I sold a six-figure shareholding last week for a phenomenal capital gain – over 1,000%.
For historical reasons the shares were held outside of an ISA. This means I’ve got a big capital gains tax bill coming, despite years of defusing.
The sheer size and hence risk of this single position – and the awkwardness of trading it outside an ISA – meant something had to be done. Rumours that Rishi Sunak might raise capital gains tax rates tipped me over the edge.
Like most taxpayers I remind myself I support an accessible health service and a welfare safety net. My sister is a nurse.
Thank you NHS.
But not to the tune of a mooted 45%!
To stash or not to stash the cash
The lessons of this investment – and of getting rid of it – will be fodder for a future post. As will be my specific findings from what happened next.
Which was deciding what to do with it.
Remember, I’m running a big interest-only mortgage, which through one lens is borrowing to invest. So somewhat risky.
Euphoria abounds in the stock market today – and elsewhere. Bitcoin just breached $56,000. Bulletin boards are blowing up hedge funds. Growth stocks seem unstoppable.
Even with nominal yields on government bonds sneakily rising, real yields remain very low and confidently predicting an imminent bust is folly. But it hardly seems imprudent to take some money off the table.
The trouble is where to put it?
I knew, of course, that rates were very low. I sort of assumed if I dug around I’d eek out something decent across multiple savings accounts.
But no, not to the extent it’s worth the hassle.
Long story short, Premium Bonds seem about as good a place as any for the maximum I can put in them.
I will keep a further chunk in cash, despite inflation eroding its value. I’ve felt too light on cash ever since I bought my flat, and I love Jamie Dimon’s description1 of having a fortress balance sheet. It’s time to rebuild my walls.
Otherwise, I’m thinking I might actually throw a few pennies at that big interest-only mortgage that half of you hate so much!
I’d presumed I’d run my mortgage full tilt for a decade, at least. But it is looking like some of my expected investment gains have probably been front-loaded.
What’s more, my bank’s rates have already floated off the floor. I have two years left of my very low five-year fixed rate to run. Given the odd way I got this mortgage, the end of this term could be a non-trivial event.
It’s still tempting to stash the cash rather than lock it away forever by paying down some of my mortgage. Even at a cost of lower returns from savings. The set aside cash could cover several years of monthly mortgage payments in a pinch. Sunk into the mortgage, it only reduces monthly payments by less than £100.
Also it’s entirely possible I’ll never be able to get a mortgage of this size again. Not without buckling down and ramping up my earnings, and even that hasn’t helped in the past. (I’m self-employed, one way or another.)
On the other hand, repaying debt charged at 2% looks sweet in a world that barely pays you for lending it cash and expects every share to go to the moon.
Lucky bastard
I’m aware this problem is plucked from the box marked Nice Problems To Have. Despite vast State support, many people and businesses have been hit hard by the pandemic – including several unlisted companies I’ve invested in.
How they’d love to have the headache of where to stash thousands of pounds in cash.
All I can say is I planted the seed of this windfall many years ago, when times were good and most people were spending freely. Now my investment has matured and blossomed. We all have to manage our own finances as best we can, whatever is going on in the world.
Luck won’t always go my way. That’s why I – like you – save and invest for the future. I fully expect to be hit by future tax rises, too, to pay for furlough and other breaks I didn’t get a penny of (but nonetheless supported).
But that’s more article fodder, I guess. Another dividend from reshuffling my assets!
Where would you stash the cash – or would you just save it for the mother-of-all post-lockdown parties? Let us know in the comments below.
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Perhaps if it was known as the Bengen rule, William Bengen would be more insufferable.
But judging by his appearance on the Rational Reminder podcast this week, the inventor of the (in)famous 4% rule (of thumb) is a delightful human being.
You’ll remember Bengen was the first to put statistical guardrails around how much a US retiree could spend from their savings to avoid running out of money.
The approach seems as obvious as the merits of index funds nowadays. But it was a breakthrough back then, when retirees managing their own assets all but used a Ouija board to tackle the problem.
Of course the 4% rule is subject to much debate. People say it won’t work at this time of paltry returns from fixed income. Bengen has warned his sums weren’t looking at early retirement or non-US investors.
Most interestingly of all, in a low-inflation world Bengen now believes US retirees can take out 5% a year with confidence.
Don’t get cross with me! Go listen to the podcast.
You should also check out the various withdrawal rate posts by my co-blogger The Accumulator.
More to spend
There was a further positive spin on retirement income from Christine Benz at Morningstar this week.
She makes the point that those retiring on today’s potentially lower withdrawal rates have almost certainly got much larger pots to draw on, too, thanks to the long bull market.
As a result, their actual spending budgets may not be much different:
To use a simple, admittedly arbitrary example, let’s say an investor retired in early 2011 with a $1 million 60% equity/40% bond portfolio.
If she were using the 4% withdrawal guideline–$40,000 initially with that amount inflation-adjusted by 3% annually–she’d have pulled about $460,000 from her portfolio over the past decade.
Meanwhile, let’s say someone who was 55 and had a $500,000 60/40 portfolio back in 2011 is ready to retire today. Thanks to market appreciation and assuming that she hadn’t been engaging in regular rebalancing, her portfolio is now worth about $1.4 million.
Even if she has to take a lower starting withdrawal of 3%, her larger balance means that her first-year withdrawal is about $41,722. Her first-decade withdrawals, assuming 3% initially with 3% annual inflation adjustments thereafter, would be about $478,000, roughly in line with the 2011 retiree’s.
It’s not quite apples to oranges, but it’s a worthwhile contribution to the discussion.
Bengen himself says in the podcast that precision is a bit moot. Any sensible investor will readjust if things go badly wrong. Like many advisors, he says his biggest challenge was to get retirees to spend their money, not it running out.
I believe there are many ways to skin this cat.
For example I’m still presuming I’ll convert to income producing assets if I ever decide to live off my wodge, much to the annoyance of some Monevator regulars.1
Other readers are working off 3% withdrawal rates, or even lower. Perhaps they don’t want to be left behind by lifestyle inflation in the general population. Or they may be skeptical about valuations in the market, and fear a crash.
My view is thinking sensibly about this problem gets you 95% of the way there. After that, adapt as you go.
Yes, you need more money to start with. Yes, you’ll probably die with lots of cash left unspent. No, income-investing is not a superior strategy to total market investor from a returns perspective. No, I wouldn’t be owning individual shares in individual dodgy failing UK companies and expecting them to pay me through a forty-year retirement. Et cetera. [↩]
The Bitcoin network reportedly now uses more energy than Argentina.
Bitcoin is also far more widely owned than it was.
Long-term holders – or HODL-ers, in Bitcoin-speak – still own many of the 18.5 million bitcoins mined so far. It’s estimated 1,000 whales control 40% of the market.
But there’s a good chance you too have at least a bit of a bitcoin. And if you don’t then you know someone who does.
Perhaps you bought it just to get in on the fun? Or maybe you’ve been in since the beginning.
With Bitcoin refusing to die and becoming a more valuable sliver of your assets, it’s natural to wonder where it fits into your asset allocation.
How to think about Bitcoin in your portfolio
Already this article will have got some readers’ hackles up.
I have no idea what a hackle is, any more than most Bitcoin owners have an idea of how a peer-to-peer network verifies transactions across a public distributed ledger called a blockchain.
But I do know that if you talk semi-seriously about Bitcoin, hackles go up – whatever hackles may be.
Well this is not a post attempting to debate cryptocurrency in general – or Bitcoin specifically.
What I will say is that for something often decried as a fraud or a Ponzi scheme, Bitcoin seems remarkable resilient.
And I believe the case for Bitcoin as a store of value – digital gold, if you like – strengthens the longer it sticks around.
That’s because as it does so, ever more people believe the story, trust the technology, and decide they want in. It’s a self-reinforcing circle.
Yes, this makes it a construct of the human mind.
So what?
Gold is only worth what someone will pay for it.
Rihanna has 91 million followers on Instagram because 91 million minds see her value.
The pound in your pocket – or displayed on your smartphone – has value because you believe you can buy things with it, and that the government and the Bank of England will keep things that way.
There’s the same self-fulfilling quality to Bitcoin.
Three things to ask about Bitcoin
Bitcoin is one of those Marmite-y things that people love or hate.
I believe a framework for thinking rationally about Bitcoin in your portfolio is useful wherever you stand – and it can help move you towards a sensible middle ground.
Too many people are either all-in on Bitcoin, or else fending it off with scam-repellent barge poles.
Rather than fire emojis at each other on Twitter, let’s break down whether you should hold Bitcoin with three key questions:
#1 What do you think is the future of Bitcoin?
#2 Do you need to have Bitcoin in your portfolio?
#3 How much should you allocate?
Answer these and you should at least know why you do or don’t own Bitcoin, and where it fits into your asset allocation.
#1 The future of Bitcoin
We won’t tarry long on the future of Bitcoin. (If you can have your hackles up then I can refrain from tarrying.)
PhDs have been written on the future of Bitcoin. Yet someone uninformed will still quip below that it’s all a crock while another will urge you to dump your worthless fiat money ASAP.
It’s too big a debate for this ‘umble blog post.
Are you a believer, a denier, or an agnostic? This will play the biggest role in determining how much Bitcoin you own.
I believe Bitcoin has earned a role as an up-and-coming store of value. The potential becomes increasingly realised every day.
Bitcoin now has a pseudo-market capitalization of $840bn. It is being integrated by the likes of Mastercard, PayPal and Square. Tesla just bought $1.5bn worth of Bitcoin and you will soon be able to buy a Model 3 with it. Some institutions have begun accumulating.
None of this guarantees your grandchildren will be begging you for one more bedtime story with an eye on your private key, mind you.
It took millenia for gold to be established as eternally valuable. Warren Buffett still hates the stuff. Bitcoin will be controversial all our lives.
But for now I’m satisfied it works, has momentum, and is winning over ever more people as a place to park some wealth.
I’m less convinced by Bitcoin as a currency.
Most of its non-criminal advantages are being quickly replicated by fintech. And it’s far too volatile to be a currency as we generally use the term.
Sure you’ll be able to buy stuff with bitcoins. You can part-exchange with a house or a car, but we don’t call a Fiat 500 a cash substitute.
But for me Bitcoin’s potential as digital gold is enough to take it seriously.
You’ll have to make your own mind up.
#2 Do you need to have Bitcoin in your portfolio?
It’s one thing to see a future for Bitcoin. It’s another to believe you need it in your portfolio.
I see a bright future for dog-owning. I’m not about to open a puppy farm.
We can briefly consider four reasons for adding an allocation to Bitcoin: returns, diversification, global weighting, and FOMO.
Returns
Our portfolios are designed to grow our future wealth. Ideally we want to own stuff that will go up in value.
So let’s put aside all the earnest talk about money-printing and Bitcoin’s censorship resistance.
The reason we’re having this conversation is the price chart above. This thing has been on a flyer for years.
Owning Bitcoin over the past five years would have turned $1,000 into $118,000. That’s an annualized rate of 259%.
Please sir, can I have some more?
Nobody knows whether Bitcoin will keep rising in the future like it has in the past – and those who think it’s the future of cash have some explaining to do if it does.
But it’s easy to construct a plausible thesis for prices going higher still.
There will only every be 21m bitcoins, and 18.5m have already been mined. Several million have been lost. Millions more are being HODL-ed, and so rarely come into circulation.
This doesn’t mean you can’t buy a bit of bitcoin. Bitcoin can be divided many times. But the hard cap on total issuance is a positive for the price.
One sanity check is gold. There’s $10 trillion worth of gold at current prices. The value of all bitcoins mined is still less than $1 trillion.
If you believe Bitcoin can be the equivalent of digital gold then perhaps the price can rise at least ten-fold. That could underpin future returns.
Diversification
Ideally we want to add assets to our portfolio that go up in value over the long-term, but do so at different times.
This smooths the ride as different assets wobble. We can also earn extra returns by rebalancing between our holdings.
If the price of Bitcoin just rose and fell in sync with equities or government bonds, we might decide to stick to those more established assets1 and skip the bother of crypto-whatnottery.
So far, Bitcoin has shown diversification benefits in a portfolio, says ARK Invest:
(Click to enlarge)
Note that an ongoing low correlation to other asset classes isn’t guaranteed.
Bitcoin is young, relatively speaking, and as it gains more owners – especially listed companies – I suspect correlations will rise.
Recently I’ve noticed the price direction of Bitcoin overnight can be a good indication for where the stock market will open the next day.
In other words, it seems to be more of a ‘risk-on’ asset than a safe haven. Speculative, even.
Many things drive asset prices, however. Disentangling it all is complicated.
Being subject to risk-on speculation shouldn’t rule out Bitcoin from serious consideration.
Consider the many gold rushes or even the dotcom bubble. Yet people still allocate to precious metals and stocks for the long-term.
Exposure to global GDP / assets
If or when Bitcoin becomes bigger and more integrated with the financial system, it may be harder to ignore if you want broad exposure to global economic trends.
This still doesn’t necessarily mean you need to own any bitcoin.
Listed companies like Tesla, Square, and MicroStrategy2 already hold bitcoins. If more firms follow their lead and carry Bitcoin on their balance sheets or accept it as payment, your portfolio should gain exposure anyway.
Whether you like it or not!
FOMO
Fear of Missing Out (FOMO) may seem a flaky reason to own bitcoin.
But we are all human, and psychological factors loom large in investing.
Bitcoin’s rally confused me in 2017. I lost a few hundred quid buying late into that short-term bubble and then bailing, which at least saved me from losing more. But it got me reading.
Eventually I shifted from an agnostic position to become a weak believer.
That – added to the FOMO I felt in 2017, and knowing Bitcoin had been through several booms and busts before – meant I wanted some ahead of any future surge. Long story short, I accumulated my way to owning one bitcoin in early 2020 at what now seems a bargain price.
The good thing about buying something you’re not certain about is you have skin in the game. You pay more attention, and you panic less if the price rises. You do have to watch your total exposure to stay comfortable.
The worst thing would be if you’re keen on Bitcoin but prevaricate, then pile half your money in during a bubble before selling after the price pops.
Some people really do that sort of thing in times of wider madness.
Being realistic about your human frailties in advance and setting some guardrails can help protect you from extreme emotional investing.
#3 How much should you allocate to Bitcoin?
So how much bitcoin should you have in your portfolio?
Luckily there is a simple formula:
Number of times you've written HODL in the past 24 hours + percentage of times you put the word 'fiat' before the word 'money' in conversation x 2 if you ever say 'debasement' outside of the bedroom – your current allocation to bonds = % to allocate to Bitcoin
(If over 100% please seek help. Or a mortgage.)
Obviously I’m joking. There is no simple rule of thumb for Bitcoin like there is for shares and bonds. It’s far too young and controversial.
I’d say less is more. To match gold, for instance, there’s still room for a 1% position to grow into a 10% position – or to be trimmed en-route – while not doing too much damage if it bombs.
Now you might say if you expect an asset to go up tenfold it makes no sense to hold just 1%. I hear you. Just take into account the uncertainty.
The brainiacs at ARK Invest ran a Monte Carlo simulation and found:
Efficient Bitcoin allocations range from 2.55% (to minimize volatility) to 6.55% (if you’re focused on returns), ARK says.
Those numbers seem reasonable to me.
Obviously they stand to look ridiculous if Bitcoin goes up five-fold by 2025 or if you can buy three bitcoins for £10 by Christmas.
That’s the nature of investing in highly uncertain super-fast growth.
No pain, no gain
Do not underestimate the pain caused by volatility in your portfolio, even if you’re bullish.
If you’re a passive investor in broad index funds, you won’t be used to seeing truly outrageous overnight moves.
Morningstar also crunched the historical data on allocations and found:
Source: Morningstar
We can see from the table that even small allocations to Bitcoin made a big difference:
Bitcoin’s standard deviation was more than 15 times that of the equity market, making it among the most-volatile assets in Morningstar’s database of 35,000-plus market indices.
As a result, both risk and returns increased with larger bitcoin weightings.
Even a 1% weighting would have led to a sharp increase in standard deviation compared with an all-equity portfolio, as well as significantly worse drawdowns.
These numbers assume annual rebalancing. Monthly rebalancing would have led to better risk-adjusted returns, but are costly and a lot of hassle.
Conclusion and what I’m doing
Hopefully this is all food for thought for anyone wondering about holding bitcoin in a portfolio.
If you expected a pat answer – 10% in Bitcoin, say, or a year’s earnings – then sorry. Come back in 20 years and I’ll be more precise.
In retrospect I was extremely lucky with my own timing. When I bought my bitcoin it was very expensive compared to ten years ago, but still manageable versus my net worth.
The price has since skyrocketed. But as my thesis is that Bitcoin really does become more valuable as the price rises (as opposed to it just being a Greater Fool game) I can live with that.
I even added a small stake in a Bitcoin miner as a trading play in my ISA. (Not enough to make me millions, alas).
It helps that I’m an active investor in individual shares. I have a direct position in a gene editing company that exploits a biological hack derived from slime mold to modify human DNA.
An allocation to Bitcoin does not keep me up at night.
Passive investors face a more difficult conundrum. Bitcoin is definitely not an established asset class. That it’s making a lot of headlines and going up in price doesn’t mean you need to own it. Plenty of things do that everyday.
It’s fine to say you’ll let the market take care of it. If Bitcoin does become established, then banks, fund managers, and others will incorporate it into their operations.3 You’d gradually get exposure to Bitcoin without doing anything.
This neatly sidesteps the questions about position sizing and volatility, let alone the risk of the technology failing or quantum computers someday cracking Bitcoin.4 (Weighing up Bitcoin makes bonds look easy!)
If you do see merit in adding some bitcoin for diversification, I suggest starting small. You could even pound-cost average in each month, as you might with other assets.
Bitcoin may be new, but we can still apply a sensible investing framework to it.
Perhaps using debt to increase our position sizes if needed. [↩]
I enjoyed Ben Carlson’s response to the GameStop ferment this week.
He could have dived into the minutia of gamma squeezes and Reddit lore. But instead the Wealth of Common Sense blogger and Weekend Reading favourite dived into his archives.
Ben decided to reprint a chapter of his book Everything You Need To Know About Saving For Retirement. In it he explains how he helped his then-girlfriend (miraculously now his wife) to get familiar with market volatility with data like this:
It’s a golden oldie, and foundational to long-term investing.
Many people compare the stock market to a casino but in a casino the odds are stacked against you. The longer you play in a casino, the greater the odds you’ll walk away a loser because the house wins based on pure probability.
It’s just the opposite in the stock market. The longer your time horizon, historically, the better your odds are at seeing positive outcomes.
There’s something grounding about returning to old writing and classic wisdom when confronted with a new tumult, don’t you think?
They’re more like guidelines
Of course religions have been doing this sort of thing forever. Anyone who grew up within earshot of a holy book-quoting relative can attest to that.
And indeed it’s too complacent to get religious about investing.
The US stock market doesn’t have a preordained right to 10% returns a year over the long-term – let alone to spank the pants off other markets around the world for years. Equities in general aren’t totally guaranteed to deliver higher returns than bonds, say, even if you hold them for a generation or two.
But there’s many good reasons to think they should. Implicitly, whether we invest passively or actively, we put our faith in that, and other investing ‘truths’.
The point is to – just like a church go-er trying to weigh up contradicting passages and the strong suspicion they’ve sinned – achieve a balance.
Trust in shares for the long-term, but have some bonds and/or cash.
Don’t watch your portfolio every day if you’re a passive investor. But tune in once or twice a year to rebalance and check everything is on-track.
And so on.
Amen.
Forgive me father
Okay, so Ben is not a saint. He did also deliver his own hot take on the GameStop squeeze. Several hot takes in fact, including in his podcast.
Ah well, we’re all only human.
I wonder which version his wife got this time if she happened to ask about GameStop?
I also wonder where to find these eligible people who’ll marry someone who explains the stock market to them on a date. They elude me!
It’s a golden oldie, and foundational to long-term investing.