Living on Equity - Part 4

Gaz, I think that sums it up pretty well. It's up to the individual investor to determine what level they need to reach to start living on equity. I'm sure Steve would agree (if his eyes weren't too crook at the moment to read this thread!) that being conservative in your projections (whatever that means for you) and the sleep at night factor is all important!

Cheers
N.

 

OK, I don't get why you need to keep coming back to X cents per unit. So long as you're returning 3.5% per quarter or 10% per year or whatever your assumption is, why does the amount of cents per unit matter?

 

Glebe

Only because that is the actual income that is available to you.

Using NI's figures for 03/04. If I invested 100K at 1.10 ie I owned 90909 units, the fund returned 10.58%. Did I receive $10580 income (100k x 10.58%)? No, I received $8947 (90909 * 9.9842 cents per unit) and to me this is important in determining whether I am able to LOE.

As Nigel said, each to their own. i believe my method gives me a more accurate calculation of exactly how much income I am receiving and therefore how am I placed to move to LOE. More than happy for people to use value of investment for their calcs and maybe I should use that a basis for my calcs because I would be tempted to not go to work tomorrow and start LOE

cheers
Gazza

 

Fair enough, I understand now.

 

One point that comes out in the spreadsheet, is the question of whether it is legitimate that we use a figure like 5% right across the portfolio?

Where am I coming from?

If we assume that annual distrubuted income will be 10% and previously Steve(and others) have confirmed that they usually only distribute 75% of the total return as the rest is usually unrealised gains, then for a 10% distributed income we would be expecting a corresponding 3% growth figure(10/75%).

Indeed, in a 12 month 'flat market', while we are assuming NavraInvest should still be able to generate income from trading and dividends, I guess Capital Growth could be zero.

So while we may want to assume property growth is 5%, the sharefund growth could actually be more like a maximum of 3% even in a period where total sharefund return is 13%. To be assuming 5% growth for the sharefund we would have to be assuming an average 20% total return for the fund which may be a tad optimistic(although I'm happy to be proved wrong! )

I know we can play around with using some 'average' growth figures, but I just thought it may be a point worth making.

I think I'd probably conservatively use 5% longterm growth for the Property and no more than 3% for the sharefund. Still works nicely though.....

 

Alan,

Completely agree. That is the one point that I thought was a tad of a stretch. I personally would have factored the 5% growth on my gross property portfolio and not on my property plus shares portfolio. I figure the shares are supposed to be for income, and property for growth. So, only count the 10% income on the shares, and not the additional 5% of growth held back.

That was my only concern when I saw the initial analysis. But, if it really does return an average of 15% pa, broken up as 10% income and 5% growth, then the 5% growth on the shares is a fair assumption too. I'd say the fund has not been around long enough to have a really good view on its average long term returns. But a conservative 10% income with 0% growth would be more realistic IMHO.

Gazza, just as an aside, does this little speel show how futile it is to split hairs over 10% or 10c? Its all just an assumption, and there's bigger potential biases in the assumptions than whether its 10% or 9% income... At the end of the day, it is not supposed to be an iron clad gaurantee that you will earn that LOE income year in and year out, its all just a rough model to give you an idea of what your current portfolio mix can return. As I've also posted earlier, it doesn't even factor the "how" to extract equity and the tax implications of different approaches etc.

Just a model, but a very useful one.

Cheers,
Michael.

 

Michael

Agree with you and Alan re CG on the share fund growth. I would also factor in 0% growth especially given the market is due to stop trending straight up and start moving sideways or down (which is great for Navtrade as this is when it's meant to be at its best meaning a better income but in my opinion less CG).

In terms of the percentage versus cents per unit debate, happy to bring it to a close

cheers
Gazza

 

Gazza,

See this thread that I just posted which shows why I disagree with that projection.

That's not to say that I'll be proven correct, just that my projection is different to yours at present.

Cheers mate,
Michael.

 

Michael

Excellent post and I am more than happy in this case to be proven incorrect . Long may the ride continue but maybe not straight up, just trending up overall with a lot of movement up and down on the way

Gazza

 

Ok........while we're on the make up of the Return, could we go one step further?

Let's assume we go with the 10% income and recognise we may be talking in generalities for certain things but out of which may come some increased understanding.

1. Do you understand the 10% figure to be the general minimum or the average?

2. What does the 10% comprise? Would 2-3% Dividends, 1% interest and 7% 'trading profit' be a reasonable assumption? The first two items being relatively fixed with the option for item three to increase markedly under the right circumstances?

 

Alan

What breakdown has been shown on your annual tax statements from the fund? (Sorry don't have mine with me). They may give you some guidance.

Cheers
N.

 

Alan,

Given its just a model, I ran with the assumption that it was average. Steve would probably argue its a minimum, and there's upside from this in the good years, but I like averages. So, you could get less than 10%, but hey then you just draw a bit more equity to make up the mix. Remember, you're only drawing 65%.

Its all just a rough model to paint the picture. I look at all the assumptions as long term averages to give you an indication of where you're at. I don't expect to actually get these returns (5% growth/10% income) year in, year out. But on average I will, so in the good years I'll leave some of that growth/equity in the bank for the not so good years.

Its all just a game of numbers.

Cheers,
Michael.

 

Great stuff !!

Thanks to those involved in putting all this together and once again thanks Michael for the calculator .

I have just finished modifying my budget calculator and when I combine the results of both calculators I find we are able to comfortably LOE using figures of 9% income and 4% growth .

Why are we working 60-70 hours a week .

Waiting in anticipation for Part 5 .

Good luck with the ops Steve

 

Well done Sim and Nigel (and Steve of course) on an another excellent article, and thanks Michael for the fantastic spreadsheet ! Damn you ! ;-) , my LVR looks scary ... glad ol' ASAP Financial Services is in charge of convincing the banks we deserve more cash ;-)

I just love the ability to "Print And Run" and take some of the articles away for red-wine-review. This forum is a very cool resource

Based on all of this I quit work tomorrow. The spreadsheet says I can't afford too, but it just seems like the right thing to do ;-)

 

Haha, me too!

 

The only thing wrong is you're still having to work at the moment - won't be long though ... ;-) (just don't buy those boxer dogs - they are like one of those hire purchase agreements )

 

Yes......good point Nigel.

You don't carry your tax statements with you?

No.......I didn't have mine with me either at the time.

I've just checked now and assuming a bit of annualising for incomplete years etc. and a bit of rounding off here and there, the approximate ratios for an about 16% cash distribution looked something like:

Interest: 0.8%

Dividends: 2.6%

Other(presumably trading profits): 12.6%

Total: Around 16%

Therefore, if we look at a cash distribution of around 10%, it may well be reasonable from recent history to expect something like 1% from interest, 2-3% from dividends and hopefully 6-7% plus from trading profits. That will be my assumption for the time being unless Steve corrects this when his eyes get better.

With regards to Capital Growth, my assumption will be that 3% may well be possible but there is a ceratin degree of 'predicting' about unrealised returns so I'll assume 0% and if 3% comes along it will be a nice surprise. The 3% could be there one day and presumably gone in a market correction.

Whether we make an assumption of 10% being a minimum or an average has probably more to do with what assumptions you are making about your cashflow. For a start, I would want to be fairly sure my distributions were at least covering my interest plus an additional factor for the risk that Unit prices could go down for an unknown period of time etc. In other words some reward for risk. My assumption here would probably need to be that 10% was more likely to be a minimum than an average as otherwise the first year could conceivabley be the lower of the 10 year average and possibly be below the prevailing interest rate. The fact that 3-4% is probably coming from interest and dividends should give this percentage a reasonably strong base point though.

Now, I was wondering if someone could remind me of the full rationale for Capitalising the interest on a Margin Loan as part of the Fund Structure.

The fact that the interest is tax deductible is a good start, and the fact that we could also use some of the money for better purposes such as paying down non-deductible debt is another reason, however I thought there was another? Wasn't it dividends or growth should also help offset the capitalising interest? Can't remember. When your eyes are better Steve(or if someone else remembers), could they remind me of the complete reasons within the structure for clearly justifying the use of capitalising margin loan interest in addition to the above two reasons.

Great article and topic! Always get's us thinking.

 

MJK,

Did you read my post?

 

Glebe,

I did! Looks good. I see what you've done with the Capital Gain table. Instead of showing it as a range of potential outcomes for good years and bad years, then just running with the 5% median, you've adjusted it to allow for differing % growths dependent on the nature of the assets. i.e. You've got 2% growth for your income shares, and 5% growth for both your property and your growth shares. Those sort of assumptions make sense to me. You've also split the income from your different category of shares and assumed 10% from your income shares and 4% from your capital gain shares. Also makes sense to me.

So, you're total return assumptions are:

Income funds: 10% income plus 2% growth = 12%pa total
Growth funds: 4% income plus 5% growth = 9%pa total
Property: 3% income (yield) plus 5% growth = 8%pa total

Nothing too bullish there, so I'd say, Yep, good model... maybe I'd scale back either the growth or the income on your share funds to get them back to around 9-10% total and not 12%. Maybe 8% income plus 2% growth?

But I was always a conservative guy when it comes to projections.

Cheers,
Michael.

PS Saw Mark Raymond yesterday and have laid out the plan to diversify my own equities portfolio, so I'll need to use your model myself once that's in place over the next couple of weeks.