Investment Strategy Statement – Part 3 – Allocations (revisited April 2020)

So here’s the guts of my ISS.

When I first drafted it in late 2018 I painted in broad brush strokes with the optimism and ambition of the naive. This updated version is, I hope, more pragmatic.
Asset Allocation

As a novice investor with relatively little in the market my wealth can essentially be divided five ways:

  • Property equity
  • Cash
  • Alternative assets
  • NHS Pension
  • S&S investments (1)

The first four can be covered in short order:

Property equity

Tied up in my home. Dependent upon the local market, plus our own mortgage repayments schedule and renovation work. The largest portion of my current wealth, and continuing on it’s merry accumulating way whilst we work up to our forever home. I have no interest in BTL until that point is reached.

Cash

Current accounts, savings accounts and premium bonds. My emergency fund, plus any extra money saved for upcoming expensive purchases. Emergency fund of three months personal salary, plus three months held jointly. Holdings target high interest and liquidity, through usage of high interest current and savings accounts with FSCS cover.

Alternative assets

Miscellaneous other physical holdings; cars (including current classic projects), art and books. Not alternative investment assets like currency/ bitcoin, EIS or private equity (2). Just plain old shit I own because I like it, that happens to be worth something.

NHS Pension

Unfunded, with no option to trade-out, my NHS pension is entirely tied up in my working life and retirement date. Subject to the whim of the government and BMA, I don’t include it in most of my net worth calculations as it does not physically exist until I retire.

Stocks and shares investments

The more interesting bit. My timescale is long, my employment is (in theory) secure and my pension scheme is (supposedly) generous. All money going into my portfolio is that which I can afford to lose. My current lifestyle, while not extravagant, is comfortable and by limiting lifestyle inflation I hope to increasingly channel spare cash into investments. I’m happy to take a reasonable amount of risk on this basis.

In choosing my asset allocation split I’ve tried to read widely, including the usual Smarter Investing 3rd edn – Tim Hale, Monevator, etc (3, 4, 5). My holdings are split between a core 80% passive tracker portfolio and 20% active ‘satellite’. The ‘satellite’ includes stocks, funds, trusts, ETFs and some odd crowdfunding investments.

Allocations will be reviewed and re-balanced quarterly. At this stage I’m uninterested in commodities, currencies, and REITs or other property investments. The diversification benefit is not worth the added effort and complexity for my paltry portfolio. Bonds I may revisit in the future, but at this point accumulation with a long timescale is the name of the game.
Fund/Brokerage Allocation

I intend to allocate across ETF/ fund providers. Rules here are loose as I’m still in early stages, but the intention is that no provider will hold more than 34% of my holdings. To minimise risk I’ll also allocate across brokers, with the intention of simultaneously reducing TER and minimising tax burden (6).
World Allocation

Global allocation applies only to my market investments, not my overall wealth.

Testbed Active Portfolio

This section of my portfolio is largely UK-based, but not limited by global allocation targets. Some themes include EIS/ early stage investments, green investment trusts, tech and mining.

Core Passive Portfolio

It would be very simple to put all my money in a LifeStrategy 100 and be done with it, but as my wife will attest I like to make life difficult. As fits a diversified passive-focus portfolio the central core will mirror world markets, using all world tracker funds and ETFs (7).

I understand the broad investment logic behind investing in your own country, and holding trackers to your domestic market. The protection against inflation a home market affords (8). But much of my active investments, cash, property and other assets are in the UK. I’m already UK inflation vulnerable/protected before even looking at passive equities.

I’m therefore largely ex-UK in my passive section. But then how do you slice your pie? Contribution to Gross World Product? Global market capitalisation? If global cap whose data do you use?

Weighting

My goal is passive purist, using a blend from Bloomberg, Credit Suisse’s Yearbook, Star Capital and World Bank reported data covering all countries with contributions >0.01% (9, 10, 11, 12). Getting clear data for free as an amateur investor has proved to be tough. The ex-UK adjusted average forms the basis of my allocation, alongside a further CAPE-adjusted view.
In summary

My allocations are fairly standard, if slightly over-complicated by my own adherence to dogma. I’ll review this yearly with new world data to see what changes need to be made, and in five years for a full review of asset allocation split.

In Part 4 – Funds, Accounts and Rebalancing.

References:

  1. https://monevator.com/asset-classes/
  2. https://en.wikipedia.org/wiki/Alternative_investment
  3. https://amzn.to/2Sthjtv
  4. https://monevator.com/asset-allocation-construct/
  5. https://www.bogleheads.org/wiki/Asset_allocation
  6. https://www.bogleheads.org/wiki/Asset_allocation_in_multiple_accounts
  7. https://monevator.com/investing-for-beginners-the-global-stock-market/
  8. https://www.investopedia.com/articles/basics/10/protect-yourself-from-inflation.asp
  9. https://seekingalpha.com/article/4202768-u-s-percent-world-stock-market-cap-tops-40-percent
  10. https://www.credit-suisse.com/about-us-news/en/articles/news-and-expertise/esg-investing-a-trend-that-is-constantly-evolving-202002.html
  11. https://www.starcapital.de/en/research/stock-market-valuation/
  12. https://data.worldbank.org/indicator/
  13. https://monevator.com/world-stock-markets-data/

The Full English – Why did Buffett sell his airline stocks?

This week, whilst avoiding infection in my daily work, I’ve been thinking macro. I kept coming back to that Buffett selling BH airline stock news (1). Something about it doesn’t hang right.

Market Insider reckons he bought in against his own advice, anticipating that more people would fly and airlines would maintain value and continue stock buybacks (2). He sold out at a $50bn loss (2, 3). Most of the articles reckon this is because Coronavirus has off-the-cage smackdowned flying. They quote Buffett’s “The world has changed” (1). Plenty of airlines are staring into a debt pit and begging governments for handouts. So of course Buffett sold out at a loss, better to lose some rather than all.

So is the Sage of Omaha just a normal investor who called it wrong?

I can’t help but feel someone of Buffett’s experience, who normally play the ultra-long/ value/ invest and hold game, wouldn’t sell out because of profit warnings. There was already talk of government bailouts. Yes those airlines aren’t going to be profitable in the short-medium term, and will probably suck cash at the same rate as oxygen and Jet A-1, but people will still need to fly. Are our choices and habits really going to change that much? Is our society really going to stop the daily business return flights, or the stag weekends in Budapest?

So what’s he seeing?

The market and it’s FOMO rally appears to be convinced of the V-shaped recovery. The NASDAQ has climbed back to where it was pre-COVID (4). Record numbers of investors are buying back in (5). People called January the melt-up, but this feels suspiciously bubbly again (6). Buffett didn’t give much away in this years Berkshire Hathaway AGM (7). Perhaps most intriguing is that $130 billion cash pile.

To try and gain some sense, I went to other unprecedented times; specifically the Great Depression and Stagflation. To be clear, I’m not thinking we’re in a repeat of either, each major crisis is different, but I’m looking to learn.

The Great Depression

Split between Keynesian and monetarist theories. Keynesian’s (demand-driven) believe loss of confidence led to reduction in investment and spending. Holding money becomes profitable as economic deflation sets in. The monetarist theory suggests this was a normal recession that tipped in severity due to scarcity of money supply. These then follow Irving Fishers debt deflation theorem (8).

A third school of thought, the Austrian School of Economics, argues the FED drove the Great Depression. Expansion of money supply in the 1920s (hence the roaring twenties) led to an unsustainable credit boom (9).

To quote Ludwig von Mises:

 “Credit expansion cannot increase the supply of real goods. It merely brings about a rearrangement. It diverts capital investment away from the course prescribed by the state of economic wealth and market conditions. It causes production to pursue paths which it would not follow unless the economy were to acquire an increase in material goods. As a result, the upswing lacks a solid base. It is not a real prosperity. It is illusory prosperity. It did not develop from an increase in economic wealth, i.e. the accumulation of savings made available for productive investment. Rather, it arose because the credit expansion created the illusion of such an increase. Sooner or later, it must become apparent that this economic situation is built on sand.” (10)

During the period there was massive deflation, falls in GDP, and high unemployment. The CPI began the decade at 17.1, and had fallen to 14.0 by 1939 (9)

CPI and Inflation 1930- 1939

Image Credit: Inflationdata.com

Stagflation

Up until the ’70s it was believed there was a stable inverse relationship between inflation and unemployment. The US economy slowed, in part due to the Arab Oil Crisis. Rapid rises in the price of oil made some companies uneconomic, leading them to sack workers. Rising unemployment was accompanied by rising price inflation. Monetary policy in the late-60s and early-70s period was also expansive, contributing to inflation (11).

The normal response of increasing interest rates to reduce the speed with which money changes hands doesn’t work (12). Annual inflation ran at 7.25%, but in some months touched 13%. The CPI rose from 37.8 to 76.7 (13).

Image Credit: Inflationdata.com

To summarise:

  • Both periods preceded by expansionist monetary policy
  • Both periods have high unemployment
  • Great Depression – economic deflation, low interest rates, fall in aggregate demand
  • Stagflation – price inflation, reactionary interest rates, fall in aggregate supply

Application

Concerns about the future are widely shared. The Bank of England is predicting the sharpest recession on record (14). TI in this weeks Weekend Reading covers a bit of the GDP expectations (15). Iona at Young Money Blog takes it further, covering GDP and drawing comparisons with the Great Depression (16). She goes so far as another event-driven collapse, the Great Frost of 1709. The Ermine has also looked to Buffet and seen bad news (and as an ardent Asimov fan, I particularly like his Trump-Mule comparison) (17).

Plumbing the depths of some thought experiments and potential outcomes, what are the current conditions?

  • This period has been preceded by expansionist monetary policy (QE).

Though bond/gilt yields and limits on futures lending suggests there remains fear in the market (18).

  • We’re about to see high unemployment.

This New York Times front page showing how many jobs were lost due ...

Image Credit: Reddit/ NYT

To some extent the Coronavirus job retention scheme, or whatever name the Government is currently calling it’s buy-itself-out-of-jail card is going by now, has helped. The Gov is footing the bill, and most people will receive an income. This has maintained peoples spending, and therefore aggregate demand in the economy.

This is not infinite. The furlough scheme is due to end in July, at the same time as mortgage holidays (19). It is unlikely we’ll be fully back to normal until autumn at the earliest. Not all companies will start back. Our heavily service-sector dependent economy will probably be the most affected. Services account for 80% of total UK economic output. The purchasing index data for those services is a fifth of what it was pre-Coronavirus (20).

To quote Ermine quoting ZXSpectrum on the Monevator thread (21).

“The high street was obsolete anyway, airlines should go bust, the petroleum industry needs massive downsizing. The FTSE is not coming back because it full of crap companies with obsolete business models. The S&P and Nasdaq are not.

I’m also more relaxed about higher unemployment. The UK made a sort of Faustian bargain: low unemployment for high underemployment and low skill base.

[…]

Machine learning and AI is going to make many middle class people unemployed. We might start getting used to it now and stop stigmatizing those who don’t have jobs. A generation or two from now being unemployed might well be the norm.” (17)

So we’ve got mass unemployment, largely of those working in the service industry, most affecting those on zero-hours, casual contracts, or those with minimal qualifications.

  • Interest rates have been dropped to record lows

Which, coupled with QE, is putting more money into the market. Again helping perk current demand.

Supply or demand?

The great fear when this kicked off was the supply side. All the factories in China were shut, companies going under because they can’t source product etc. Plenty of anecdotal evidence. This led to various fears that Coronavirus would lead to stagflation through flat economic growth and spiking prices from the supply side shock (22). This could still well be the case.

This article on Econlib makes a good argument for it (23). We’ve seen a fall in aggregate supply. We’re seeing a fall in aggregate demand. If there’s more demand then supply we’ll see stagflation.

I think they’ve got it the wrong way round though.

The aggregate supply has returned through global supply chains. Deliveries happen, and the companies that supply are making bank. Looking at you Amazon.

Demand is the question.

The government has kept aggregate demand going through the furlough scheme etc. That is not indefinite. Will, or even can, companies restart with their employees?

If they can’t, and we see mass unemployment, then what happens to demand?

This could coincide with the end of a Kondratiev wave, such as the transition from a supply/ IT/ service predominance to one of green technologies and an internet of things (24). Ably supported by the rise of home-working through improved IT. Goodbye commercial REITs.

We could see mortgage refinancing risk rear it’s ugly head, coinciding with decreased bank lending due to deflationary concerns, as laid out in this masterful piece by Finumus (25). It has me worried about my rate.

If aggregate demand falls but supply doesn’t, then oversupply drives deflation and job losses. Basic economics. Decreasing supply costs have helped maintain standard of living and low inflation for years – all that offshoring. In days of deflation, oversupply and job losses then cash in the bank is king. Is the governments current demand prop enough to see us through?

Or did Buffett just call it wrong on airlines?

Have a great week,

The Shrink

N.B. I would truly appreciate others thoughts in the comments on posts like this. They are my attempts to reason through processes, and balancing counter-argument is most welcome.

COVID – I advise the use of BMJs information hub for evidence-based updates:

News:

Opinion:

References:

  1. https://www.marketwatch.com/story/buffett-dumps-entire-airline-stake-saying-the-world-changed-for-airlines-2020-05-02
  2. https://markets.businessinsider.com/news/stocks/why-warren-buffett-invested-big-4-airlines-sold-them-loss-2020-5-1029167021
  3. https://www.telegraph.co.uk/business/2020/05/03/warren-buffett-sells-shares-major-airlines-amid-50bn-loss/
  4. https://www.theguardian.com/us-news/2020/may/07/us-nasdaq-index-wiped-out-all-of-2020s-losses-triggered-by-covid-19
  5. https://www.theguardian.com/money/2020/may/06/small-investors-poured-back-into-stock-market-in-april-says-data-firm-uk-equity-funds
  6. https://seekingalpha.com/article/4317127-2020-melt-up-and-aftermath
  7. https://compoundyourfreedom.com/2020-berkshire-hathaway-shareholders-meeting/
  8. https://en.wikipedia.org/wiki/Debt_deflation
  9. https://inflationdata.com/articles/inflation-cpi-consumer-price-index-1930-1939/
  10. https://mises.org/library/causes-economic-crisis-and-other-essays-and-after-great-depression
  11. https://www.investopedia.com/articles/economics/08/1970-stagflation.asp
  12. https://inflationdata.com/articles/2008/11/19/stagflation-what-is-it/
  13. https://inflationdata.com/articles/inflation-cpi-consumer-price-index-1970-1979/
  14. https://www.bbc.co.uk/news/business-52566030
  15. https://monevator.com/weekend-reading-get-ready-for-the-drop/#more-50276
  16. https://youngmoneyblog.co.uk/coronavirus-economy/
  17. https://simplelivingsomerset.wordpress.com/2020/05/04/this-is-your-captain-warren-speaking-its-going-be-a-long-night-three-out-of-four-engines-are-on-fire-the-fourth-is-running-rough/
  18. https://www.bloomberg.com/news/articles/2020-05-03/hong-kong-oil-etf-s-broker-refuses-to-let-it-buy-more-futures
  19. https://www.thisismoney.co.uk/money/news/article-8294137/Double-blow-furlough-mortgage-holiday-schemes-come-end.html
  20. https://www.thisismoney.co.uk/money/markets/article-8288563/Services-sector-plummets-customer-facing-businesses-remain-closed.html
  21. https://monevator.com/weekend-reading-under-infected-over-optimistic/comment-page-1/#comment-1198185
  22. https://edition.cnn.com/2020/03/10/investing/stagflation-economy-coronavirus/index.html
  23. https://www.econlib.org/i-fear-stagflation-and-general-price-controls-are-coming/
  24. https://en.wikipedia.org/wiki/Kondratiev_wave
  25. https://www.finumus.com/blog/beds-are-burning
  26. https://www.bmj.com/content/369/bmj.m1861
  27. https://www.bmj.com/content/369/bmj.m1850
  28. https://www.bmj.com/content/369/bmj.m1742
  29. https://www.reuters.com/investigates/special-report/health-coronavirus-britain-elderly/
  30. https://www.bbc.co.uk/news/business-52591262
  31. https://www.euronews.com/living/2020/05/05/musk-and-bezos-feud-goes-electric-with-amazon-s-answer-to-tesla
  32. https://www.theguardian.com/business/2020/jan/29/uk-electric-van-maker-arrival-secures-340m-order-from-ups
  33. https://www.rightmove.co.uk/news/articles/property-news/first-time-buyers-uk-home-guide
  34. https://firevlondon.com/2020/05/03/april-2020-a-mad-bounce/
  35. https://thesquirreler.com/2020/05/03/savings-ninja-thought-experiment-10/
  36. https://pursuefire.com/monthly-update-20-april/
  37. http://diyinvestoruk.blogspot.com/2020/05/personal-assets-trust-portfolio-addition.html
  38. https://www.mouthymoney.co.uk/from-investing-to-account-switching-what-hit-video-game-animal-crossing-can-teach-us-about-money/
  39. https://simplelivingsomerset.wordpress.com/2020/05/06/ive-got-a-sneaking-admiration-for-donald-trump/
  40. http://bankeronfire.com/a-letter-to-my-younger-self-three-key-lessons-for-building-wealth
  41. http://www.retirementinvestingtoday.com/2020/05/obfuscation.html
  42. https://averagemoneymanagement.wordpress.com/2020/05/08/buying-shares-as-a-substitute-for-buying-stuff/
  43. https://theescapeartist.me/2020/05/08/how-game-of-thrones-won-the-culture-war/
  44. https://playingwithfire.uk/i-lost-my-job-what-now/
  45. https://www.onemillionjourney.com/portfolio-update-17-april-2020-97039e/
  46. https://www.moneymage.net/2020-april-savings-report/
  47. https://www.foxymonkey.com/managing-money-with-your-partner/
  48. https://indeedably.com/indefensible/
  49. https://adotium.co.uk/2020/05/09/are-you-not-entertained/
  50. https://awaytoless.com/why-100-equities/
  51. https://thefifox.wordpress.com/2020/05/06/internet-privacy-and-your-data-part-1/
  52. https://igniting-fire.com/2020/05/05/just-20000-to-save-the-world/
  53. http://eaglesfeartoperch.blogspot.com/2020/05/building-raised-beds-six-on-saturday.html
  54. http://www.lifesavvy.com/24712/this-companion-planting-chart-will-help-your-garden-thrive

 

 

The Financial Dashboard – April 2020

The goals for April were:

  • Review target asset allocations
  • Get the project car back on the road
  • Tidy the garage, sell anything unnecessary
  • Tidy the loft and begin to clear

Checking the assets and liabilities:

AssetsLiabilities

These are taken, as always, from my Beast Budget spreadsheet. Long time readers will again notice a change in how I’m expressing my net worth. I’ve removed my pension and student loan numbers from my overall calculation. My numbers are always ‘what would be left if I died’, and the figures above now represent this. My pension is recalculated every tax year as well, and is generally a bit lumpy for calculation uses. My net worth increased a tasty 3.7%, in part due to a 48% savings rate. New investment positions were opened in my FreeTrade account for TRIG and UKW.

Goals:

Goal achieved: Review target asset allocations

Completed, updated post scheduled. Led to me rewriting my investment tracker spreadsheet… again.

Goal achieved: Get the project car back on the road

This was a nice little success too. Had some work done at a good new garage I’m trying, got a clean MOT and I’m now using it to get to work. If lockdown continues I’ll be doing more tinkering and improvements to hopefully bring it’s worth up. I’m still commuting but my fuel spend has dramatically dropped.

Goal failed: Tidy the loft and begin to clear

Started to do this, but found I need to buy some loft struts/legs to lift the boards clear of the insulation. These are currently sold out in Screwfix/ B&Q, so I’m held up. Hopefully I can get this completed this month.

Goal achieved: Tidy the garage, sell anything unnecessary

Tidied, but found little to sell. I’m planning to move more to the loft so I can tidy further. There’s a load to go to the local tip as well, but they’re all shut.

Budgets

  • Groceries – Budget £200, spent £238.77, last month £175.55 – The nice dinners in have replaced the dinners out 
  • Entertainment – Budget £100, spent £55, last month £106.75
  • Transport – Budget £460, spent £429.79, last month £401.48
  • Holiday – £150, spent £0, last month £317.33
  • Personal – £100/ £156.85/ £25 – New threads
  • Loans/ Credit – £0/ £0/ £0
  • Misc – £50/ £3.25/ £15.12
  • Fees – £70 /£522.94/ £267.50 – Bloody GMC/ Royal College!

In the garden:

This is perhaps my favourite month in the garden, I love seeing everything come back to life. I’ve been sowing seeds left, right and centre. Potatoes and raspberrys shooting up. The apple tree is in blossom. Succession sowings of lettuce, radishes, lambs lettuce, pak choi and rocket are accompanied by tomatoes, cucumbers, pumpkins and courgettes in the greenhouse.

Goals for next month:

  • Tidy the loft and begin to clear
  • Read three books
  • Update my investment tracker spreadsheet and sync with allocations
  • Strip out kitchen for renovation
  • Fix minor problems on the modern(ish) car

Happy May everyone, I hope you’re all keeping well,

The Shrink

Quarterly Returns – Q1 2020

Quarterly return posts supplement my monthly Financial Dashboard, covering investments in detail and looking at my yearly targets. Here I track purchases and sales, document progress against my (in progress) investment strategy, and discuss re-balancing and changes over time.

The year started so hopefully, with lots of plans and ideas for activities. Mother nature quickly made a mockery of them. MrsShrink and I are keyworkers, so we retain some order and rhythm to our life. We are reaping the benefit of last years work on the garden in this month of sun and seclusion. So how do the finances fair?

Q1 Returns:

Net worth

  • Cash Savings Accounts £10,300 (+2,700)
  • Investments £3,200 (+£200)
  • Property £41,600 (+£1,100)
  • Cars £2000 (£-500)

Having spent ages getting over the £50k mark actually working out my NHS Pension equivalent led to a huge jump. In absolute terms my cash savings have increased, and the bear market falls have cancelled out my recurring monthly purchases.

Yearly Targets:

Goal 1: Build an emergency fund

My first 2019/20 goal was to build an emergency fund, as per the r/UKpersonalfinance flow chart (1). My goal emergency fund is three months total household expenses (£6k) in my name, plus a further three months (£6k) held jointly.

Still sitting around the £6.5k mark to my own name, and £2k held jointly. I’m looking to put more away, around £10k in my name in preparation for a replacement car/ house renovation later this year (once we’re out of lockdown).

Goal 2: Save 30% of my income

I calculate my savings rate using this formula:

Savings rate as % = ((Income – spend) + Cash savings + Investments + Pension contributions) / (Income + Pension contributions)

Savings rate

Ticking along nicely here, with an average savings rate of 34.7%. Undoubtedly helped by my a lack of pub/ restaurant trips, cross-country visits to friends and general debauchery. I still can’t help myself ordering DIY/ car bits online.

Goal 3: Calculate savings made by growing my own food

I’ve got a little notebook I’m writing down spending on and then crops we’ve eaten from the garden. It’s the hungry gap, so we’ve been eating a small amount of pickled or stored veg from last year. With spending on new seeds I’m currently -£30, but everything is in the ground so this should start to turn around.

Goal 4: Make changes to reduce carbon footprint

Has effectively been done for us this quarter, with no holidays, no going out or long trips, and minimal expenditure on plastic tat. I’ve bought a couple of books, some (cotton) clothes, and that’s about it. We continue to get our food from local butchers and organic growers, loo roll and store cupboard essentials from the ethical superstore (2). Our energy is still via Bulb (email me through the About Me page for a referral code).

The other big household change in the last 3-6 months has been that we get all our toiletries from Splosh (3). They’re a zero waste refillable start-up, and unlike most of the eco washing stuff we’ve tried, their stuff actually works really well. You order a starter pack which includes refillable plastic bottles, and then they send you the concentrated product which you mix in the bottle. When the concentrate is done you send it back to them and they recycle it, or some of them are compostable. At face value I think they appear a bit more expensive, but we’re currently using one pouch of washing up liquid every two months. If you want to give it a go use referral code YQL240THX1 to get 15% off.

Goal 5: Automate investments and savings

I automated my Vanguard and regular savings account payments at the start of the year, so an easy win. I’ll be cancelling the direct debt to Vanguard and moving it to FreeTrade this month. I’ve been more or less ignoring my investments otherwise, not worth worrying about the bear market.

I currently sit at -8.33% return. January and February topped up existing holdings. I opened a small position in Vanguard’s Emerging Markets fund at the start of March, to get a bit of EM exposure. No great excitement, and I take the instant losses across the board given my long timescale. The move to FreeTrade will see some new positions, so I may revisit the EM when it’s back positive.

Commodities Spread

Hope everyone else is seeing some lockdown gains,

The Shrink

References:

  1. https://www.reddit.com/r/UKPersonalFinance/
  2. https://www.ethicalsuperstore.com/
  3. https://www.splosh.com/how-it-works

The Financial Dashboard – March 2020

The goals for March were:

  • Review progress towards long term goals
  • Review emergency fund accounts
  • Plan for 2020s ISA
  • Get the project car back on the road
  • Gardening

Checking the assets and liabilities:

Assets March

Liabilities March

These are taken, as always, from my Beast Budget spreadsheet. Bit of a mammoth change to my net worth this month. As a result of exploring the NHS pension, I fired up my Total Reward Statement. It’s difficult to value an NHS pension ahead of when you actually take it, so I’ve therefore used the NHS estimate of a hypothetical equivalent annuity cost. Based on these new numbers my net worth increased by a lot, and I had a 38% savings rate.
Goals:
Goal achieved: Review progress towards long term goals

I set my first goals in November 2018, and some of them were pretty ambitious and unachievable. Considering my pension made me question my approach. 2038 for a goal retirement date seems a more achievable number, and setting things down on paper which are realistic targets has been more motivating than a pie-in-the-sky number. My asset allocations also need a look at as I’ve learnt and understand more, so that’s a job for next month.
Goal achieved: Review emergency fund accounts

My emergency funds are currently split across three accounts. I hold £2500 in my Starling account, £2500 in a 5% Nationwide FlexDirect account and a further £300/month goes into a Monmouthshire Building Society regular saver at 3%. The Starling account interest is a paltry 0.5%, and I’d prefer to keep a maximum £500 cash float there instead. My Nationwide FlexDirect deal is also coming to it’s end. I’ve exhausted most of the bank accounts with fixed rate deals or regular savers.

In light of this, and following up on my recent post about Premium Bonds, I’ve transferred spare savings from my Starling into a new Premium Bonds account. This will be topped up by the £2500 from Nationwide when it expires. I’ll also be setting up a Marcus account as it remains pretty much the market leader, to be topped up with any leftover cash lying around (1).
Goal achieved: Plan for 2020s ISA

It’s that time of year again! I only put £2700 into my ISA last year. I’m very happy with my Vanguard account as a basic platform, but I’m after access to stocks/ shares and a wider range of ETFs for future active and passive shenanigans. For that reason, and planning ahead for platform risk, I’ve been looking at opening an account with another provider.

Both Monevator and Money to the Masses suggested Cavendish Online was the next cheapest for me after Vanguard from the traditional providers, whilst also offering a wider range of funds, ETFs and shares (2, 3). Interesting to note that Cavendish’s website actually links to Monevator for the price comparison section – if that’s not proof of success I don’t know what is!

When I ran the numbers including trades it turned out FreeTrade’s annual flat £36 ISA fee was cheaper than Cavendish. I’m going to put my money where my mouth is and follow up my small investment into FreeTrade with a new ISA account. FreeTrade does have limits – it’s only ETFs and shares, no funds – but I can work around that.

If you want a free share for opening a new FreeTrade account, send me an email using the link on my About Me page.
Goal failed: Get the project car back on the road

It fought me, and with the help of the COVID-19 shutdown of most garages, won. Parts have been procured, fixes installed, and an MOT awaits.
Goal achieved: Gardening

Did loads of this, and very relaxing it was too. The enforced time at home meant the raised beds have been filled will seeds, shoots are emerging in the greenhouse for radishes, rocket, salad greens, sunflowers, tomatoes, spring onions… the list goes on.
Budgets

  • Groceries – Budget £200, spent £175.55, last month £169.83
  • Entertainment – Budget £100, spent £106.75, last month £143.33
  • Transport – Budget £460, spent £401.48, last month £862.40
  • Holiday – £150, spent £317.33, last month £60 – Squeezed a stag weekend in before lockdown
  • Personal – £100/ £25/ £15.88
  • Loans/ Credit – £0/ £0/ £0
  • Misc – £50/ £15.12/ £94.59
  • Fees – £70 /£267.50/ £648.50 – Further gristle, for now cancelled conferences – refunds pending.

In the garden:

See above.
Goals for next month:

  • Review target asset allocations
  • Get the project car back on the road
  • Tidy the garage, sell anything unnecessary
  • Tidy the loft and begin to clear

Happy April everyone, I hope you’re all keeping well,

The Shrink
References:

  1. https://www.moneysavingexpert.com/savings/savings-accounts-best-interest/
  2. https://monevator.com/compare-uk-cheapest-online-brokers/
  3. https://moneytothemasses.com/saving-for-your-future/investing/compare-cheapest-best-investment-isa-platforms

Investment Strategy Statement – Part 2 – Goals

This post was initially written in November 2018. This is the latest iteration as of April 2020.

When I first started writing this blog I set out a very brief goal:

Financial independence for myself and MrsFireShrink.

But beyond that, the aim is to save a sufficient amount to create a self-sustaining portfolio. The dream goal being to create a portfolio sufficient to support my family in the future and continue to grow (1).

Which is all a bit wishy-washy. As time and this blog has gone on I’ve developed a clearer idea of where I want to get to. I enjoyed indeedably’s goals post, and so I’ve emulated that here (2). So here’s the current goals list with steps already taken and timescale for target/ dream. (Last updated Apr 2020).

  • Complete medical degree. Achieve Royal College Membership. Become a consultant (2028).
  • Find a girl. Get married. Have kids (2028). Have good kids.
  • Publish a paper (2018). Get a fellowship (2019). Get another fellowship (2019). Get a Phd. Get a lectureship. Make Prof.
  • Get a job. Get a job I enjoy. Get a job which doesn’t feel like work (2020). Be in a position to retire in 20 years (2038).
  • Have an emergency fund of three months income (2019). Save £1000/month (2020). Have a net worth of £100k.
  • Own a home. Have £100k in equity (2023). Start overpaying mortgage (2023). Have 180k in equity (2028). Buy our dream home in 10 years (2028). Own a self-sustaining estate.
  • Learn to drive. Own a car. Own a six-cylinder car. Own an eight-cylinder car (2028).
  • Race in a motorsport. Win a race (no timescale).
  • Start a martial art. Start gradeing. Get to sho dan (no timescale).
  • Learn to ride a motor bike.
  • Learn to fly a plane.
  • Do 50 press-ups. Do a pull-up (again) (2019 2020). Get back to 17 stone (2019 2020). Do a hand-stand press-up (again). Do a ring muscle-up.
  • Re-learn languages I once knew. Become fluent in one of them. Learn a fourth language (no timescale).

The Numbers

Most of the maths in this section is rough and dirty. I’m not going to make complex predictions or models. Life itself is too unpredictable (even if the money isn’t), and past predictions have demonstrated the fallacy of trying to predict the future.

  • Be in a position to retire in 15 years (2033).

In the past I have conservatively estimated I will need around £24k a year to maintain our current lifestyle if I didn’t work. Looking back at figures for 2019, my expenses plus half the household running costs comes to £23.5k, excluding mortgage and credit card payments. Good consistency, and also fits nicely with what the fun Standard Life calculator reckons for our current lifestyle (~£23,000) (3).

Plugging that into a simple interest calculator suggests I need to have around £700,000 saved to be able to withdraw £24,500/year at a reasonable 3.5% interest rate with no erosion of capital. This presumes the savings will be tax-sheltered, and does not account for inflation. As inflation works on both denominator and numerator it’s not worth calculating here, but I will recalculate as I go. I’ve selected 3.5% as a conservative blend of cash interest rates (currently ~1%) and the average annual return of the FTSE All-Share over the last 100 years (+7.0%) (4). It’s also conveniently the mythical Perpetual Withdrawal Rate (5, 6).

You say: “Why are you not interested in drawdown? You’d get to retirement a lot quicker.”

The figure above would replace my current salary (7). My NHS pension kicks in from age 68 onwards and would provide career-averaged salary revalued by inflation. If I bridged to 68 with ISAs, say for 15 years, suddenly my required capital savings halves. But that requires capital drawdown, and would also reduce my NHS pension unless I paid for an early retirement buyback. I expect the NHS pension to be the subject of future Government cash raids, and would prefer redundancy in my financial system. For that same reason I haven’t included the State Pension. I also think drawdown is highly personal, and relates among other things to your optimism for your life expectancy, number of dependants and general approach to lifestyle. In future years as my pot grows I may change this attitude and run models, but right now it’s all about accumulation.

  • Save £1000/month (2020). Save £1500/month (2025). Have a net worth of £100k.

Stepping stones on the route to the previous bullet point. Plugging that £700,000 into Money Advice Service’s savings calculator suggests I need to be saving £1835/month at 5% interest to achieve retirement by 2038 (8, 9). Long term readers may notice I’ve pushed the date out, and it’s now a bit more realistic. The amount I’m saving is incrementally increasing, but still a way off required sum. I suspect I’ll miss this target barring spectacular stock returns.

  • Have £100k in equity (2023). Start overpaying mortgage (2023). Have 180k in equity (2028). Buy our dream home in 10 years (2028).

Currently our dream homes cost around £500k. Difficult to say what that will be in 10 years time. Historically the yearly trend has been c2.9% (10). More recently it’s closer to 2%, comparable to the OECD 2.0% long-range inflation forecasts (11, 12). Inflating the £500k at 2% brings us to £610k in 2028. Our feet are on the ladder, which mean we also benefit from that inflation to an extent.

When this was first written in late 2018 we had around £67k in equity. I hoped to reach £100k by 2023. We’re now (Q1 2020) at around £85k, thanks to moderate house price growth and a remortgage knocking down our interest rate. Overpaying our mortgage once we have a decent joint emergency fund will also help. I’ve added a new target constituting a 30% deposit on a potential dream home in 2028.

Summary:

  • Save £1000/month (2020)
  • Be worth £100k (2022)
  • Start overpaying mortgage (2023)
  • Have £100k in equity (2023)
  • Be in a position to retire in 20 years (2038)

In part 3 I cover my asset allocation.

Take care,

The Shrink

References:

    1. https://thefireshrink.wordpress.com/about-me/
    2. https://indeedably.com/i-will/
    3. https://www.standardlife.co.uk/c1/guides-and-calculators/retirement-how-much-may-i-need.page
    4. http://stockmarketalmanac.co.uk/2016/12/100-years-of-the-ftse-all-share-index-since-1917/
    5. https://portfoliocharts.com/2016/12/09/perpetual-withdrawal-rates-are-the-runway-to-a-long-retirement/
    6. https://monevator.com/what-is-a-sustainable-withdrawal-rate-for-a-world-portfolio/ 
    7. http://monevator.com/try-saving-enough-to-replace-your-salary/
    8. https://www.moneyadviceservice.org.uk/en/tools/savings-calculator/
    9. http://candidmoney.com/calculators/investment-target-calculator
    10. http://monevator.com/historical-uk-house-prices/
    11. https://www.bbc.co.uk/news/business-44736472
    12. https://knoema.com/rwbagv/uk-inflation-forecast-2018-2020-and-up-to-2060-data-and-charts

The NHS Pension

One of the reasons I started learning about personal finance was to try and make sense of the NHS Pension Scheme. Many of my colleagues pay in and assume they’ll be sorted in the end. That sort of goodwill makes you an easy target for cheeky governments. So if you’re an NHS employee or just interested, here’s a one-pager on basics of the NHS Pension Scheme. The headline:

The NHS Pension is an unfunded defined benefit career-average revalued earnings (CARE) pension.

Wading through that finance-speak.

  • Defined benefit

When you come to take the pension you receive a set amount yearly/monthly, a defined benefit (DB).

Defined benefit pensions come in many forms, from the old style final salary (where you continue to receive your final salary yearly as your retirement income), to the CARE schemes as explained below. Most public sector jobs retain defined benefit schemes (civil service, teachers pension etc) and some corporations hold it for their top brass.

Private companies have largely moved to defined contribution (DC) pension schemes. Here the amount you pay in is set, and what you receive depends on how much you have saved at the end. These used to managed in investment funds by selected providers, but since the pension freedoms legal changes people have lots more options (SIPPs etc). DB schemes are unlikely to allow you to make such changes without transferring your money out (1).

  • Unfunded

Most pension schemes are ‘Funded’. This means the scheme holds assets from contributions against future liabilities (future pension payments). On an individual level, this would mean an individuals’ (and their employers’) contributions are invested so to pay out the future pension of that person. DB pension scheme liabilities are valued on an actuarial basis. That is, some very smart math geeks add up lots of numbers on life expectancy to value the cost of paying future pensions.

In an Unfunded scheme, the contributions are used to pay current pensioners. There is no ‘float’. In the case of the NHS Pension Scheme, the Treasury guarantees the scheme liabilities. There is no pot of assets lying about. They effectively work on a ‘pay as you go’ basis. Cynics argued that the 2015 scheme came about because they realised the old scheme was too expensive with people living longer.

  • Career-Average Revalued Earnings (CARE)

CARE schemes are the modern DB scheme set-up, argued to be fairer (cheaper). You receive a pension based upon a fraction of your pensionable earnings, revalued yearly for inflation. For each year you pay into your NHS pension, you add 1/54th of your earnings for that year to the pot. To account for inflation each your pot is ‘revalued’ and increased by inflation (Treasury Order, currently 1.7% as the CPI) plus 1.5% (2).

Caveat; this only covers the 2015 scheme. The 1995 and 2008 sections are final salary with different calculations. Frustrating for those of us migrated over.

So that’s the description, what about the nuts and bolts?

You pay

The pension contribution line on your payslip should have a little percentage next to it. That percentage is defined by your earnings, rising if you earn more because we live in a fair and equitable society. This amount has no impact on the amount in your pot – better to think of it as a ‘membership fee’. The percentage of your salary you pay as a ‘membership fee’ is defined by the table below (2):

Annual salary Contribution rate
£0-£15,431.99 5.0%
£15,432-£21,477 5.6%
£21,478-£26,823 7.1%
£26,824-£47,845 9.3%
£47,846-£70,630 12.5%
£70,631-£111,376 13.5%
£111,377+ 14.5%

Your local NHS employer also pays in 20.68%. This, while seeming generous, also has no benefit on what you receive other than being their contribution to your ‘membership fee’.

Your benefits

You receive your pension at state retirement age (although this does vary for a minority, check your own eligibility). You receive 1/54th of the earnings of each year you contributed, revalued yearly by inflation +1.5% up until the point you retire. You receive this like a continued salary or annuity. Remember those? Currently out of fashion, but previously annuity schemes you bought at retirement were where you paid a lump sum to receive a yearly amount back in the future. The NHS pension does similar.

Because it’s a guaranteed yearly amount from retirement (practically age 68 for most), and it’s revalued for inflation it’s a pretty sweet deal. It’s possible to build up pensions which would be worth millions if you were buying them as an annuity or DC equivalent. Hence the issues with the Tapered Annual Allowance.

In almost all circumstances joining and remaining a member of the NHS Pension Scheme is a good idea. Even if you’re joining close to retirement (3).

Actually working out how much you will receive is a bit of a nightmare – hence further issues with the Tapered Annual Allowance. This is because you don’t know your contributions until the end of the tax year, you don’t know your current revaluation, and you have to guesstimate future revaluation.

You can formally request an estimate here (4). Expect in 3-6 working months.

Or a quicker and easier route is to go to the NHS Business Services website and log into your Total Reward Statement (a faff) (5). This will provide various figures, plus an annuity equivalence estimate. You can plug these figures into a variety of calculators such as these provided by the Scottish Public Pension Agency or the HSC Pension Scheme Services (Northern Irish I think). (5, 6)

It’s also worth noting that on your death a nominated partner can receive a lump sum, adult dependent’s can receive a pension, and children under 23 can also receive a pension.

Downsides

  • You can’t transfer out

Since April 2015 members of unfunded public sector pension schemes cannot transfer out to Defined Contribution schemes (1). It’s unfunded; there’s no pot of money to take your contributions from. In effect, this means many are ‘trapped’ in the NHS Pension Scheme.

  • It’s inflexible

It’s an opt-in or opt-out deal. You can’t change providers if they don’t offer what you want, you can’t select a different DC pension. You can’t move your pension around the stock market. You pays your money, many thanks for your blood, sweat and tears, here’s your reward guv.

  • The Tapered Annual Allowance

To HMRC your pension pot is 20x your annual defined benefit at the end. Unlike with a private Defined Contribution scheme, you can’t cut contributions if you think they’ll breach the Annual Allowance. Those contributions and revaluations which rely on some fiendish calculations and professional intuition (guesswork). This is leading to effective tax rates of 100+%, and tax bills running into six figures (1). Likewise, there is little to no ability to negotiate alternative compensation arrangements in lieu of employer pension contributions if it looks like they will breach the Tapered Annual Allowance. I’ve ranted about it before (7). The changes announced in the recent (March 2020) Budget upped the threshold to £200k, which should solve this problem for the majority (8).

  • It’s low hanging fruit for HM hungry Treasury

“Rich doctors are already compensated way more than us in the private sector” etc…

The unfunded nature makes it an expensive ongoing concern. Weighing that liability against pissing off NHS employees is a mighty headache.

Just Desserts

The NHS Pension scheme remains a significant carrot for workers in the NHS who spend a working lifetime being beaten with sticks. It’s clunky, inflexible and beats most DC schemes in terms of return – it’s guaranteed!

There’s still plenty of caveats. If you’re struggling MedFi has a five-part series with worked examples (9). They also cover factors to consider if you want to retire early (10), how to top up and buy out for early retirement (11), and what happens if you’re on extended leave or you’ve buggered off elsewhere (12). I’ve avoided all of this for sake of brevity and sanity. I’d also recommend Junior Doctor Finance for an explanatory page, plus a quick calculator (13).

The NHS Pension Scheme turns out to be like the NHS itself… monolithic, byzantine, effective. Hope this was useful, would welcome any comments below,

The Shrink

N.B. I am indebted to the Young FI Guy for some of his original post text relating to the NHS Pension and the Tapered Annual Allowance. 

References

  1. https://www.moneyadviceservice.org.uk/en/articles/transferring-out-of-a-defined-benefit-pension-scheme
  2. https://www.which.co.uk/money/pensions-and-retirement/company-pensions/public-sector-pensions-explained/nhs-pension-schemes-explained-azydt0q5t434
  3. https://www.thisismoney.co.uk/money/pensions/article-7447269/Should-join-NHS-pension-scheme.html
  4. https://www.nhsbsa.nhs.uk/member-hub/getting-estimate-your-pension
  5. https://pensions.gov.scot/nhs/your-membership/calculators/nhs-pension-calculator
  6. http://www.hscpensions.hscni.net/quick-links/calculators/
  7. https://thefireshrink.wordpress.com/2019/03/31/the-full-english-accompaniment-doctors-are-rubbish-at-pensions/
  8. https://www.moneysavingexpert.com/news/2020/03/budget-2020–threshold-for-pension-tax-relief-raised-to-p200-000/
  9. https://medfiblog.wordpress.com/2019/12/10/the-nhs-pension-i-the-basics/
  10. https://medfiblog.wordpress.com/2019/12/23/the-nhs-pension-iii-retiring-early/
  11. https://medfiblog.wordpress.com/2019/12/30/the-nhs-pension-iv-more-pension/
  12. https://medfiblog.wordpress.com/2020/01/05/the-nhs-pension-v-other-circumstances/
  13. https://www.juniordoctorfinance.co.uk/nhs-pension/