Time is the wisest counsellor of all.

Pericles

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

Portfolio goal

My objective is to achieve and maintain a portfolio of at least $2,750,000 by 31 December 2024 or earlier. This should be capable of producing an annual income from total portfolio returns of about $94,800 (in 2023 dollars).

This portfolio objective is based on an assumed safe withdrawal rate of 3.45 per cent.

A secondary focus will be achieving the minimum equity target of $2,200,000.

Portfolio summary

Vanguard Lifestrategy High Growth Fund	$724,110
Vanguard Lifestrategy Growth Fund	$38,118
Vanguard Lifestrategy Balanced Fund	$69,131
Vanguard Diversified Bonds Fund	$84,578
Vanguard Australian Shares ETF (VAS)	$420,542
Vanguard International Shares ETF (VGS)	$578,045
Betashares Australia 200 ETF (A200)	$262,175
Telstra shares (TLS)	$2,030
Insurance Australia Group shares (IAG)	$7,183
NIB Holdings shares (NHF)	$8,688
Gold ETF (GOLD.ASX)	$141,183
Secured physical gold	$22,310
Bitcoin	$600,385
Raiz app (Aggressive portfolio)	$20,107
Spaceship Voyager app (Index portfolio)	$3,347
BrickX (P2P rental real estate)	$4,431
Plenti Capital Notes Market Loan	$5,000
Total portfolio value	$2,991,363 (+$105,860)

Asset allocation

Australian shares	33.6%
Global shares	30.7%
Emerging market shares	1.3%
International small companies	1.7%
Total international shares	33.7%
Total shares	67.3% (-12.7%)
Total property securities	0.1% (+0.1%)
Australian bonds	2.2%
International bonds	4.8%
Total bonds	7.0% (+2.0%)
Gold	5.5%
Bitcoin	20.1%
Gold and alternatives	25.5% (+10.5%)

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

Comments

The portfolio increased in value by around $105,000 through this month, pushing it to its highest level since late 2021.

This move represented a 3.7 per cent increase in its value, more than offsetting losses through the last two months.

The different segments of the portfolio sharply diverged across the month, as higher inflation outcomes in Australia and yield increases in government bond markets globally challenged the comparative value and outlook for equities.

The equity portfolio suffered sharp losses in its domestic component, down around 3.3 per cent after accounting for dividends being distributed. In the case of international shares the losses approached 2.7 per cent, cushioned by a weaker currency performance on the part of the Australian dollar.

An entirely different story can be told of the performance of some of the alternative assets.

The value of Bitcoin increased by 29 per cent across the month. Similarly, the value of gold holdings increased by around 9 per cent, to reach their highest ever level.

These assets have not moved pro-cyclically.

Rather, their performance appears driven by a combination of increased risk aversion from recent geopolitical events and inflationary concerns. In the case of Bitcoin, these factors were added to by building expectations around approval of new ETF vehicles allowing wider investor participation in the asset.

This month third quarter distributions were received, allowing the additional reinvestment of around $10,000 of paid out distributions.

The investments through the month were made to continue to target an equal allocation between Australian and global equities as set out in the plan. This approach, combined with the movements in each market index, meant a split through the month between investment in Vanguard’s Australian shares ETF (VAS) and Vanguard’s Global Equities ETF (VGS).

A further new investment was made in Plenti’s new Notes Market, as foreshadowed last month.

This is effectively a small $5,000 investment exposed to junior rated notes on cashflows from a range of personal loans, which themselves have been aggregated into an Asset Backed Security market instrument.

Due to their higher risk (especially of default resulting in capital loss) and illiquidity products like this should not form a core part of anyone’s asset holdings. They currently form only around 0.2 per cent of the total portfolio. I have made the initial investment on the basis that a total loss of capital would not materially affect the overall portfolio, or any individual financial goals.

The yield is fixed at 9.5 per cent on an annual basis, though with a much higher risk of capital loss than high yield cash-based saving products. It is effectively a small new ‘exploratory’ investment made due to an interest in the working and performance of the product, and one that I may gradually expand into the future, depending on the results and experience.

Changing currents: expected shifts in the patterns of distributions

Over the past month, the structure and form of my prior Vanguard retail fund holdings have changed, as part of a Vanguard required shift to the Vanguard Personal Investor platform.

This led to a transfer process, happily with no realised capital gains consequences, out of some superceded legacy retail index fund structures, to newer wholesale funds under the new platform.

This has meant no material changes to the asset allocation of the investments, and is mostly an inconsequential event on the road to financial independence – with one minor exception. This is that the new wholesale funds I have been automatically been transferred to distribute income and capital gains quarterly, rather than twice a year.

There was some confusion in the final payout frequency in the changeover process, reflected in multiple updating notations to the last monthly update.

In practical terms, the new arrangements result in a change in the overall pattern of distributions through the year, given the Vanguard funds will now also be distributing in the March and September quarter, alongside the existing exchange traded funds.

This will mean a general ‘flattening out’ of the level of payments through each future year compared to the past, potentially helpful in future cashflow terms, with June quarter payments now assuming a slightly reduced level of significance on average, and relatively higher payments in other quarters.

The chart below sets out the expected pattern of distributions, using the mean average of past payouts for all funds and ETFs, except for the Diversified Bond holdings. These latter holdings produce lumpy and irregular distributions, and in this case the median is used to reduce the impact on the final estimate.

As an indication of what this pattern has looked like in the past, the chart below sets out the levels of actual quarterly distributions to date, with the exception of a forecast fourth quarter 2023 figure for this current quarter.

The change in underlying funds has meant some work re-estimating the average likely level of distributions, given small differences in the distributions records of the retail and wholesale versions of each of the Vanguard funds.

From this, a revised estimate of expected annual distributions of $86,200 has been prepared – equivalent to around $7,200 per month.

This is based on the past average distributions of the wholesale funds, and represents a slight increase over the previous estimate. The median level of expected distributions is much lower, at $73,000, or $6,100 per month.

Trends in average distributions and expenses

Both average distributions and expenses have continued their converging trend.

Higher revised estimates of likely forward fixed expenditures, together with higher past distributions falling outside the moving average ‘window’ has delivered a much lower gap between distributions and total expenses.

The chart above measures distributions against an estimate of total expenses. The total expenses figure is based on actual credit card spending, with the addition of a monthly allowance for other fixed expenses.

As can be seen, average total expenses (red line) continues to gradually rise, closing in on $7,200, while the moving average of distributions (the blue line) continues to decline through 2023, to around $8,100.

The total ‘gap’ between distributions and total expenses is now just less than $1,000 per month, compared to around $2,000 per month in early 2023.

Progress

Measure	Portfolio	All Assets
Portfolio objective – $2,750,000 (or $94,800 pa)	109%	139%
Total average expenses (2013-present) – $87,700 pa	118%	151%
Target equity holding in portfolio – $2,200,000	92%	N/A

Summary

The sharp upward movement in the portfolio this month occurs despite the investment environment arguably reflecting more challenging circumstances ahead.

The opportunity cost of not investing in equities, at least in the short term, is lower than it has been for some time. Bond rates have returned to a more normal historical level, rapidly, driving alternative destinations for the marginal dollar of new investment capital.

Yet within this simple picture is hidden complexity.

The real risk free rate remains low. There are at least doubts about the final outcomes of some early trends in corporate defaults and the growth of ‘zombie firms’ unable to earn positive net profits in a higher rate environment.

Despite this, a seemingly strong nominal bond rate, and the potential weakening in the macro environment from inflation-induced tightening, creates at least the potential for a longer term – and asymmetrical – net positive returns from bonds. This is a prospect which has looked absent for the past five years, if not longer. An interesting laying out of some of the issues is here (video), a presentation to the Grant’s Interest Rate Observer fall investment conference in early October.

The question remains how, and whether, any of these considerations should find their way into the investment decisions underpinning the portfolio. To date, this has relied heavily on the long-term proven historical ‘premium’ earned by equities over lower risk assets (such as government bonds or cash).

It is wise to recall frequently that this equity premium only exists to compensate investors for the ever-present risk of capital loss and underpeformance. That is, the unavoidable risk assumed by the equity investor that equities will not fulfil its past record of achieving stronger real returns than other asset classes. A consideration has also been, however, a previous assessment that the real returns and diversification benefits of bonds were likely to be significantly reduced in market conditions over the next 5 to 10 years.

The heavy and ongoing losses to the small bond component of the portfolio through this year, which occurred alongside equity drawdowns, suggest this assessment was accurate in the short term. Whether it remains so is a more open question, and complicated by the significant reliance of many developed country governments on deficit financing.

This breakdown of bonds in playing a diversifying function may be changing. The recent regime of correlated bond and equity returns could be disappearing. In the case of gold, despite the risk of higher interest rates, the commodity has played a more traditional role by offsetting losses arising from increased risk aversion and geopolitical instability. Arguably, Bitcoin has at least partially moved due to similar impulses.

This returns the portfolio to a position where a tendency for differentiated gains and losses across asset classes may re-assert itself, tending to stabilise overall portfolio outcomes.

Viewed in isolation, the equity component of the portfolio has experienced some losses this month, that for the moment feel more real and enduring that the offsetting positive movement in gold and Bitcoin. Whether this is a one-off event cannot be known.

The act of reinvesting distributions and making new investments, however, both highlight the sometimes forgotten role of ‘time diversification’ in smoothing returns and providing protection against loss over the medium-term. As this recent piece in the finance focused Outcast Beta blog notes using US data, time diversification usually works, eventually.

Each of us in normal circumstances, with a job or any regular income through time, experiences times arrow – and hence involuntarily participates in some diversification across time.

In the same way, the passage of days and months inevitably reveals the counsels of time, and all that is needed is to listen with care and humility to its wisdom, or strictures.

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.