Financial review at 31 August 2019

Source: Pixabay

Eight months Summary

A total return in the year to date of 9.92%, slightly behind the index, results after drawdown expenditure in a capital uplift of 7.24%.

Drawdown

As I am not earning any income from employment any more, I am in drawdown in that I am drawing down some of my financial assets each month to cover our spending. I have been in drawdown since December 2013 so the five years and eight months since then will be the main time period under review. I have estimated the annual income and expenditure for the full 2019 year.

Capital

My capital has increased by 13.55%. This compares to an increase in RPI inflation of 15.23% (I have estimated the RPI figure for August).

Income

My income has increased from 3.53% to 5.31% of my original capital. This compares to the income according to the “safe withdrawal rate” which has increased from 4.00% to 4.51%, based on inflation from December 2013 to December 2018.

Expenditure

My expenditure has increased by 30.05%. This year my spending as a percentage of my income is 77.43%. Expenditure is running at an annual rate of 3.75% of the average asset value during the 2019 year.

Total return

The portfolio total return has been 38.21%. This compares to 35.71% from the FTSE All Share total return index and 32.62% from the M&G Index Tracker Fund Sterling A Acc, a typical index tracker fund.

Income growth

Income has grown by 54.93%. The portfolio income yield has increased from an annual rate of 3.82% in 2013 to 4.84% in 2019. This is calculated on the average asset value during the year.

Conclusion

My current main objective is income growth rather than total return. Compound income growth is running at about 8% per annum. This is derived from increases in the dividends paid per share, from re-investing any unspent income, from re-positioning the portfolio towards higher yielding investments, and from remaining focused on the higher yielding stock markets in the United Kingdom and Asia. If there is economic trouble ahead, I am hopeful that my dividend income will be resilient even if capital values fall.

Commitment

Source: Pixabay

If you want to achieve financial freedom or financial independence, and you have a vision of achieving that, then you need to have a commitment to getting there. It can’t just be a wish. This commitment will involve time and money and will be reflected in your actions in working, saving and investing.


You will need to commit some time to this effort. It can take time to understand what your financial position and starting point is. What are your financial assets and liabilities? What is your annual income and expenditure? What changes do you expect in these? If necessary, you will need to improve your financial record keeping so you can answer these questions when you start and throughout your journey. You can use paper records as I did from the early 1980’s up until 1996 or you can use computer records as I have done since getting my first home PC in 1996. It will take commitment to continually maintain these records. You need enough information to know at any point where you are and where you are headed. This can help with spending and investing choices and can strengthen your commitment as you see progress being made.


You will need to commit time to learning about personal financial and investment matters. Finding this interesting will really help with this challenge, as so many people claim or say that this is boring. There is, however, nothing boring about being poor in your old age when you are less able to work to earn money. The money pages in the newspapers provided my starting point for this learning. I also read a select few books. Nowadays there are many blogs and other websites where one can also learn. Back in the 1980’s I avidly read the Telegraph money pages and sampled other papers and magazines occasionally. Nowadays there are a range of sources that I use: newspapers, magazines, newsletters, blogs, and websites.


You will need to bring your commitment to bear in the world of working and earning. Being committed to progressing in your chosen field and taking up opportunities and maximising earnings will all help. In my time I pursued further studies, I took up promotion and job opportunities, and later on I worked with an eye on maximising earnings. This should help both your career and your progress to financial independence. As you gain rises in pay, and bonuses, these should be allocated to additional savings ahead of additional consumption. In addition, you should seek to understand and probably to join any company pension in order to gain the company’s pension contribution. You can benefit from tax relief on your own contributions, and many companies will match your contributions. In an early role I contributed 7.5% of my salary (4.5% after tax relief) and gained a company contribution of 7.5%. In a later role I contributed 5% (3% after tax relief) and gained an additional 9.5% from my employer. Where these are defined contribution schemes then you can usually transfer these into a plan of your choice after you have left the relevant job.


You will need a strong commitment to saving money. Without spending less than they earn even the highest paid will not become financially independent before they draw their pension. In order to make good progress you need to look to save 20% of your take home pay. You need to pay yourself first, for instance by means of a direct debit from your bank account just after pay day. It is best to develop this habit early on before higher earnings translates straight into higher spending. I have heard people talk of saving what is left at the end of the month or year after their spending has been done, but that is not a commitment.


If you gain a financial windfall such as an inheritance, or an insurance pay-out, or a redundancy payment where you quickly get another job, then you should be committed to saving all or most of this money. If your inclination is always to spend pay rises, bonuses, and such windfalls on lifestyle improvements or additional consumption, e.g. houses, cars, holidays, then you probably lack the commitment required for early financial independence.


You will need a commitment to invest your savings in equities. This should maximise your long term returns as cash and bonds have generally returned less than equities. I have been mostly 80% or more invested in equities over the past thirty-three years and have benefited from compound growth of over 8% per annum.


These levels of commitment need to be sustained over the years and decades to get the required result. You need to be able to live a bit outside the consumer society to maintain your progress. This is all a bit prescriptive but this is the medicine I have found to be beneficial.

A path to financial freedom

Source: Pixabay

Having attained a measure of financial freedom for myself I would like to outline my thoughts on how to reach this point. The path I will discuss is informed by the actual one I followed. When I set out on my journey through the world of work and earning, saving and investing over thirty years ago, I did not have any route map to read or to follow, but over that time my experience has enabled me to devise one. My writing here on this blog is intended to include providing the route map I didn’t have but would have liked to have had.


Key factors include vision, commitment, planning, earning, spending, saving, investing and time.


Once you have seen the vision and embraced the objective of financial freedom then you need to make the commitment to follow a path, and be disciplined in staying on it, so you can reach that destination.


Some planning is needed and is useful when considering the necessary ingredients of earnings, spending, saving, investing and time. The past may not be a perfect guide to the future but it may be a useful guide when planning. An interest in financial matters and an attitude and approach of trying to handle these areas of life in an effective manner is key.


In your early years it will be key to maximise your earnings as soon as possible. Above average or double the average earnings will make this journey easier. A commitment to achieving success in the workplace so as to maximise earnings is useful, but so also is the ability to consider things from one’s own perspective and not always from the employer’s or the job’s perspectives.


At this time, it will also be important to think carefully about spending habits and “lifestyle management” and how you approach the consumer society. The idea of living below your means by a significant margin, such as only spending 80% of your take home earnings, is important. An ability to stand back from the consumer society and make choices so as to maximise savings is also key.


The cost of housing and the issue of house prices will need special consideration of both the past and the future possibilities.


If you have achieved above average earnings, and have your spending under control, then you should have the savings to proceed. These will need to be deployed carefully towards eliminating any debts, dealing with housing, and setting up planned savings. A ready cash reserve is useful and necessary but in my view most of your available savings should then be deployed in growth investments where a real above inflation total return can be obtained.


A preparedness to invest so as to grow one’s savings at a rate above inflation despite the perceived risks of losing money will be critical to growing one’s wealth. My preferred investment is equities and the vehicles to be used include investment accounts, ISA’s, and pensions. It is important to establish a pension plan in order to gain any employer contribution and to gain any available tax relief. As pensions are not accessible until the age of 55 or later at present and as current and recent governments are prone to changing the rules then one should proceed carefully.


The main investment plan after pensions should be ISA’s because of their tax privileges. If you are fortunate enough to have savings that are surplus to the ISA limits and to any pension commitments, then an ordinary investment account can be used.


Various investment approaches can be utilised, such as the permanent portfolio, and passive equity index tracking. My current preferred approach is investing in income and growth equities using investment trusts.


Finally, one can consider the importance of time and timing and the influence of luck. I think you will be pleasantly surprised by the financial position you can reach after a long time following this path.

Holding your nerve during a stock market tumble

Source: Pixabay

It has been reported that “only 18 per cent of investors said they stuck with their investment plans during the volatile three-month period at the end of 2018” when “the MSCI World index fell 13.9 per cent, the 11th worst quarterly fall since 1970”. The Schroders Global Investor Study 2019 added that “In the final three months of 2018, when the MSCI World index of global equities fell sharply, only 18% of people kept their investments the same, and a further 9% made changes to their portfolio but kept the risk profile the same.” According to this report in the UK we stay invested in an investment product for only 2.9 years on average.


I read that and decided to review my own experience of this situation. At the time I noticed the drop in the market in that quarter and especially in October but I didn’t feel any inclination to react to it. My only transactions during the quarter were automatic and manual dividend re-investments already decided upon, a fund switch within my ISA, and a drawdown sale of dealing account assets. The switch was a minor one concerned with adjusting the relative sizes of a global fund (increased) and an Asia Pacific fund (reduced). The asset sale was also a routine one that I carry out every three months at present.


My total return during the full 2018 year was a fall of 6.45%. My total return during the final quarter of 2018 was a fall of 5.91%. October 2018 was my highest losing month since beginning drawdown in January 2014 but was not much worse than some other months in 2014, 2015 or 2016.

I follow the markets and the news affecting the markets and aim to be informed but I also aim to be sceptical of commentaries on the market situation and of “noise” in the markets. News of Trump, trade wars, USA versus China, interest rates and Brexit may be interesting and may influence market activity or may provide an explanation for market moves, but it doesn’t give me a reason to trade.


Rather than considering the market situation I try to stay focussed on my own situation. I’m broadly happy with my portfolio allocations to equities in the UK income, global income, and Asia Pacific income sectors, and to UK real estate and UK bonds, and to be almost fully invested. I might switch between assets to adjust position sizes or to increase my ISA and reduce my dealing account, but otherwise I am just re-investing dividends and selling down assets in my dealing account to fund my expenditure. In 2018 my portfolio turnover was about 7%. My current holdings have been held for an average of 9.76 years.


I began investing in equities in 1986. In thirty-three years, I have had nine losing years of which four were worse than 2018. So, I regarded 2018 as a disappointing year but it didn’t compare with 2001-2002 (-27%) or 2008 (-23%).


My first experience of a loss in the markets was in October 1987 when I remember my £3,000 invested fell to be £2,000 in only a few days. It happened so quickly that I didn’t have a real opportunity to react. These were all certificated unit trusts or privatisation shares and my dealings then were by post. Fortunately, I didn’t need to access these funds and not having any desire to recognise this loss I stayed invested. My losses were recovered by the end of 1989. Interestingly the full 1987 year isn’t a loss year for me or for the UK market. The October fall was a correction to gains made earlier in that year.


I now prefer to take a one-year view or a calendar year view of stock market moves so as to put short term volatility in perspective. I now regard it as very useful to have had that experience of loss in my second year of being invested and when I only had £3,000 invested. It prepared me to deal with similar percentage losses on much bigger numbers in both 2001-2002 and 2008. In both cases I stayed invested, and invested more when possible. I held my nerve and with hindsight I think that was the right thing to do.

Financial review at 30 June 2019

Half Year Summary

A total return in the year to date of 11.70%, slightly behind the index, results after draw-down expenditure in a capital uplift of 9.65%.

Source: Pixabay

Introduction

I review my/our financial situation at the end of each month so as to track where we are, and also because I find it interesting. I’d now like to write up a review for this month end and half year end, after 5 ½ years of drawdown.

As I am not earning any income from employment any more, I am in draw-down in that I am drawing down some of my financial assets each month to cover our spending. I have been in draw-down for 5 ½ years now so that will be the main time period under review. My key performance indicators in this review are capital, income, expenditure, total return, and income growth. My key comparisons are with an inflation index, an equity index, and the “safe withdrawal rate” (S.W.R.).

Inflation (R.P.I.)

My chosen inflation index is the retail price index. I have chosen this one because it has the longest history, it is perhaps more inclusive than other rival indices, it tends to be higher than these rivals, and is favoured less by politicians.  In 5 ½ years the RPI index has increased by 14.44% (I have estimated the figure for June).

Equities (FTSE UK All Share)

My chosen equity index is the FTSE All Share total return index. I have chosen this one because I live in the UK and the majority of my portfolio is invested in UK equities. This index also has a history that extends back to when I started investing in 1986. In 5 ½ years the FTSE UK All Share total return index has increased by 37.97%. If I chose to invest in funds that attempt to passively replicate and track the index these would return less than the index because of fees and tracking errors. A typical unit trust tracker (M&G Index Tracker Fund Sterling A Acc) had a total return of 34.26%.

“Safe Withdrawal Rate” (SWR)

This approach suggests taking an income, or drawing down, only 4% of your available capital in year one and then increasing that amount by inflation each year.

Capital

In 5 ½ years my capital has increased by 16.10%. This is above the increase in RPI inflation at this point. If I give my drawdown portfolio capital an index value of 100 at 31 December 2013 then at 30 June 2019 it is now at 116.10. The year by year movement is shown in this table and graph:

Year endCapitalGrowthRPIGrowth
2013100.00100.00
2014100.180.18101.621.62
201596.05-4.13102.841.20
2016106.8711.27105.412.49
2017117.309.77109.754.12
2018105.88-9.74112.712.70
2019HY116.109.65114.441.54
as % of 2013 assets

Income

In 5 ½ years my income has increased from 3.53% to 5.18% of my original capital. This is now above the income level according to the “safe withdrawal rate” which has increased from 4.00% to 4.51%. The year by year movement is shown in this table and graph:

Year end4% RuleIncome
20133.43
20144.003.53
20154.063.81
20164.113.92
20174.224.63
20184.394.89
2019HY*4.515.18
as % of 2013 assets

* I have estimated the annual income for the full 2019 year.

Expenditure

In 5 ½ years my expenditure has increased by 29.93%. This is above the level of RPI inflation, but below the increase in my income. My spending as a percentage of my income has fallen to 79.34%. Expenditure is running at an annual rate of 3.70% of the average asset value during the 2019 year, which is similar to recent years. The year by year movement is shown in this table and graph:

Year endIncomeExpenditureGrowthRPISpend %Expenditure
2013108.40100.00100.0092.25-3.52
2014111.5892.27-7.73101.6282.69-2.91
2015120.61104.7913.58102.8486.88-3.38
2016124.12122.1616.58105.4198.42-3.81
2017146.58123.340.97109.7584.14-3.48
2018154.75126.192.31112.7181.54-3.57
2019HY*163.76129.932.96114.4479.34-3.70
as % of 2013 expenditureas % of year average assets

* I have estimated the annual income and expenditure for the full 2019 year.

Total return

The portfolio total return has been 40.43% over this 5 ½ year period. It is pleasing to exceed the FTSE All Share total return index and a typical index tracker fund (M&G Index Tracker Fund Sterling A Acc).

The year by year movement is shown in this table and graph:

Year endTotal ReturnGrowthIndexGrowthTrackerGrowth
2013100.00100.00100.00
2014103.143.14101.181.1899.69-0.31
2015102.28-0.83102.170.98101.291.61
2016118.2415.60119.2916.75116.5415.05
2017134.3913.66134.9113.10131.4612.80
2018125.72-6.45122.13-9.47119.69-8.95
2019HY140.4311.70137.9712.97134.2612.17

Income growth

My current main objective is income growth rather than total return and here I am pleased to record that income has grown by 51.06% over 5 ½ years. The portfolio income yield has increased from an annual rate of 3.82% in 2013 to 4.66% in 2019. This is calculated on the average asset value during the year. The year by year movement is shown in this table and graph:

Year endIncomeGrowthRPIGrowthIncome Yield
2013100.00100.003.82
2014102.932.93101.621.623.52
2015111.268.10102.841.203.89
2016114.502.91105.412.493.87
2017135.2218.10109.754.124.13
2018142.755.57112.712.704.38
2019HY*151.065.82114.441.544.66
as % of 2013 incomeas % of year average assets

* I have estimated the annual income for the full 2019 year.

The income growth has resulted from increases in the dividends paid per share, from re-investing any unspent income, and from re-positioning the portfolio towards higher yielding investments. 33% of the portfolio is now in higher yielding investments compared to 9% at the outset. These investments pay out between 5% and 7.5% currently. I am hopeful that this allocation will not unduly impact on overall future capital and income growth. We will see.

Spending is currently around 80% of portfolio income so there is a good margin of safety for any exceptional spends that may arise (or any dividend reductions), but in the mean-time I will re-invest for more income. At some point if portfolio income runs further ahead of spending then I can choose to spend more (discretionary choices) or else review the income growth objective and the high yield allocation.

Investing a lump sum

Source: Pixabay

These are some ideas I passed on to a friend recently about taking a first step into investing in shares:

Dear

I was told that you have a lump sum of cash and are considering how to invest that for yourself and your children. I have some ideas on how I would deal with this which I can share with you. 

Interest rate returns on cash are very low at present. We get 1.10% on our instant access savings at the moment. This could be increased to 1.60% by committing to a 5-year bond, but price inflation is 2% (CPI measure) or 3% (RPI measure) so you are losing money in real terms. Therefore, I would only hold cash savings for immediate needs or as an emergency fund to cover 6 months of spending.

After providing cash savings for immediate needs and for an emergency fund I would invest in company shares. My preferred way of doing this is to invest in investment companies (also known as investment trusts).  I/We have invested in this way for many years and have achieved overall growth of 8% per year. This means that you can double your money every nine years. Individual years can vary, however, for example from a 23% loss in 2008 to a 27% gain in 2009, so you should reckon on staying invested for 5 years so any losses can probably be recovered.  

Here is a short video about investing in investment companies: Your investment journey.

The Association of Investment Companies (AIC) say that “Investment companies are a way to make a single investment that gives you a share in a much larger portfolio. A type of collective investment, they let you spread your risk and access investment opportunities you wouldn’t find on your own.” More information is available on the AIC website.

In order to invest you will need to choose a wrapper (investment account, ISA, pension, etc), and select an investment platform, before choosing an investment company or companies to invest in. If you are a first-time investor then a large global or UK investment company may be best. Here is an example of each that we hold or have held in the past:

F&C Investment Trust   They say that “the Trust is highly diversified and cautiously managed, with exposure to over 450 individual companies from around the world.”

City of London  They say that “the Company’s objective is to provide long-term growth in income and capital, principally by investment in equities listed on the London Stock Exchange.”

Please let me know if you are interested in finding out more.

Regards,

Small print: This is information not advice and it may not be appropriate to your individual circumstances.