Good reads from around the Web.

I have found a new website and it’s right up our street. Called Portfolio Charts, it’s dedicated to exploring asset allocation visually – and assuming all the maths is correct and the resultant graphs are accurate – it appears to be brilliant.

Now don’t get me wrong. I still think most people are best off not immersing themselves in the minutia of a dozen different asset allocations and wondering for six months whether the Coward’s Portfolio, the Merriman Ultimate, or the Golden Butterfly is the best allocation for them (or indeed whether they’re really finishing moves from Street Fighter III).

In truth, The Accumulator’s back of a blackboard graphs are about as spuriously precise as is required to overcome inertia and keep new investors focused on what matters.

But if you’ve been coming here for a while, there’s a good chance you’re not most people. And that while you know you should know better, you’ll also have plenty of fun clicking around the site looking at how adding 10% more Treasuries dampened volatility if you were power-shouldered 1980s New York executive buying stocks to fund a place in the Hamptons.

(Yes, it’s American of course. Perhaps that’s an advantage if it means we focus on the gist rather than the detail?)

Less risky but more rewarding

The latest post exploring whether an investor should go 100% equities is a good place to get started.

The author writes:

In investing, the concept of efficiency is most commonly discussed in terms of risk-adjusted returns. Basically, it’s all about trade-offs.

What are you willing to risk for your potential higher gain?

Sure you can invest in a portfolio with a higher average return, but with the trade-off that your odds of actually achieving that return with any certainty are much lower.

Portfolios that work towards good returns while minimizing downside risk tend to do quite well compared to pedal-to-the-metal portfolios.

Now that sounds great, but how is one to identify these magical portfolio unicorns with superior risk-adjusted returns to the stock market?

Surely they are quite rare, so why waste our time chasing the unattainable?

Here’s the thing — they’re not rare at all.

Then follows this graph, which goes straight into the Monevator Hall of Money Shots.

(Click to enlarge)

Source: PortfolioCharts.com

The square red box on the far left represents the performance of an all-stocks portfolio. The other symbols mark the same for a variety of lazy portfolios.

What this graphic shows is that over the period, adding other assets to your 100% stocks portfolio typically resulted in a less-steep worst year loss ((i.e. Maximum drawdown – the fall in the value of your portfolio from peak to trough.)) while also tending to increase the minimum long-term annual compound returns your portfolio earned.

It doesn’t mean you won’t do better with 100% stocks – it doesn’t prove anything will happen in the future, because it is only a study of the past – but it does indicate very clearly that for long-term investors, diversifying assets has historically done the business on the basis of risk versus reward.

There’s plenty more where that came from over at Portfolio Charts.

[continue reading…]

I promised a quick update on how 2011’s demo high yield portfolio (HYP) was doing from an income perspective – having already cunningly posted the exciting capital value update on the slow news day of June 23rd.

Ahem.

Okay, so June 23rd – aka EU Referendum Day – turned out to not be so dull, after all. And we all got distracted for a few weeks.

But now I’m back to share the income picture, and to muse a bit about what it all means.

Loadsamoney

An ultra-quick recap: You’ll remember I invested £5,000 of my own real money into this demo HYP back in 2011, and that I’m benchmarking it against two alternatives – a FTSE 100 tracker and a trio of investment trusts.

Please refer back to my most recent capital update for more on the whys and wherefores, including links to a mini-FAQ all about HYPs, this demo, and the benchmarks.

Today, as I’m already ludicrously tardy with it, I just want to cut to the chase and get those income details up!

So here’s a snapshot of how the demo HYP and its benchmarks are doing, both in capital terms (updated since 23rd June, because why not?) and in terms of how they’re kicking out income.

I’ve also calculated yields for the portfolios.

Note: ETF/Trust prices from Yahoo, dividends from iShares and the A.I.C..

A few things to note:

• The 12-month period being studied is from 11 May 2015 to 12 May 2016. ((The demo HYP was set up in May 2011.))

• All income rounded to nearest pound.

• For the demo HYP, I’ve simply totted up all the real-money dividends received.

• For the FTSE 100 ETF and the trio of investment trusts, I’ve sourced and totaled dividend data from relevant information providers, and then multiplied it by the number of shares in the notional benchmark portfolios.

• Capital values are up-to-date as of 28 July 2016. (Remember, these are NOT reinvesting portfolios – all income is presumed to be withdrawn each year).

• Yield is the income over the 12-month period expressed as a percentage of the current capital value.

• Yield on purchase tells us what we’re getting as a percentage of the initial £5,000 investments.

Here’s how the income has grown for each vehicle in the four years since my one-year update.

Thoughts (or bonfire of the vanities)

The first thing to say is that all three portfolios have been doing the business, growing the income they pay out compared to the first full year of coverage.

That’s not surprising – we’ve seen several years of generally rising dividends – but it’s still heartening.

If you had invested in any of these options for investment income – whether for financial freedom or to help fund your retirement – I think you’d be pretty happy so far.

Of course, if you’d invested in the demo HYP and your next door neighbor had invested in the trio of investment trusts, then you might be somewhat less happy as you chat over the garden fence about shares, as we all do on those balmy summer evenings…

I’m a long time fan of UK equity income trusts. But I must admit that even I’m knocked back on my heels by just how well they’re doing here.

Both in capital terms and in the income they’re chucking out, our notional trio of trusts are soundly beating the two alternatives.

Now, like everything to do with this little side project we shouldn’t start claiming to be learning anything incredibly definitive here.

For one thing, five years is a short time.

For another, the trio of trusts is influenced by luck and any sliver of skill I brought to their selection.

There are dozens of trusts out there, and picking three different ones would have given you a different result.

For instance, the worst performing component of my basket of three trusts, Merchants Trust, is pretty much flat both in capital and income terms over the past five years, whereas the best, Edinburgh, is up over 50% in capital terms.

But it’s in the selection of 20 shares for the demo HYP that idiosyncratic risk looms largest.

And here I’m desperate to cry about bad luck – rather than blame my blundering incompetence – for the fact that no fewer than a fifth of the portfolio cut or even cancelled their dividends entirely at some point over the period.

BHP Billiton, Balfour Beatty, Centrica, and Tesco: Your names are mud to me now!

A fifth of the portfolio cutting their dividends is a terrible hit rate. You’d expect it to hurt the total income and it has, as the demo HYP doesn’t have any cash reserves to smooth payments like the income trusts do. (Cash buffers I’d suggest you implement for yourself if planning to live off investment income).

In fact, the dividend cuts mean the demo HYP last year paid out only £2 more than at the second anniversary point.

So what do I plan to do about it?

Nothing. This is a no-trading portfolio, remember, as explained in the links below.

Hopefully the income from the dividend dunces will be rebuilt. (Although I don’t doubt something else in the portfolio will be hacking and slashing at their payouts over time, too.)

Finally – and curiously – despite lagging in capital growth terms, the iShares FTSE 100 ETF has delivered the strongest income growth. Its annual payout now matches the demo HYP.

This is a surprising result, and perhaps indicative of the times we live in.

But with earnings no longer covering dividends at the 350 largest UK companies ((That is, so-called ‘dividend cover’ has fallen below one.)), it will be interesting to see how it and the other vehicles fare over the next few years.

Whatever the academic theory says, it’s hard for me not to imagine the trusts will continue to have the edge in an environment of further dividend cuts.

Demo HYP: Frequently Asked Questions

Here’s that pseudo-FAQ (it’s really a bunch of links to previous demo HYP articles) for those too engrossed to click away earlier, or who I’ve now confused into having more questions:

• Where can I find the five year capital update?

• Why did you set up a demo HYP, and how did you choose the shares?

• When and how did you buy the demo HYP?

• What do you do with the dividend income? Why don’t you reinvest it?

• How do you benchmark the demo HYP?

• What’s the trading strategy? (There’s no trading!)

• How did the portfolio do in its first year?

• How was it doing after two years?

Right – that’s enough HYP updates for this year!

I am sure we’ve all (at least around these rarefied parts) at some time asked ourselves: “Am I saving enough for retirement?”

For years, it’s been a boringly predictable question that has been used to frighten people into upping the amount that they put into their pensions.

Towards the end of every tax year, for instance, the usual scare-story projections are trotted out by lazy journalists looking to file a feature on SIPPs or Additional Voluntary Contributions.

IFAs – those fine, upstanding members of the community – are also keen advocates of the ‘are you saving enough for retirement’ question.

(You’re not? Well, they have just the product for you.)

Most Monevator readers, I’d guess, will have long since learned to switch off when they see the words. Broadly speaking, we will have decided years ago what level of saving was appropriate for our circumstances, and proceeded accordingly.

The savings vehicle of choice might have differed – one man’s SIPP is another woman’s ISA, and all that – but there would be no denying the commitment to serious saving and investing.

Miserly returns

Up until recently, I’d have put myself very firmly in that camp, too.

Now, I’m not so sure.

Take a look at the UK’s latest historic equity returns, as published in the prestigious Barclays Equity Gilt Study 2016, released in March.

Continuously published since 1956, the Barclays study tracks the real (after inflation) returns on cash, equities, and bonds, all the way back to 1899.

Here are the real returns (% per annum) for UK equities, gilts, and cash:

Source: Barclays Capital Equity Gilt Study 2016.

No surprises there, perhaps. 2015 was a dud, and real returns from equities over the past ten years were just 2.3% a year. Only over the past 20 and 50 years do we see serious returns being achieved.

The only consolation is that cash and bonds didn’t do much better, either, although gilts have fractionally outperformed equities over ten and 20 years.

So much for the risk premium, Mr Ross Goobey ((George Ross Goobey was the fund manager who in the late 1940s and 1950s famously persuaded pension funds to invest in equities, not just gilts.)).

Rear view vision

Now let’s turn the clock back ten years, and look at the 2006 edition of the Barclays Equity Gilt Study.

UK equity real returns (% per annum) as per a decade ago:

Source: Barclays Capital Equity Gilt Study 2005.

You don’t need to have made a recent visit to Specsavers to see the difference.

Ten years ago, the expectations of equity returns, based on past returns, were very different from those of today – and much, much, higher.

And that, what’s more, was in 2006 – in other words, a time when the UK’s stock markets were well into the post-dotcom ‘lost decade’.

Take the equity returns you’d have been looking at in 2005 as having been accrued over the previous 20 years, for instance: 7.4% a year. Incredibly, that’s twice the return of 3.7% seen in our latest figures.

The past ten years? 5.0% a year in 2005 – just over twice the return seen in the latest figures.

Flawed assumption?

All of which matters – at least to many Monevator readers – because the mid-2000s was when many of us were formulating our retirement plans.

Looking back at my own spreadsheets, for instance, I see that I was pumping £530 a month into various retirement-related investment vehicles, by way of regular monthly savings.

That’s net of any tax relief, and also excludes any end-of-year lump sum investments made for tax purposes.

Small beer to some, perhaps. But, totaling it all up, I was probably putting aside £9,000-£10,000 a year.

Again, small beer to some. But significant enough at the time, and especially so given my own circumstances, with one child still in primary school, and one just started in secondary school.

Save more! Save more!

The point is this: doing those same sort of calculations today, and looking at today’s expected investing returns, those Barclays Equity Gilt Study figures suggest that I would need to be putting aside considerably more.

And I’m not at all sure that would be possible, for someone at a similar stage of life, and with similar financial circumstances.

Heck, even though I’m in the fortunate position of being able to invest considerably more these days, it’s still a pinch at times – even though one child has left home, and the other is at university.

What to make of it all?

For me, the bottom line is that even though I was aware – on an intellectual level – that returns over the past few years had been lower, I was unprepared for how much lower they appear to have been.

Or that even though 2015 saw the FTSE 100 finally surpass its dotcom peak – some 15 years afterwards – the intervening years were so dismal as to still halve the long-term returns compared to 2006.

Am I saving enough for retirement? Possibly so. Just.

But I bet many others aren’t, even though they thought that they were.

Note: You might want read all Greybeard’s previous posts about deaccumulation and retirement.