Investment strategy – How I plan to invest my money

All the years of frugal living will get you nowhere if you do not invest your money. Any money that you stash under the mattress or leave in a savings account, if given enough time, will approach a value of $0. If you don’t understand why this is a sure fire way to be poor then do some further reading on inflation and the time value of money. This answer on Investopedia summarises it well. I may also post about the effect and link it back here in the future ( I did write about it, and here is the link :D)

In my first post I wrote about a commitment to do whatever it takes to retire in 10 years. Blind motivation is not enough to be successful in life so now I would like to write about my strategy. I plan to invest all my money for the foreseeable future into the share market. I want to reach a target portfolio value of $1,000,000 (2017 AUD) which will provide me a ~4% dividend yield of $40,000 per year to begin with. Enough to live comfortably as far as I’m concerned, particularly in some of the cheaper parts of the world.

With my initial deposit of the money I have saved thus far and my frugal living plan to maximise my monthly investment contributions, here is how my savings and investment plan looks over the next 120 months.

Compounding returns, regular contributions
My idealised saving plan, making regular monthly contributions.

I’ve assumed 1 modest pay rise in 5 years time (I’m actually due for a promotion and pay rise much sooner than that).

I have calculated the returns based on reinvesting all dividends.

I wasn’t satisfied with showing idealised returns. It looked too clean. So I decided that I should use historical data from the Australian All Ordinaries index and of Australian inflation. I plotted how my investment plan would look for someone who adopted my exact ’10 year savings and investment strategy at the start of every year from 1980-2007.

The graph below shows the Results superimposed upon the idealised case.

investment returns, volatility
10 years of investing using my strategy, as if I had started in 28 different years.

So if there is anything this graph shows, it is that the share market return can be very volatile.

~$ 1.49 million was the best result after 10 years (portfolio started in 1998).

~$787,000 was the worst result after 10 years (portfolio started  1999).

Out of all the 28 years that I studied starting this investment, in 18 of those ‘start years’ did the portfolio reach a value of $1,000,000 or more after 10 years of investment.

Well those odds don’t sound that great! However hold on just one more year and that changes to a very respectable 26 successful ‘start years’ out of 27*. With only 1 out of the 28 portfolios studied (the portfolio started in 2001) requiring 12 years to hit the $1,000,000 target.

The 2007 portfolio is still to reach 1 million dollars.

The graph also clearly shows peaks well above $1,000,000, however many of these soon suffered losses that brought them back in line with the average. This tells me that it is important to stay the course for 10 years. Any portfolio based on my current savings plan that reaches the target value before 10 years is probably overvalued. In that case a stock market correction will soon bring it back in line with long term expectations. Of course if I can find a way to increase my income to build wealth quicker, then that is a different story.

I am completely comfortable with these historical statistics. I think they highlight the need to be flexible with my savings and investments. I would love to drop tools and be done with it in exactly 10 years but life doesn’t always work that way. Depending on the returns of the market I could be waiting as long as 12 years, or something entirely different.

This is my current plan. My plan may change, I may decide to get exposure to international share markets. I may also decide to invest in real estate. I want to remain flexible to new opportunities and ensure I don’t get complacent or stubborn. This way I can find the best ways to get my money working for me.

There are bound to be some strong opinions about my investment plan, so let me know below in the comments.

Remember to keep shuffling.

Pat The Shuffler

 

*The total reduces from 28 to 27 because the 2007 portfolio does not have 11 years of data. I.e. the 11th year is 2017,  and as of the end of 2016 it is under the target of $1000000.

And the legal stuff.

This post and my entire blog is about what I plan to do with my money. Nothing I have written here today or any day should be considered investment advice. I am not a professional and am not qualified to give any advice on investing or money whatsoever. If you try to copy anything I plan to do, you do so at your own risk.

19 Replies to “Investment strategy – How I plan to invest my money”

  1. Interesting and well written. Thanks for sharing, I hope you can make it in 10 years.

    My view, $40K per year will not be enough if you plan to have kids unless you planned not to have kids.

    Regards
    Big Kev

    1. Hey Big Kev

      I agree with you that for a couple/family you would need more.
      I haven’t put too much thought into it but $50k – $60k sounds reasonable. For these amounts I would need an initial portfolio amount of $1.25 million – $1.5 million. Presumably I will need a partner to have children who hopefully is also working and saving to help make these larger dollar targets achievable.

      Its also worth considering that $40k is the initial yield, the portfolio should continue to grow at about 2% above inflation after I remove my 4% yield, giving me an ever increasing real income as I get older.

      In addition, If you do not have a job tying you down there are much cheaper parts of Australia and indeed the world to live in than Sydney. A quick search shows 3 and 4 bedroom apartments/houses can be had in Brisbane/Adelaide for the price of a studio in Sydney (even cheaper than a studio in fact) . If you move further from a capital city the economics become even better. If you spend some time in Southeast Asia/South America they become better still.

      These are all things that I’m considering to make that $40k go the distance.

      It’s also worth noting that I am living in Sydney right now at a cost to me of about $27000 per year ( and that includes running costs for a car which I am very keen to get rid of)

      So I didn’t expect to write so much there, I hope that helps put some perspective on why I think $40k is enough. I might turn this into my next blog post actually!

  2. Good read. A plan is better than no plan at all.

    The most common phrase I hear connected to the share market would be ‘is it risky?’ I intend to create a thread on what the exact risks are. Indeed if done conservatively not investing in your future is much more risky.

    1. People tend to equate volatility with risk. I don’t see volatility as risk but as opportunity.

      Volatility is only risky if you want to cash out your investment at a specific point in time. If you never plan to cash out or you are very flexible with when you can cash out than the risk diminishes.

      As you said not investing is a guaranteed way to lose your money over time.

  3. Hey,

    I assume you’ll be depositing whatever you save into your investment account per month (i.e. earn X, deposit X). This is an easy strategy to follow, however, there is a different strategy which better accommodates buying more shares when they are ‘cheaper’ than when they are expensive. This second strategy requires you to have a bit of a buffer in the event of a correction.

    Strategy 1 (Depositing X each month): Say the share price for each month is $10, $12.5, and $8 and you’re putting in $100/month. You’ll get 10, 8, and 12.5 shares (Obviously you can’t get 1/2 a share, but let’s not dwell on that) respectively. You’ll have a total holding of 20.5 shares at an average share price of $9.83/share.

    Strategy 2 (Increasing your portfolio value by X per month): This strategy is a little bit different as it takes into account the fluctuations of the stock market. You’re aim is to increase your portfolio value by X ($100) per month. The first month you buy shares at $10 and receive 10 shares. The next month the shares have gone to $12.5/share and so your portfolio is worth $125. You’ve increased the portfolio value by $25 for the month and so to achieve your portfolio goal of $200 for the month you have to buy $75 worth of shares at $12.5/share yielding 6 shares. The next month the shares drop to $8/share and your portfolio is now worth $128 but your portfolio needs to be $300. You have to invest $172 to bring it to $300 and so you buy 21.5 shares at $5/share. Total holdings is now 37.5 shares at an average price of $9.25/share.

    Now, the difference in this scenario is Strategy 2 you’ve actually spent $347 compared to the $300 in Strategy 1, but you’ve been able to buy more shares when they were cheaper. This illustrates the benefit of having a buffer such that when there is a correction you have more money available to buy as necessary. In addition, during a bull market you’re buying less and less shares as they get outrageously priced, then when the correction occurs (as it inevitably will) you will have a solid amount of savings to invest at the cheaper price.

    1. Renton

      Very intriguing, I’d love to do more research on this strategy and perhaps run a simulation over the last ~30 years like I did above. does the strategy have an official name or is it your brainchild?

      I’d also be interested how you choose what value of monthly growth to base your investing on. i.e. how do you choose $100 in your example above? And won’t this choice have a huge impact on the final outcome?

      Would you also consider margin lending for the eventual market downturn?

      1. Pat,

        I can’t speak for Renton but he seems to be describing Value Averaging. VA is a “buy and hold” investment strategy. It is a relatively new alternative to Dollar Cost Averaging, Lump Sum Investing or Buying the Dips.

        While he does outline the main benefit of VA vs other “buy and hold” strategies – namely that it ensures more shares are bought when they are cheaper and less shares are bought when they are expensive – this does require more time, discipline and involvement on a regular basis by the investor.

        I think the biggest two factors in deciding what growth rate is right for you is the size of your steady stream of investable income and the percentage or brokerage fees involved with your regular investment.

        As you said, there is plenty of research out there comparing the various “buy and hold” strategies!

        Anton

        1. Seems like more work. Also, as you portfolio grows you’d need a new growth amount to aim for.

          For example, $100,000 may grow $800 a month but $1,000,000 may grow $8000 a month. This raises the question when should you change your target growth rate? and won’t this somewhat offset what you’re trying to achieve with value averaging?

          1. The growth rate is tied to the size and flexiblity of your steady stream of investable income (let’s call this SSII).

            Let’s say that after expenses, at the end of every month Pat has $5000 to invest. Now you could DCA and simply buy $5000 worth of shares or ETF’s no matter what the price is or you could VA instead. The problem with VA is that in order to account for months where your total investment loses value compared to the previous month, you need to buy MORE than your SSII worth of investments to compensate for this. So you either need to set your growth rate at some calculated amount less than your SSII income OR have ready access to additional funds (for example your emergency fund, term deposits or money you have sitting in “high” interest savings accounts).

            Let’s take your roughly $200K starting point Pat and assume it is in a well diversified mix of various ETF’s. How often will a portfolio of this type and size fall or grow by $5000 (2.5%) or more in a single month over your ten year goal period? If the answer is only a few months in ten years then I see no problem with setting your growth rate at $5000? If you have an emergency fund as a buffer as well that even better.

            I agree that as your portfolio grows, the advantage of VA diminishes if your SSII isn’t also increasing. If your $200K grows by 6% per year this is only $1000 of growth per month so I would say your portfolio has plenty of room to grow before you need to increase your SSII to take advantage of VA.

            Anton

    1. AN

      I used excel and data about the All Ordinaries that I found for free on the net. Kind of like cfiresim and firecalc, but could but for the accumulation phase instead of the spending phase and using results from the Aussie market instead of the US market.

      I spent several hours one morning creating it. It only tracks every starting month instead of every day like those 2 examples I mentioned above, but it does the job reasonably well I think.

  4. I’d love to explore Renton’ comment above more. I assume initial thought is to make that figure = to your spare cash to invest monthly , say $5k-ish in your case , and go from there, maybe adjust as that ‘spare cash’ changes.

    Could be a good discussion for FI reddit or somewhere else. I’ve read FI blogs/forums extensively and that’s the first time I’ve seen that exact strategy spelled out clearly – I like it but I think I’m missing something. It is too simple to not have been written about before………..

    1. Renton contacted me on facebook soon after reading this post. I’ll ask him if he’d like to get involved in the FIAustralia reddit community (assuming he isn’t already) and posting along these lines.

      If not I’d be happy to kick off the discussion 🙂

  5. Hi Pat, Are you planning to share exactly which ETF’s you are investing in / your target portfolio? I am currently deciding on this myself and would love to hear your thoughts.

    1. Hi Linda

      First I must stress that I do not believe I am an expert on this matter or that I necessarily do what is best practice, nor do I want to give investment advice beyond explaining how I understand concepts. Like you I am still learning about all this stuff. But briefly (and again broadly) I target a mostly Australian portfolio with some exposure to international equities. I do not have any fixed income assets. I also buy individual shares to diversify my portfolio out of financials (which make up the majority of the ASX200 and hence my ETF’s). I am reading and learning a lot about investment and do occasionally buy individual stocks that I believe are outstanding value too good to be missed. I have actually done quite well overall with my individual share purchases and so I will keep this up.

      Very recently I watched some Peter Thornhill on Youtube and talked to more knowledgeable friends and so am getting a better understanding of what types of industries I want to be in long term and which ones I do not, so I may move away from the broad ASX200 ETFs into more sector specific ETFs.

      Broadly I am targeting something like this

      -60% Aus ETFs (may change this to include LICs, more sector specificity, still researching. Also I am hugely biased to local shares due to the tax advantage)
      -20% Int ETFs (simply for international diversification, most would recommend that this be far higher and Australian exposure far lower. It is a gamble that I am taking that the Australian market won’t tank compared to the rest of the world over my lifetime, no biggie If I want I can change my thoughts and patterns to increase international diversification if the Aus economy finds itself in an extend rut)
      -20% individual shares (to better diversify by sector and to take advantage of opportunities as they arise)

      Though, and I must stress this, unlike most in the FI community would recommend, I do not actively sell with the only purpose being to rebalance these ratios. If my stock picking is doing great then I will let it do great and allow the ratios to go out of whack, I won’t sell simply to rebalance. I May sell for other reasons but generally speaking I do not like to sell.

      I will buy more ETFs in the meantime until I see another good value proposition. If I never see another good value proposition (because I’m not looking, or I’m unable to identify one) then the ratios will naturally change as I buy more ETFs.

      I like to think of my investing as less formulaic and more opportunistic, which is also why I can’t really give any good advice on this issue, I am also still learning.

      That is me 🙂

      Remember this is not advice, and I am not an expert. Seek out real professionals and consider your personal circumstances before making any decisions 🙂

      1. Great job having your own plan mate. Gotta do it your own way after all. Peter Thornhill is a great sharemarket educator and his approach simple to follow.
        I cop some flak over the all aussie LIC dividend approach, but it’s what I feel comfortable with. Perhaps higher risk than most would like but worth it to retire even earlier given our large dividends+franking credits in Oz.

        I much prefer living off dividends instead of capital.

        Like you we diversify away from the concentrated large caps, we do it with small/mid cap LICs and some individual shares.

        All the best on your journey mate!

        1. I am very Aussie biased, which may come back to bite me. You hit the nail on the head though dividends and franking credits giving a big boost and making it much more viable to live off dividends alone.

          There are plenty of very wealthy people who have mostly Australian portfolios and I am quite confident of our sharemarket’s long term performance.

          Thanks 🙂

  6. Hi Pat,

    Loving your blog and excited about your journey. I have read most (if not all!) of your blog posts and have been following your journey over the past month.

    I just have a quick question for you (which you may or may not answer, this is totally up to you!). Just by looking at your FIRE progress tracker, I note that you are attempting to raise say 6k of your net worth monthly (partly from capital gains and mostly from income saved). And obviously as time goes by, your capital gains will generally increase and hence the fancy looking graphs curving upwards.

    My question to you today is whether you have a target savings rate? Reading from your blog you have been aggressively reducing your spending (hoorah!). Would you be able to share what % of your income you are actually saving to invest?

    Thanks and cheers! Excellent blog.

    1. Hi Zack

      I am a bit odd in this community in that I am not targeting any particular savings rate. I think it is a great place to start if you have grown up with carefree spending habits, but once not spending money is internalised and every single purchase is given time and consideration weighing it up, it becomes completely unnecessary to track spending. I don’t budget or track spending, I just focus on the fundamental way of thinking that leads to wealth and happiness. A great savings rate naturally follows.

      I did just now go through all my numbers for the last 3 months though so I can give you a straight answer. But there are a few complications caused by the sale of my car. If I count the sale of my car and all the associated proceeds, transaction costs etc, Then my last 3 months savings rate has been 81% (woohoo). However it seems a bit unfair to count this stuff because it artificially raises my savings rate. So if I remove all those car related costs then over the last 3 months I achieved a 69% savings rate. This is pretty good and it even includes a ridiculously costly bucks night and wedding present for my brother (I was the Best Man). However there are a few other ways to slice this up, for example I counted any money that goes in the holiday fund ($100 per fortnight) as spending even though it isn’t spent yet, and if we consider that month atypical (due to the wedding) and only take May and June, then my savings rate jumps to a ridiculous 81%. I also do plenty of weekend work that gets “paid” to me in additional annual leave, which I then cash out every once in a while and invest, which again just adds more noise to the picture.

      In short what I am saying is I think I need more data (say at least a years worth) to come up with rock solid reliable numbers so we can get rid of all this month by month noise, at which point I will do a full post of my spending for the year and savings rate etc.

      Thanks for the support man, I love that people are aactuall enjoying this shit and it really does encourage me to keep writing 😀

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