Nothing is so simple that at first sight it is not rather difficult to believe.

Lucretius

This is my fifty-seventh monthly portfolio update. I complete this regular update to check progress against my goal.

Portfolio goal

My objective is to reach a portfolio of $2,585,000 by 31 July 2022. This would produce a real annual income of about $90,500 (in 2021 dollars).

This portfolio objective is based on an assumed safe withdrawal rate of 3.5 per cent.

Portfolio summary

Vanguard Lifestrategy High Growth Fund	$827,990
Vanguard Lifestrategy Growth Fund	$44,452
Vanguard Lifestrategy Balanced Fund	$80,423
Vanguard Diversified Bonds Fund	$101,260
Vanguard Australian Shares ETF (VAS)	$360,383
Vanguard International Shares ETF (VGS)	$227,040
Betashares Australia 200 ETF (A200)	$297,832
Telstra shares (TLS)	$2,046
Insurance Australia Group shares (IAG)	$6,639
NIB Holdings shares (NHF)	$8,124
Gold ETF (GOLD.ASX)	$112,377
Secured physical gold	$17,967
Plenti (P2P lending)	$1,479
Bitcoin	$727,780
Raiz app (Aggressive portfolio)	$21,380
Spaceship Voyager app (Index portfolio)	$3,502
BrickX (P2P rental real estate)	$4,982
Total portfolio value	$2,845,658 (+$162,232)

Asset allocation

Australian shares	35.9%
Global shares	21.7%
Emerging market shares	1.6%
International small companies	2.0%
Total international shares	25.3%
Total shares	61.2% (-13.8%)
Total property securities	0.2% (+0.2%)
Australian bonds	2.6%
International bonds	5.8%
Total bonds	8.5% (-6.5%)
Gold	4.6%
Bitcoin	25.6%
Gold and alternatives	30.2% (+20.2%)

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

Comments

This month the financial independence portfolio has surged to its highest level on the journey, growing 5.7 per cent or $162,000.

This results in the portfolio reaching $2.84 million, overtaking short-lived peaks in March and April.

This is nearly double the growth of the last month, and clearly came from two main sources.

First, the value of Bitcoin holdings increased by around 14 per cent, or nearly $100,000. The second area of expansion was equities, where international shares grew by 3.6 per cent. Similarly, Australian equities increased in value by around 2.5 per cent, or around $23,000.

In contrast to this, both gold and bond holdings were largely stable.

Strong equity markets have also taken the equity component of the portfolio to its highest ever level, meaning that total equity holdings are at 90 per cent of the intended target allocation (estimated as $1.9 million, or around 75 per cent of the total portfolio goal).

Applying my longer-term asset allocation glide-path towards an equal balance between global and Australian shares, this month new investments have been exclusively directed to the Vanguard global shares (VGS) fund.

For the past three months the portfolio has grown rapidly.

Looking back a year, the entire portfolio has expanded by a seemingly impossible $1.0m. A little over half of this is a result of Bitcoin, with the remainder being largely attributable to an expansion in the equity portfolio.

In turn, this growth in equities has been focused in the exchange traded funds in particular, with the proportion of the total portfolio held in Vanguard retail funds falling to just 33 per cent for the first time this month.

An invisible wind – update on the contribution of franking credits

The passage of the last financial year and release of various fund tax statements allows an update on the role and level of the ‘invisible wind’ of franking credits on after-tax portfolio returns.

Franking credits effectively represent pre-payments of personal income tax liabilities by companies, passed through to shareholders as part of dividends.

This means that a franking credit, for most Australians owing tax on taxable income, is effectively as valuable as the equivalent pre-tax dollar amount. That is to say, in the absence of the credit, the equivalent cash amount would need to be generated to meet the tax liability.

For most of the journey these franking credits were a minor and inconsequential item on tax returns, even if they were a known source of a small additional notional return on Australian equities.

Recently, however, the level of franking credits has begin to assume some significance in its own right. The figure below provides a time series of the level of credits generated by the portfolio.

The pattern of the graph above reflects a few factors.

• Growth in the size of the portfolio – the shape of the franking credit levels broadly follows from the growth in the portfolio over the period, with the Australian equity portfolio growing around 12 times in the time period indicated.

• Changing asset allocation through the period – through this time, and particularly in the period 2017 to 2019, there was a focused investment effort in Australian equities, lifting the allocation from around 44 per cent to 60 per cent.

• Increased use of exchange-traded funds – the increasing direction of investments since 2017 to exchange traded funds, rather than the Vanguard retail funds, is clearly evident from data – in fact these have collectively generated more than 50 per cent of the credits over the past two years.

This past financial year the level of franking credits declined slightly.

One contributory reason for that may be the increased direction of funds to global equities, which do not generate franking credits. Another is likely natural cyclical variation. The levels of franking credits available to firms to distribute is a function of past company profits and tax payments.

Finally, as with dividends, firms also have some discretion over the level of franking credits they hold, though most will generally seek to regularly distribute these to shareholders

The graph below illustrates the variation all these different forces and factors can collectively result in.

It shows the absolute level of distributions over the past twelve years (blue), and value of franking credits, as a percentage of these distributions in each year (red).

So, for example, in 2017-18 total distributions were around $76,000. Over the same year franking credits of around $4,300 – or 6 per cent of the amount of distributions – were also received.

It is clear that the overall level of distributions is generally rising across the period.

The level of franking credits as a proportion of total distributions is more volatile. It generally sits between 6 and 14 per cent of total distributions.

Part of this is a timing issue related to firm decisions over the timing of the passing through of franking credits otherwise held at a company level. Generally, this would be expected to be correlated to patterns in company profits at a market level, with some lag in some cases.

So while not perfectly stable, franking credits are representing a material force pushing the after-tax returns of the portfolio forward, in a way that is easy to overlook if only paid out distributions are considered.

Trends in average distributions and expenses

Average credit card expenses continue to steadily decline.

Part of the reason for this now is the impact of a substantial period of lockdown in the past year, which naturally suppresses discretionary expenditure.

Average distributions have grown strongly over the past year, but this has levelled off somewhat, as unusually high distributions in early 2018 drop out of the rolling sample.

As a result the blue line of distributions has just evened off previously high growth, whilst the credit card expenses (red) line continues to track downwards.

The most recent results are illustrated in the chart below.

This shows that at present there is a substantial ‘gap’ opened up – of around $2,000 per month – between average total distributions received and monthly credit card expenses.

Progress

Measure	Portfolio	All Assets
Portfolio objective – $2,585,000 (or $90,500 pa)	110.1%	139.8%
Total average expenses (2013-present) – $84,600 pa	117.1%	149.6%

Summary

Set against the scale of recent events across Australia, and the world, the developing ‘story’ of the portfolio has seemed minor and inconsequential at a personal level. The pace and daily repetition of renewed lockdowns gives the impression of sameness.

Yet this sense of day-to-day sameness is in some ways highly misleading.

An extraordinary transformation in the portfolio has actually played out across the past year, obscured by the on-rush of more important events.

Around a million dollars has been added to its size over the past year, nominally equivalent to the entire progress of the first 20 years of the investing journey. This simple way of measuring only nominal dollars ignores, of course, the subtle truth that early investments actually typically make up a much higher proportion of the final portfolio, due to compounding.

Global events and this accelerated progress are undoubtedly intertwined in a range of complex ways.

Since the commencement of the pandemic central banks have purchased around USD$834 million of financial assets every hour of every day. A significant part of recent progress, therefore, must be attributed to this fact and the asset price inflation it has triggered.

Official public assessments of these policies are only really commencing, such as this House of Lords inquiry.

Even as this happens, however, architects of these extraordinary policies continue to promote their hoped for success, and seek to understand the causes for historically low interest rates, a focus of discussions at the recent Kansas Fed Jackson Hole meeting.

The scale of these policies and the complex uncertainties they foster can easily invite a kind of passivity and inertia. Yet, as Big ERN highlights in this recent post, safely preparing for financial independence requires a certain mathematical precision and awareness of risk even under normal conditions of uncertainty.

During this time, a consistent focus on the already settled goal of greater international diversification appears to one way to reduce overall risk. As a consequence on increased global equity investments, and the rising price of Bitcoin just over 50 per cent of the portfolio is now held outside of the Australian dollar environment.

This month I have taken many of my walks listening to The Dao of Capital, enjoying its ’roundabout’ approach of interweaving science, philosophy and history with underlying financial themes. The author is an investing partner of Nassim Taleb, and an advocate for an ‘Austrian‘ school of economics approach to investment.

The possibly final podcast from the Mad Fientist, commemorating the fifth anniversary of his early retirement was also interesting listening this month, as was this Earn and Invest ‘history of FIRE’ podcast.

As the month closes, the currents of markets and policies continue to exert their fickle power, holding the potential for sharp reversals, or unanticipated gains.

This makes it difficult to credit at first sight that the intended journey may be over, and a further, extended journey may have commenced amidst quiet daily routines. That is a truth so simple that it has been difficult to believe so far.