they need to hang on to a 1/4 million dollars, I don't know...
Looks like we have everything in place now to close the account but have been told it'll take about 2 weeks still given the coming holidays etc. However, the client manager told my brother that she could transfer the majority of the money to us right away, while keeping some for unspecified fees and sending us the remainder not spent on fees later. My brother told her that he was happy to wait to get the money in one lump when they close the account. I was shocked and told him to accept her offer. It's hard for me to imagine that the extra fees for a second transfer could be more than the interest we could potentially earn on the money in two weeks (c. USD 2,000 if investing in US Treasury bills).
Update: We missed the client manager leaving for the Christmas break, so likely won't be till mid-January that we'll get the money out...
Another update: Actually, we now got about 90% of the money transferred to us. Why they need to hang on to a 1/4 million dollars, I don't know...
Monday, December 17, 2018
Will Listed Investment Companies Restructure if Labor Eliminates Refundability of Franking Credits?
As you probably know if you live in Australia, Labor plans to abolish the refundability of franking credits - the tax credits attached to dividends for company tax already paid. This will affect taxpayers with low marginal tax rates including self managed superfunds that are paying out a pension, which is tax free if they have less than AUD 1.6 million in assets for that member. This could significantly cut the retirement income of self-funded retirees who have a lot of Australian shares. OTOH, this was the policy prior to 2000 and most other offsets, like foreign tax credits, aren't refundable either.
I already plan to have relatively small amounts of Australian shares when I start an SMSF - this makes sense as I have lots of investments outside super and so it makes sense to put the least tax efficient investments like managed futures into super.
Listed investment companies (LICs) are closed-end funds that pay tax on their earnings and then distribute franked dividends to shareholders. I own shares in several of these like Platinum Capital, Cadence Capital, Hearts and Minds, and Tribeca Global Resources. Both Geoff Wilson and Cadence Capital's Karl Siegling have suggested that they will reorganize their funds if this happens. There are a couple of ways this could happen. One I had thought about, is to delist and turn the fund into a unlisted managed fund (mutual fund). For funds that trade at a premium to NAV, like several of Wilson's funds, this would cause investors to lose a lot of money as now their holdings would only be worth the NAV. For funds trading at a discount to NAV it could be attractive, as shareholders would gain wealth (but see below). To the extent that the funds receive franked dividends from companies, they would still have to distribute franking credits, but capital gains would no longer create franking credits.
Another option I didn't know about, is that they could instead convert to a listed investment trust like an ETF that doesn't pay taxes. This solves the problem of wealth destruction for funds trading at a premium to NAV.
But the article I linked says that this would result in realization of the portfolio for tax purposes. This could be a huge tax bill for companies like Argo that do little trading. The funds will need to pay out a massive special dividend to distribute the associated franking credit. According to Argo's website they will need to pay 72 cents in tax for liquidating the portfolio. That means they would have to pay a $1.68 cash dividend and so actually sell 23% of the portfolio to pay the dividend out. Some other funds have undistributed franking credits and so would also need to sell shares to generate the cash for such a dividend. They will need to do this soon, as there will probably be an election next May. So, I am a bit skeptical that many will.
I already plan to have relatively small amounts of Australian shares when I start an SMSF - this makes sense as I have lots of investments outside super and so it makes sense to put the least tax efficient investments like managed futures into super.
Listed investment companies (LICs) are closed-end funds that pay tax on their earnings and then distribute franked dividends to shareholders. I own shares in several of these like Platinum Capital, Cadence Capital, Hearts and Minds, and Tribeca Global Resources. Both Geoff Wilson and Cadence Capital's Karl Siegling have suggested that they will reorganize their funds if this happens. There are a couple of ways this could happen. One I had thought about, is to delist and turn the fund into a unlisted managed fund (mutual fund). For funds that trade at a premium to NAV, like several of Wilson's funds, this would cause investors to lose a lot of money as now their holdings would only be worth the NAV. For funds trading at a discount to NAV it could be attractive, as shareholders would gain wealth (but see below). To the extent that the funds receive franked dividends from companies, they would still have to distribute franking credits, but capital gains would no longer create franking credits.
Another option I didn't know about, is that they could instead convert to a listed investment trust like an ETF that doesn't pay taxes. This solves the problem of wealth destruction for funds trading at a premium to NAV.
But the article I linked says that this would result in realization of the portfolio for tax purposes. This could be a huge tax bill for companies like Argo that do little trading. The funds will need to pay out a massive special dividend to distribute the associated franking credit. According to Argo's website they will need to pay 72 cents in tax for liquidating the portfolio. That means they would have to pay a $1.68 cash dividend and so actually sell 23% of the portfolio to pay the dividend out. Some other funds have undistributed franking credits and so would also need to sell shares to generate the cash for such a dividend. They will need to do this soon, as there will probably be an election next May. So, I am a bit skeptical that many will.
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