The day advanced as if to light some work of mine

Thoreau, Walden

This is my thirty-eighth portfolio update. I complete this update monthly to check my progress against my goal.

Portfolio goal

My objective is to reach a portfolio of $2 180 000 by 1 July 2021. This would produce a real annual income of about $87 000 (in 2020 dollars).

This portfolio objective is based on an expected average real return of 3.99 per cent, or a nominal return of 6.49 per cent.

Portfolio summary

• Vanguard Lifestrategy High Growth Fund – $813 282
• Vanguard Lifestrategy Growth Fund  – $45 802
• Vanguard Lifestrategy Balanced Fund – $83 162
• Vanguard Diversified Bonds Fund – $110 472
• Vanguard Australian Shares ETF (VAS) – $178 121
• Vanguard International Shares ETF (VGS) – $34 965
• Betashares Australia 200 ETF (A200) – $272 399
• Telstra shares (TLS) – $2 046
• Insurance Australia Group shares (IAG) – $8 970
• NIB Holdings shares (NHF) – $6 492
• Gold ETF (GOLD.ASX)  – $106 701
• Secured physical gold – $17 252
• Ratesetter (P2P lending) – $14 755
• Bitcoin – $153 530
• Raiz app (Aggressive portfolio) – $18 365
• Spaceship Voyager app (Index portfolio) – $2 534
• BrickX (P2P rental real estate) – $4 477

Total portfolio value: $1 873 325 (+$94 067)

Asset allocation

• Australian shares – 42.8% (2.2% under)
• Global shares – 22.6%
• Emerging markets shares – 2.4%
• International small companies – 3.1%
• Total international shares – 28.1% (1.9% under)
• Total shares – 70.9% (4.1% under)
• Total property securities – 0.2% (0.2% over)
• Australian bonds – 4.5%
• International bonds – 9.5%
• Total bonds – 14.0% (1.0% under)
• Gold – 6.6%
• Bitcoin – 8.2%
• Gold and alternatives – 14.8% (4.8% over)

Presented visually, below is a high-level view of the current asset allocation of the portfolio.

Comments

This month saw exceptional growth in the portfolio, with a net increase of $94 000 after a small fall last month.This is the fastest growth in the past half year. It is also the second largest absolute increase in over three years of measurement.

As the histogram below – which counts the frequency of occurrences in a specified range of monthly value changes (with red denoting losses) – makes clear, this is one of the most positive outcomes in the three year record.

The sources of portfolio growth were generally buoyant global and Australian share markets. Just under half of the growth was also due to an increase in the price of both gold securities and Bitcoin. In addition, even bond holdings increased in value over the period.

Distribution payments from the Vanguard retail funds, as well as the exchange-traded funds VAS, VGS and A200 were made through this month.

These totalled around $14 000 and have begun to be gradually fed back into the portfolio. This is a process which will occur through to June – with new investments twice per month. So far this has led to additional purchases in Vanguard’s Australian shares exchange-traded fund (VAS) to maintain the target allocation of Australian equities making up 60 per cent of all equity holdings.

The bond allocation of the portfolio continues to be notionally under its target, but has not yet reached a position where further balancing investments are warranted. Fully excluding the value of Bitcoin, for example, it still sits on its target allocation of 15 per cent of the portfolio.

If the same calculation is done for equities, they sit just above their target, at 77 per cent, and have drifted higher since early last year. Over the past months my position has been to take no portfolio balancing actions based purely on the volatile value of Bitcoin over time, and this remains my approach.

There is no perfect answer to this issue – assigning no value to Bitcoin and ignoring it for asset allocation purposes is inconsistent with its role in the portfolio. Pushing either equity or bond allocations sharply out of target boundaries merely due to short-term Bitcoin movements is also not warranted. Taking a backcast ‘moving average’ approach might be one statistical solution, but I am not yet convinced it would do more than moderate the appearance of the issue.

While expenditure has been higher over the holiday period, on average the gap between the rolling three-year average of distributions and credit card expenditure continues to close, and sits at just over a $300 per month gap at present.

Flags of convenience – estimating hedging in the portfolio

This month, out of a curiosity carried over from my recent review of my bond holdings, I have found the time to review of the overall currency hedging position of the portfolio.

There are some excellent online research papers (pdf) and blog pieces, such as this one from Passive Investing Australia, for those interested in learning more about some of the associated issues.

Currency risks have never previously been an object of much detailed thought on the journey. Rather, I had tracked a basic measure of broader exposure to foreign assets (including foreign equities, property securities, gold and more recently Bitcoin).

The additional issue of whether my exposure to these assets was unhedged (meaning exposure to gains and losses from the relative movement in the Australian dollar and the foreign currencies) or hedged was not really front of mind.

I suppose I had a dim awareness that some elements of the Vanguard retail funds that have until recently dominated the portfolio were hedged (for example, around 30 per cent of the Vanguard High Growth Diversified funds equity position is currency hedged), and judged that there was likely a well-considered rationale behind the amount of this hedging.

The first step to understanding where any exposures exist is to understand and measure the current state of affairs. As of today, this is broadly as set out below:

• Around 35 per cent of all portfolio assets are effectively unhedged – This includes Bitcoin, unhedged gold holdings, and unhedged international equities and bonds. All other things being equal, if the Australian dollar falls, the value of this part of the portfolio rises in relative terms.
• The remaining 65 per cent of assets are either hedged or Australian-held assets – This includes Australian equities, Australian bonds, as well as international equities and bonds hedged back to the Australian dollar.
• International equities are partially hedged – The portfolio has around $525 000 in international equities currently. Of this, around $140 000 is hedged back into Australian dollars – a hedging position of 27 per cent.
• International bonds are nearly fully hedged – consistent with their portfolio role and discussed here.

The decision to invest in Vanguard’s International Shares ETF (VGS), which is unhedged, is a significant event in this regard.

The chart below shows the overall level of currency hedging in the international equity portfolio. Investments in VGS commenced from July 2019, and have started to affect the level of hedging.

As future contributions flow into VGS – absent any other action – a historically quite stable level of hedging will continue to fall. So far this is just a trend I am monitoring, until I have completed more research and thinking on the best approach in this area.

There are many complicated, and some unknowable, issues to consider and balance in hedging decisions, such as the likely denomination of future costs, and the historical and future relationships between domestic currencies and equity markets. None avail themselves of short or easy answers. Until I have thought my way through them more fully, I remain hesitant to make any definitive decisions.

Progress

Progress against the objective, and the additional measures I have reached is set out below.

Measure	Portfolio	All Assets
Portfolio Objective – $2 180 000 (or $87 000 pa)	85.2%	115.9%
Credit card purchases – $71 000 pa	103.9%	141.4%
Total expenses – $89 000 pa	83.3%	113.3%

Summary

This month has seen rapid progress, propelling the portfolio closer to both old and new goals. The portfolio gains this month have already closed nearly half of the additional distance created by increasing my portfolio target at the beginning of the year.

The psychological forward push from distributions performance across 2019 (including, pleasingly, seeing it recognised here) has added to this sense of momentum. Additionally, this month I have also crossed the threshold to the target portfolio size needed to achieve ‘credit card FI’, a long-standing measure I have tracked.

The long summer break that has just ended in some ways seemed like a foretaste of what some versions of financial independence could feel like. With the minimum of planning there was time to read, rest, exercise and write largely as I pleased.

Returning to work following this has been infused with an unusual sense of being a temporary visitor in a new workplace. There is a greater philosophical detachment, in observing its rituals and rhythms, and less of a desire to seek to shape or resist its minutiae. Rather, what I have focused on is seeking to more deliberately make use of the freedoms it does not constrain, and pursue the best and most interesting use of the time that is outside of work hours.

Through these recent strong Australian and US equity markets, this article has been a useful reminder of the ‘survivorship’ risks of focusing a FI target too narrowly on past performance.

This excellent recent piece from Aussie HIFIRE has also, from another direction, usefully focused on separating out the decisions that do, and do not, materially matter in planning and executing on a passive indexing strategy over the long-term. For a challenging and entirely heterodox view on the potential long-term movement of equity markets upwards from here, this article has been thought-provoking.

Finally, this month I have been discovering the Jolly Swagman podcast, which has long and fascinating interviews with the ex-head of the Reserve Bank of Australia, and Nobel Prize winning US economist Robert Shiller speaking on bubbles and narrative economics.

During the long restful hours of summer break, the day has advanced. Though clouds may come in time, as the year starts – at least – the way forward looks bright.