Ships and sails proper for the heavenly air should be fashioned.

Johannes Kepler, Letter to Galileo (1609)

Twice a year I prepare a summary of total income from my financial independence portfolio. This is my twelfth portfolio income update since starting this record. As part of the transparency and accountability of this journey, I regularly report this income.

My primary goal is to maintain a portfolio of at least $2,620,000 which is capable of providing a passive income of around $91,600 (in 2022 dollars).

Portfolio income summary

Investment	Amount
Vanguard Lifestrategy High Growth (retail fund)	$32,182
Vanguard Lifestrategy Growth (retail fund)	$1,539
Vanguard Lifestrategy Balanced (retail fund)	$1,871
Vanguard Diversified Bonds (retail fund)	$187
Vanguard Australian Shares ETF (VAS)	$17,129
Vanguard International Shares ETF (VGS)	$3,224
Betashares Australia 200 ETF (A200)	$11,230
Telstra shares (TLS.ASX)	$43
Insurance Australia Group shares (IAG.ASX)	$76
NIB Holding shares (NHF.ASX)	$132
Plenti/Ratesetter (P2P lending)	$25
Raiz app (Aggressive portfolio)	$260
Spaceship Voyager app (Index portfolio)	$47
BrickX (P2P rental real estate)	$24
Total Portfolio Income – Half-Year to June 30, 2022	$67,968

The chart below sets out the income or distributions received on a half-yearly basis from the financial independence portfolio over the past six years.

The following pie chart is a breakdown of the contribution of each major current investment in the portfolio to the total half-yearly distributions.

Comments

Total distributions in the half-year to June 2022 from the portfolio have been $67,968 – or around the equivalent of $11,300 per month over the past six months.

This result is lower than the same period in 2021, which was a record. Nonetheless, it is the second-highest level of half-year distributions paid out on the journey so far.

The level of distributions for this half-year were quite close – within 5 per cent – of the forecasts made back in April. These estimates were based on past average distribution rates for the Vanguard retail funds and exchange traded funds.

The June distributions continue to be the single largest set of payments received through the year, on average, even though as discussed in the most recent portfolio update this is broadening out with recent exchange traded fund investments (A200, VAS, VGS) that pay out on a quarterly basis.

Trends in portfolio income from 2000 to 2022

The recent end of the financial year provides an opportunity to look back at the overall trends in portfolio distributions across the whole financial independence journey.

In the whole financial year of 2021-22, portfolio distributions of around $96,700 were received. This is the equivalent of a monthly payment of $8,058.

This is the second highest set of financial year distributions to date – and more than 25 per cent larger than the next comparable total.

The payments are lower than the last financial year, which featured record payments from the Vanguard High Growth fund in particular, and which was itself an outlier when compared to any other year.

The chart below sets out the full history of total portfolio distributions in nominal dollars, with green bars indicating the period covered since the start of this written record.

The red dotted line tracks the average level of the portfolio through each financial year.

What can be seen from this graph is the generally tight connection between the portfolio size, and the level of distributions. At the commencement of the journey distributions and portfolio size tracked closely together.

Around 2016-17, the time this record started, there is a phase change in the level of distributions. In that year distributions almost doubled from the previous year, pushing to around $62,000 – a full salary income for many Australians.

Since that time, there have been oscillations in the absolute dollar level of payments from year to year, but an unmistakeable upward trend.

The impact of compounding is striking in the chart above, contributing to a bunching of the majority of distributions in later years, as the portfolio has expanded.

For example, nearly half of the real inflation adjusted value of all distributions received has been received in the past four years, and 80 per cent has been received in the past 10 of the full 23 year period of investing.

It is worth noting that for simplicity the chart above tracks nominal dollars.

In doing so, it mildly overstates the ‘real’ value of recent distributions and portfolio values, or put another way, understates the purchasing power of those distributions received earlier on the journey.

A changing composition of portfolio distributions: 2017-2022

These June half-year distributions continue the story of the changing composition of portfolio distributions through time.

This largely reflects investment actions. Since June 2018, all significant investments have been directed almost exclusively into one of three exchange-traded funds – A200, VAS and, more recently, VGS.

For this half-year to June, around 43 per cent of distributions flow from these exchange traded funds.

As the distributions from the Vanguard High Growth fund have reverted to a more typical level, this means that in the chart below, the increasing diversity of sources of distributions can be seen, growing from a tiny sliver in 2018, to a substantial minority of all payments in the June 2022 half-year.

The chart below sets out the different level and components of half-year to June period over the last six years.

The increasing number of different sources of portfolio income is welcome, but needs to be viewed carefully.

It is the underlying assets and their performance that will ultimately drive portfolio distributions. Diversity in investment vehicles, while sometimes desirable for other reasons, does not change the underlying performance characteristics of the assets held.

As an example, higher (or lower) Australian dividend payments will impact the performance of both VAS and A200, as well as the (substantial) Australian shares components of the three Vanguard funds.

For a comparison to the make up of these half-year results, and a broader picture, the composition of the full 2021-22 financial year distributions is set out in the pie chart below.

The shifting nature of the portfolio distributions continue to be visible here.

Across the financial year 2021-22, the exchange traded funds provided around 49 per cent cent of the total distributions, compared to a low of 13 per cent in 2020-21 and around 20 per cent in the prior year.

A longer view of the changing composition of distributions

A different perspective, across an even longer time period, is provided by the chart below.

It sets out the level of, and changes in, major components of portfolio distributions over the past two decades.

The dominating feature of this chart is the high and variable distributions from the Vanguard High Growth fund (teal). These often include a large element of paid out capital gains arising from rebalancing or fund redemptions.

For this fund, half year payments tend to oscillate between lower December payments of around $10,000, and higher June payments in the $25,000 to $35,000 range. As no new contributions are being made to this fund, its pattern and level of payment is likely to be sustained or slightly decline through time.

What can also been seen over the past two years is distributions from the VAS (purple) and A200 (blue) and to a lesser extent VGS (grey), exchange-traded funds accelerating to become significant in their own right.

In the case of the Australian funds (VAS and A200), these are lifting out of the pack of different vehicles to become regular sources of major income.

Above the water line: portfolio distributions and expenses

A typical measure for whether financial independence has been fully achieved is the level of portfolio investment income compared to normal expenses.

The chart below sets out the proportion of estimated total expenses (recorded credit card expenses plus estimated additional annual fixed expenses) that have been met by portfolio distributions through time.

To reduce the volatility of month-to-month results, rolling three-year averages of both distributions and expenses are used in the chart.

This shows that since the beginning of this record average distributions have gone from meeting around one-third of total annual expenses to crossing the 100 per cent threshold in April 2021. At the end of this half-year, the measure is at 134 per cent, up from around 120 per cent at the start of this year.

The ‘crossover’ point – a term coined by the seminal financial independence book Your Money or Your Life – has come from both a continued trend fall in expenses, and increased distributions through time.

The same journey can also be illustrated by reference to absolute dollar levels of distributions and total expenses. This is shown in the following chart, which takes a three-year moving average of both distributions and total expenses up to the end of June.

This chart has been recalculated since last month using the latest distributions data.

Mapping the currents: using the portfolio distributions

Based on distributions announcements, the June distributions from the Vanguard funds, and exchange traded funds A200, VAS and VGS, will lead to around $54,700 of capital being available to be invested or otherwise used over the next few weeks.

This sum is less than the full half-year total reported above because March quarter distributions from a number of the funds and ETFs have already been paid and were immediately re-invested across April.

I have recently increased the amount I set aside for future portfolio-related tax liabilities. Setting aside 35 per cent of the payments will mean keeping around $19,000 in cash to meet future Pay As You Go Installment liabilities.

The remainder – of around $35,000 – is planned to be invested in equal increments on a fortnightly basis though July to December.

These increments will continued to directed according to my current asset allocation plan.

In the annual review at the start of the year I decided to target a higher equity portfolio allocation of 80 per cent, and will also to continue to seek over the medium-term an equal equity exposure to global and Australian shares.

Given this, consistent with the approach for the past year, this is likely to mean future investments will be directed to the Vanguard international shares ETF (VGS) as international equity allocations continue to fall well below the Australian equity component.

Reviewing the emergency fund: a temporary pause in reductions

Since 2017 a regular task following finalising each half-year distributions estimate has been to review the required level of my emergency fund.

This fund is currently set at a level of providing the equivalent of one year of expenses equal to my Portfolio Goal target income of $91,600. It is primarily designed to cover expenses in any unexpected periods without employment income or to help meet any major unanticipated expenses.

I used to determine how much cash is required for the emergency fund by reference to the gap between an estimate of average distributions and the target income (i.e the emergency fund was set equal to the portfolio target income minus expected full year distributions).

I typically seek to average the raw five-year average of annual distributions, and alternate estimate based on average per fund or ETF unit distributions, and a long-term estimates of total distributions as a percentage of the portfolio.

Today, these three approaches combined continue – as in December 2021 – to indicate likely forward distributions of around $74,000 per year that could be used in an emergency.

The emergency fund set last year was $18,000.

In theory, strictly applying my previous methodology, I could afford to slightly reduce my emergency fund from $18,000 to $17,000. This step would be out of step, though, with increasing my cash reserves as the date of potential early retirement nears.

Last year at this time I set a new goal of reaching a full year equivalent in cash reserves, to provide a basis for smoothing out distribution income volatility, and providing a ‘buffer’ for an early retirement decision. This has not been achieved as I have chosen to reinvest distributions over the past year.

For the moment also, I plan to continue to reinvest the portfolio distributions, in recogniton of the fact that the primary portfolio is well under the target level. Potentially more critically, the current equity portfolio holdings are also well below – by around $450,000 – the target equity portfolio of $2.1 million.

Observations

This half-year to June 30, distributions have both fallen within forecast expectations, and also reached their second highest level on record for this period. It is not foreordained that this strong growth will continue. In June 2017, half year results hit a record level that was not exceeded until 2021.

In fact, the full financial year that this record began in (2016-17) coincided with a period of higher than average distributions.

At times I view the output of the portfolio as equivalent to a silent and tireless ‘worker’. Viewed from that perspective that financial year it earned just under $35 each standard working hour in 2021 dollars. This financial year, by contrast, the portfolio ‘earned’ the equivalent of nearly $49 each working hour. This means that over the past five years, the portfolio ‘worker’ has effectively received a real wage increase of over 40 per cent.

Another way I have conceptualised this same idea is by considering a metric of how much the portfolio has earned each hour of day and night, through the relevant year. In early 2017 this was around $7.86 in todays dollars. For the past financial year it has been $11.04.

This expansion has come relatively recently. Over the first 11 years of the financial independence journey, half-year distributions never exceeded $10,000.

Since they began to do so regularly, from around 2013, collating the half-year distributions from the portfolio has provided a regular waypoint, at which to look back and reflect on progress.

At each point, looking back, it is with a slightly changed perspective. A constant is that it provides tangible evidence of the power of steady effort applied across time, which brings with it motivation to push forward.

Different stages, however, can be discerned.

At first, measuring was in part just a motivating tool to understand the basic income generating potential of the various investments based on past years, and to understand the degree to which the motor of compounding might be in evidence.

Later came a curiosity about the stability of this income, compared to the portfolio income goals set.

More recently, a focus has been the changing composition and timing of the portfolio income, with the rise of exchange traded funds as a larger component of the portfolio. With that has also come a desire to look through the inevitable yearly variations, and understand the underlying likely median flow of income that might be expected.

At the moment, depending on which measure used, this appears to be around $72,000, or perhaps slightly above this.

On the most pessimistic measure – applying the lowest yearly distribution rate experienced to the current portfolio, it may be around $64,000. Paying regard to the persistent trend of higher average distributions through time of most of the Vanguard funds, a higher estimate of around $94,000 can be reached.

Over time, more data from the passage of years will indicate the true upper and lower bounds of likely distributions.

Yet the significance of the portfolio distributions may rather change, compared to the past.

Increasingly, the future questions may fall around other issues such as: do any of the distributions need to be reinvested to maintain the target size of the portfolio? In which asset clases? And, what proportion of the distributions should be maintained in cash to maintain an adequate buffer for expected expenses, or otherwise held for less definite future plans?

Novelty always has a strange, jarring and unpredictable aspect.

Through sheer unfamiliarity – the thought that the passive income stream may have reached this point – thinking about these questions seems akin to designing ships and sails for a voyage into an unknown sky. Yet even so, Kepler’s conception, as strange as it was to generations now long past, was in time perfectly realised.

Explanatory Notes

Income distributions reported above do not include associated franking credits. My current preference is to seek to track cash actually delivered to my bank account as a tangible and easy to calculate measure. Last financial year it is provisionally estimated that franking credits valued at approximately $14,907 were received from all shares, ETFs and Vanguard retail funds, bringing the total half year distributions on a notional ‘pre-tax’ basis to approximately $75,400.

The income assumed for funds in the Plenti peer-to-peer lending platform is based on historical averages of the applicable lending rates used, together with the average balance over the periods. For analytical simplicity some composition graphs exclude small income from smaller holdings such as IAG, NHF and Telstra, as well as Raiz, Spaceship and Plenti. The total income excluded by this approach ($607) constitutes less than one per cent of the total income received over the period.

Disclaimer

The specific portfolio allocation and approach described has been determined solely based on my personal circumstances, objectives, assessments and risk tolerances. It is not personal financial advice, or recommendation to invest in any particular investment product, security or asset, and investors considering these issues should undertake their own detailed research or seek professional advice.